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BOECKHINVESTMENTSINC.,17501002SHERBROOKESTREETWEST,MONTREAL,QUEBEC.H3A3L6TEL.5149040551,[email protected]
VOLUME 2.5
APRIL22,2010
TheEconomyvsTheStockMarket
Theglobalfinancialmarketrallyisnowinits13th
month. Aswehavepointedout
repeatedly,ithasoccurredagainstanunsettling,uncertainandunbalancedmacroeconomic
backdrop.
Thereisanarrayofstructuralproblemsthatcouldderailtherecoveryonce
momentumfromfiscalandmonetarystimulusends.
However,slowerthanexpectedgrowth
isntnecessarilyabignegativeforinvestmentreturns.
Sustainability,liquidityflows,interest
ratesandlongtermprofitexpectationsarecrucialvariables.
Inthisletterweofferabrief
reviewofwhatwebelievewillbetheweaklinkintheU.S.recoveryandexplainhowinvestors
shouldpositionthemselvesforit.
Forecastsforthedurabilityofthisbullmarketarewildlydivergent,andwithgood
reason.
Mostsignsofrecoveryarecloudedbytheinfluenceofgovernmentstimulusand
reflationefforts.
Moreover,yearonyearcomparisonsaremisleading.Almostanythingwould
lookbetterthantheabysswewereinayearago.
However,acommonmistakemanyofthe
morebearishanalystsareguiltyof,istheassumptionthatinvestmentreturnsarepredicatedon
theirneartermassumptionsoftheGDPgrowthrate.
Intermsofthenegatives,runawaypublicsectordeficitsanddebtgrowtharethe
greatestthreats,whichwewilldiscussindetailinacomingletter.
However,thereislikelyat
leastayearortwobeforethisweighsheavilyonmarkets.
Thereasonisthatamassivefiscal
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dragislikelytohittheU.S.andothereconomiesin2011,ingoodpartfromtaxincreases.
Whileextremelynegativefromasupplysideperspective,itshouldhelpcooltheangstcoming
fromdebtprojectionsatleasttemporarily.
However,thepoliticalprocessisalwaysawildcard
whenunemploymentishigh,anditremainstobeseenwhetherthestructuraldeficitwill
actuallyshrinkonasustainablebasis.
IntheU.S.,themoreimmediatethreattotherecoveryisconsumerdeleveraging.
Housingpricesandunemploymenthavestabilized,butaquickreboundisnotinthecards.
Yearsofcreditfuelledconsumption,whichwastakentoitsultimatestageofexcessduringthe
housingbubble,willbeaslowandpainfulprocesstounwind.
Therearenoshortcuts,andgiven
thatdomesticconsumptionisresponsiblefor70%ofeconomicactivityintheU.S.,sluggish
growthseemsinevitable.
Personalconsumptionexpendituresaregrowing,althoughonlyata2%ratefromlast
year.
Retailsalesareupsubstantially,butmustbeadjustedforgovernmentincentiveswhich
havebeensuccessfulincausingabulgeincurrentspending,likelyattheexpenseoffuture
consumption.
Worryingly,consumerconfidenceremainslow,whichisareflectionofweak
incomegrowth,highstructuralunemploymentandexcessivehouseholddebtlevels.
Thisisa
grimpictureparticularlyifincomegrowthremainsanaemic.
Itisimportanttokeepinmind
thatthewealthiest20%ofAmericansareresponsiblefor65%ofconsumption,andthattheir
buyingpowerismorecloselycorrelatedwithstockmarketperformancethanwithincome.
Recentstockmarketgainshavegiventhissourceofconsumptionaboost,whilethelower
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middleclasshashadtobemorefrugal.
However,assetdrivenspendingisatwowaystreet. A
sharpbreakinthestockmarketandfurtherweaknessinhousingpricescouldcausehousehold
spendingtodryupagain.
Below,wepresentsomechartsthathighlighttheunbalancedand
artificialnatureoftherecovery.
Thecaseforaweakrecovery.....Chart1:U.S.
Residentialconstructionisstill
Chart2:Salesvolumebounced...temporarilyextremelyweak
Chart3:Structuralunemployment highest
Chart4:Sixunemployedforeveryjobopening.sincethe1930s.
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Chart5:U.S.consumersarespendingagain,but...
Chart6:Consumptionexpenditureisgrowingbutstillweak.
Chart7:Consumerconfidenceremainslow.
Chart8:Whereisthemoneycomingfrom?Notincome.
Chart9:Notborrowing.
Chart10:Answer:investmentreturnsaredrivingspendingfortheuppermiddleclass.
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Chart11:Householddeleveraging hasalongwaytogo.
Chart12:U.S.stilltooreliantondomesticconsumption.
Chart13:Exports?Thereisalwayshopebutstartingtodeteriorate.
ConclusionsDespitealloftheseworries,U.S.stockscontinuetorally,climbingtheproverbialwallof
worry.
Thishasmystifiedthebearsbecausetheyhaveunderestimatedthepowerofnearzero
interestratesandmassivenewinjectionsofcentralbankliquidityintheU.S.andelsewhere.
And,veryimportantly,theyhavenotpaidenoughattentiontothedramaticimprovementin
thecorporatesector(Seeourletter:
ReturnoftheBondVigilantes:TheGreatDilemma,
Volume2.2,February25,2010).
U.S.nonfinancialcorporationshaverarelybeeninbetter
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shape.
Thecombinationoflowcorporatenetdebtlevelsandsharplyrisingproductivitywill
likelycontinuetoproducepositiveresults.
Normallycorporateproductivitysurgesintheearly
stagesofarecovery,butitusuallyonlylastsforafewquarters.
Animportantuncertaintyfor
investorsishowlongcancorporateearningsremainstrongintheabsenceofarobustrecovery
intheglobaleconomy?
Ourtakeontheoverallsituationisthateconomicgrowthwillslowabruptlyafterthe
yearendtoperhaps2%peryear.
Butinvestorsshouldbecarefulnottoputthecartbeforethe
horse.
Thehorselowandstableshortandlongterminterestratesandplentifulliquidity
willcontinuetodoitsworktosupportassetprices.
Thekeyistohaveenoughgrowthsothat
profitscancontinuetorisebutnotsomuchgrowththatgovernmentborrowingwillcrowdout
privateborrowing,inflationrisesandtheFedandothercentralbankshavetoraiserates
significantly.
AstableU.S.dollarandtheTreasurybondmarketcontinuetobekeyU.S.
benchmarksthatwilltelluswhenthecurrentenvironmentmightturnmorehostile.
Sofar,so
good: werestillbullish,butnotcomplacent.
Tony&RobBoeckh
Date: April22,2010
www.BoeckhInvestmentLetter.com
[email protected]
*AllchartdatafromIHS/GlobalInsights,andmaynotbereproducedwithoutwrittenconsent.
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Charts:Stock Markets
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Commodities
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ExchangeRates
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InterestRates
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