|
Financial Sense Home l Market Monitor l Market WrapUp l Storm Watch l About Us l Contact Us |
|||||
A WALK PAST 1994 MEMORY LANE
The Fed has relied upon three absurd reasons repeatedly to justify permitting (in our best interest) continued artificially low interest rates: weak job growth, unused manufacturing capacity, and low consumer price inflation. Continue the present course, and all three green light signals will grow greener, yet the real economy will suffer even greater damage. The deterioration of the real economy, with its attendant signals of poor health, are being exploited by our banking leaders to promote and perpetuate continued easy money policies which benefit the financial sector and inflict even greater further harm on the real economy, where things are built, mined, grown, or serviced. These false signals are not directed to professionals; they are intended for naïve public consumption, and indeed are eagerly gobbled up. The public is seemingly incapable of discerning that two separate economies exist, one tangible and one financial. Nowhere is the link more critical than in real estate, and its associated businesses. Weak job growth has come from uncompetitive industries (amidst high labor costs, high health care costs, high corporate taxes, high USDollar exchange rate), poor pricing power for end products (amidst domestic oversupply and cheaper Asian import), and outsourcing of service functions (amidst relentless Asian competition to exploit labor costs one to two orders of magnitude lower). Grant more cheap money, and industries within the real economy must endure more marginal stress, since the speculation using new so-called money results in higher material and energy costs. Production costs under the weight of higher Asian demand (sourced from US inflation machinery) will continue to rise as the US$ declines further. Manufacturing capacity utilization is low from abandoned plant & equipment, as much as from obsolete business investment tied to overpriced domestic cost structures. Grant more cheap money, and competitiveness might be restored, but only after another 50% decline in the USDollar and wages, apart from rising health costs. Until that time, which is perhaps years away, US firms will be pressured to outsource to China and India even more, where costs are lower. Only if pricing power is restored will hiring occur for domestic workers. China enforces pricing power, and may have begun the process with higher passed on costs in end product prices. Wall Street and the USGovt depend on the credibility of such patently ridiculous numbers to sell debt and justify stock valuations. The public can see the prices of homes, gasoline, medical care, and food very easily. Businesses can see the prices of energy, industrial metals (such as copper, nickel), steel, and scrap items. Shippers can see vastly higher prices. Low consumer price inflation is a pure fiction foisted upon the public, who do not believe it. Only the financial centers pay heed to such utterly absurd CPI statistics. Grant more cheap money, and consumer price inflation will work its way over time, again and again, eventually to accelerate in force beyond its current 7 to 10% range. One glaring result of current policy has been rising producer prices, as seen in the PPI, which outpace the CPI. Profit margins are being squeezed, the opposite of what occurred ten years ago, when consumer prices rose more quickly than production costs. MEGATREND CHANGES SINCE 1994 As the bond market wrestles with the impact of higher interest rates, the public is again being nursefed the spoiled milk of faulty information. We hear of favorable comparisons to 1994, when a bond revolt delivered massive damage to Wall Street. The 1970 decade witnessed a massive bond bear market, marked by the Nixon Wage Price freeze aftermath, OPEC oil price quadruple, and intentional Fed reflation. The only reason we might avoid considerably higher interest rates in double quick fashion could be that slightly higher interest rates might indeed have an amplified damper effect to slow the US Economy. The economy shares its amplified dependence upon low interest rates with the financial markets. Stock indexes and sector indexes offer up plain evidence of reaction to higher rates, seen this spring. In the real economy, higher debt levels make continued spending more difficult. The current financial climate resembles 1994 no more than a lie resembles the truth, or night reflects day. No more than ….
A major difference among the three past recessions centers on residential real estate. In the early 1980 decade, housing fell backwards by its typical 10-15% in price. In the early 1990 decade, housing fell again by 10-15% in price. Here is the difference. Housing was prepared to fall as an after shock of the 2000 stock bust. But Chairman Greenspan urged the mortgage rates lower, and paved the way for a real estate bull market. Whether intended or not, the Secy of Inflation invited the bull to run among bonds, boasted of the bull, and now desperately feeds the bull. The alternative official label is “housing bubble.” Single-minded focus upon monthly carrying cost for house sales and refinances spawned the greatest mortgage bubble in modern history. Extremely dependent on housing values, home equity extraction, and the all-important sense of wealth, consumer spending is now at serious risk. The 1994 year identified the initial stage of a powerful trend. Mega-trends were underway, with declining interest rates about to begin. Corporate borrowing costs were reduced, perhaps the largest factor behind the decade of supposed prosperity. The USDollar began a powerful bull market, in the absence of any credible or significant European currency. The US Economy fully exploited the rising US$, by sending manufacturing offshore to Asia. All manner of imported components, finished goods, and raw materials were kept low in price. The rising currency and falling commodity prices made for the second largest factor behind the 1990 decade of prosperity. Now, in the current climate, all mega-trends are in reverse. The US$ is in decline, so the endless list of imported goods cost more. Interest rates are on the rise, so all borrowing costs are higher. Profit margins are being squeezed, owing to production costs rising faster than end product prices. To claim the current situation is manageable compared to 1994, or no more dangerous, is a bold piece of inept, incompetent, and irresponsible analysis. The claim is a bald faced lie in a tough sales pitch climate Other factors have seriously worsened today’s situation. US households are much deeper in debt. National debt and housing mortgage finance are much more dependent upon Asia for credit supply. Lastly, the refinance cashout phenomenon has in effect ended. It has been replaced by home equity loan financing, which unfortunately is subject to rising short-term interest rates. Consumer spending is at risk. THE DEBT HOUSE FACES GALE FORCE WINDS Let pictures tell the story. The current business environment bears little or no resemblance to the 1994 days of yore. View the data which offers comparisons for household finances, housing values (i.e. available home equity to burn), corporate factors, national accounts, and foreign involvement (i.e. dependence). Make your own conclusions.
Households are incredibly stretched, compared to a decade ago. Debts are higher, relative to income, but worse, the proportion of debt exposed to higher borrowing costs has grown dramatically, from 14% to 24% in the last ten years. As rates rise, they will feel a pinch on credit cards and home equity loans. The economic recovery has been built upon monumental household debt, now made vulnerable to rising rates. Subprime mortgages are more than twice as prevalent as in 1994, now at 9.5% of all mortgages. Personal bankruptcies have almost doubled, going from 4 per ten thousand adults to 7.2 per 10k adults in a period of supposed recovery. While housing finance receives much attention, few focus on car finance. Over 35% of new car purchases involve an upside down loan on the trade-in. The existing balance on the car traded exceeds its value in one third of cases, but it typically buried in the new car loan. The result is immediate upside side down status in that new loan. For an economy whose recovery is built upon credit and consumer spending, vulnerability is rampant, as households are indeed very stretched. No pent-up demand is evident for either housing or cars. It may be more appropriately described as “spent-up demand.”
The residential housing bubble can be quantified at the national level. First, homeowners command a somewhat smaller share of home equity than in 1994. Such a statistic can be deceiving, since roughly one third of homeowners own their home outright, free & clear. Thus, the nation has a lot of owners who possess a small portion of home equity. Two measures are offered which address home valuation. In the spirit of a stock price-earnings ratio, one can calculate a national housing valuation ratio with respect to disposable income. The national housing PE ratio has gone from 145% in 1994 to 182% today. More importantly, the current housing PE is fully 20% higher than the previous peak seen in 1988. On a related inbred income measure, housing has far outpaced rental income, having gone from 100x rental income in 1994 to 123x current rental income today. A distortion has given a giant assist to the Consumer Price Index, which pays attention to suppressed rents but ignores housing prices. In one way or another, strong housing values have supported consumer spending, whether on discretionary frivolous nature, or on necessities. If housing values stall or go into decline, then consumer spending is at risk.
Corporations are under great strain from rising production costs generally. The PPI crude goods index has risen from 103 in the year 1994, to 158 today. However, it is up approximately 50% in just the last 2-1/2 years, and up over 23% in the last 12 months. The PPI Crude Index was at 96 in January 2002, at 117 in January 2003, and at 140 in January 2004. Claims of tame price inflation are laughable in the face of these figures. Corporate debt levels have increased year in, year out, from 64% to 75% of US GDP. The corporate debt data fails to reveal the heightened trend toward corporate interest rate swaps abuse. Whereas homeowners have left themselves exposed to higher rates by means of credit cards and home equity loans, businesses have done the same with interest rate swap contracts. They expose their debts on balance sheets to short-term rates, and save money in the process, until rates rise. Corporate spending is sure to be stressed from rising debt and production costs. Until pricing power returns for end products, business investment and hiring are at risk.
Our national financial accounts are in miserable shape, compared to ten years ago. The trade gap is five times greater, having grown from the $100 billion annual range to about $500 billion today. Money supply has exploded since Chairman Greenspan abandoned his own warnings about irrational exuberance in 1996, and in effect transformed the Fed into an inflation generating agency which spews out both speculative money and new debt. Over the last eight years, the trade gap has grown without control. Our economic growth has been exposed as built upon a foundation of debt and spending on imported products, whether raw materials or finished goods. In order to contain the risk of huge debts and low rates, banks have increased derivatives four-fold. Leverage exists in our financial system in order to contain the interest rate risk. Is leveraged risk offset a sign of sophistication, as officials claim? Or has it grown far too excessive with speculation? Are counterparties at equal risk? Is the sense of financial security unjustified, due to the nature of offloaded risk and counterparty residing within the same large system? Or will it all backfire?
Our foreign obligations are growing out of control. US investments owned by foreign entities have grown, as a proportion of US GDP, from 18.5% in 1994 to 45% today. In ten years, as the financial sector has become a more dominant engine within the US Economy, foreigners have been led and seen fit to invest in the intangible assets, of financial variety. As a percentage of net foreign asset holdings, foreigners now own 68% in the form of financial assets, up from 47% in 1994. However, the rate of change has exploded in recent quarters. In an attempt to prevent the USDollar from descending to its proper value, foreign central banks in Asia have purchased US Treasurys on a grand scale which shows up in statistics which the USGovt cannot distort. Over the past decade, the US Economy has diminished as a place for foreigners to invest directly in businesses. Our cost structures have been inflated on a chronic basis. All the while, foreigners have pulled back in their direct investment in our country by almost half, from 52% to 30%. Is foreign dependence a virtuous sign, as officials claim? Europeans lost 20% on their Treasury Note investments in the last year. Will rising Asian currencys and rising US interest rates lead Asians to reduce their appetite for continued Treasury support? Will they hasten any diversification? Will they begin to sell outright, in order to satisfy credit demands for Asian regional growth? Or will it all backfire? CLAIMS OF FAVORABLE COMPARISONS TO 1994 ARE UTTERLY LAUGHABLE. IT IS DIFFERENT THIS TIME, AN ORDER OF MAGNITUDE MORE DANGEROUS. THE US ECONOMY IS EXTREMELY VULNERABLE TO HIGHER INTEREST RATES. A FACTOR TO KEEP INTEREST RATES DOWN IS A SLOWER REAL ECONOMY. TIME WILL TELL HOW SIMILAR THE UPCOMING STAGFLATION WILL BE TO 1978. NEWS TIDBITS Markets look forward to the FOMC meeting and monetary decisions on interest rates to be announced on Wednesday. Consumer spending rose 1.0% in May. Personal income rose a smaller amount, by 0.6%. Personal Consumption Expenditures (PCE), the GDP deflator index, rose 0.5% in May, whereas the core rose by 0.2%, very consistent with the equally distorted CPI. Most inflation indexes measure the real economy, while most inflation occurs in the financial economy. An under-reported inflation rate serves to distort economic growth, which results in an incorrectly high cited GDP rate. WalMart retail sales for June were guided lower, to the 2 to 4% range. Blame was directed toward softer Father’s Day sales, and cooler weather than normal. A disparity exists, where the Commerce Dept reports strong consumer spending, yet the nation’s largest retailer reports slowing retail sales. Amgen reported its experimental drug to treat Parkinson's disease failed to prove effective in a mid-stage trial. Irish drug maker Elan and US partner Biogen Idec reported that US regulators gave their experimental drug Antegren priority review (i.e. fast track) for the treatment of multiple sclerosis. Drugmaker Bristol Myers Squibb reported it will boost its liability reserves by $400 million as the result of an inventory scandal in which the company artificially inflated its earnings between 1999 and 2001. Health insurance providers Anthem and WellPoint Health Networks reported that their shareholders overwhelmingly approved Anthem's $16.5 billion bid to buy WellPoint. Shares of Titan dropped over 6% after US defense contractor Lockheed Martin called off its planned acquisition of the information technology provider. Titan had not resolved a federal bribery investigation by a Friday deadline. Ford Motor and auto parts maker Visteon are offering $35,000 to hundreds of older, higher-wage hourly workers to retire early in an effort to cut costs. The Daimler Chrysler stake in Mitsubishi Motors will fall to between 20 to 25 percent once its Japanese ally wraps up a capital injection. The German-American car maker owned 37% before opting in April not to take part in the rescue plan for struggling Mitsubishi. General Motors CEO Lutz reports slow June car sales. USGovt officials will accept no further submissions on the appeal. The European Union courts temporarily suspended continental Microsoft sanctions, which would have ordered the removal of the media player from the Windows operating system. As in the past, this permits continued monopolistic behavior to persist during litigation. An Arizona judge gave preliminary approval to a class action antitrust settlement whereby Microsoft offers $104 million in vouchers to Arizona consumers. Tobacco company shares (led by RJR and Altria) responded favorably after the judge in the USGovt suit against major cigarette makers agreed to allow an appeals court to review a recent decision. Cigarette makers are at risk to give up profits they earned in the past. The US Air Transportation Stabilization Board rejected the United Airlines bid for a $1.6 billion federal loan guarantee. Iraqi oil production of 2 million barrels per day has resumed in the southern Basra region following recent attacks and online flow disruption. Norwegian leaders ordered an end to the North Sea oil platform worker strike. Crude oil price dropped over $1 per barrel. In the last two weeks, gasoline prices dropped 6.7 cents on average to $1.94 per gallon. Two days early, Iraqi govt sovereignty was handed over to interim prime minister Ayad Allawi and the ruling council, which excludes any Kurdish representation. Mediator Paul Bremer left the country after the sworn session to formally hand over power. US Troops will remain on the ground, with 150,000 planned to remain. Contractors and US Military personnel are given immunity from certain prosecution. John Negroponte, the new US ambassador to Iraq, has arrived in Baghdad. Elections are planned for next January. Custody for Saddam Hussein has been given to Iraqi authorities, whether legal or physical is unknown. The Wall Street Journal characterized the early maneuver as "an apparent bid to surprise insurgents who may have tried to sabotage the step toward self rule." Word had filtered down that major violent attacks were planned in the next couple days. The hope is that any terrorist attacks now will be viewed by the Iraqi people as an attack on THEIR government and THEIR authority, and will thus meet with strong popular resistance. USGovt has offered a $10 million bounty for the capture of Shiite insurgent leader Zarqawi who has operated out of the triangle. NATO summit meeting resulted in a decision to assist Iraqi security force training, and to send 10 thousand peace keeping troops to Afghanistan, far fewer than what was requested. Three Turkish workers, one Pakistani contractor, and one US Marine of Lebanese descent were abducted by armed militia who threaten more beheadings. The line has been crossed, whereby cooperating Moslems have now become targets. Halliburton has lost 41 contract workers in violent deaths. The Supreme Court has ruled that the US Military has the right to detain combatants, but Al Qaeda detainees held in Guantanamo can challenge their incarceration. Nationwide, a CNN/ USA Today/ Gallup poll reveals 75% of the American public favors the power transfer in Iraq, but 60% believe the power handover is evidence of failed policy. The Michael Moore documentary film “Fahrenheit 911” took the #1 movie spot with $21.8 million in box office revenue, which in one weekend topped receipts for “Bowling for Columbine” over its full nine months. “F911” only appeared at one third of cinema sites, and is the first documentary film ever to lead in film revenue. Cal State Fullerton defeated Univ of Texas in the college baseball world series. New York Yankee pitcher José Cantrero was reunited with his family, who escaped from Cuba. Fast motorboats played a key role. TODAY’S MARKET Today the Dow Jones Industrials erased a 92 pt gain and wrapped up at 10,357 (-14), S&P at 1133 (-0.8), Nasdaq at 2020 (-6), TENS yield 4.74% (+9.4 bpt). Currencies closed with Euro at 121.70 (+0.29), JYen at 92.89 (-0.28), Can$ at 74.29 (+0.28). Metals finished with gold at 401.3 (-2.0), silver at 590.6 (unch), copper at 121.05 (-0.25). Energy ended with crude oil at 36.20 (-1.35) on more Iraqi oil coming online, natural gas at 619.0 (-20.2), unleaded gasoline at 113.6 (-6.3). Prices are at major futures contracts. Jim Willie CB
|
|||||
|
Home l Broadcast l Market Monitor l Storm Watch l Sitemap l About Us l Contact Us |
The
public and investment community is being fed a lot of sales pitch hooey
in the last couple months concerning inflation. While the CPI index
shows rising but hardly disturbing evidence of price inflation, Chairman
Greenspan has spent a considerable amount of time and effort making
speeches to convince the investment community of dedication to act
vigorously in the halt of either price inflation (already here) or
overheated economic growth (not likely). The Fed is running scared. We
the people are not being administered to by public officials; we are
being lied to, managed, and controlled. A disconnect exists between govt
statistics and our world.
