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July 28, 2009
Hello to all. I haven’t written in a while and with the all important month of August ahead of us, it’s time for a concise view on what is going on (all the views here are my own and absolutely nobody else’s). Remember that August the last 2 years was when people were called off the beach and back into the trading rooms and executive offices. This year you can likely stay at the beach. I very much wish I put these charts together a few months ago, but C'est la vie.
Simply put, the rally was initially caused by the fear-squeeze that led into a short-squeeze and now earnings are making believers of naysayers, or some of them. And it always has been earnings. The below chart used to be one of my favorites so let’s reexamine:
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Profits lead and stocks follow. Even though cost-cutting is the paramount reason for profits at the moment, the bottom line doesn't care. It doesn't discriminate and the correlation is quite tight at the moment. Shame on those that didn't believe in this correlation not long ago. To repeat, the correlation is still pretty tight between profits and stock prices and companies are in business to produce profits. We'll rebound.
So although we're all gearing up for the next Friday's employment report, this Friday's Q2 GDP report will certainly be worth some digging into. Many will say that the second chart is obvious as well, but that's the point. Are stocks expensive? Yes if we head back into recession, but is that you're expectations? We've seen the economy contract but not the behavior of the US economy and we'll touch up on that later. Are stocks cheap and should you be an aggressive buyer here? If you believe in the rosy Fed forecasts then you should be buying.
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Investors that had followed these simple correlations on the charts attached would have outperformed other investors quite handsomely.
This leads us to these US / China talks and the behavior of the US economy. They are extremely important but from the US’s point of view the only surprise that can happen is a negative surprise, meaning if China has lost interest in our story. And why wouldn’t they? The US consumer is still king. Geithner’s talk about a new economy and new policies is rubbish. Back in Q2 of 2007 the consumer was 70% of the US economy. The Dow Jones was just shy of 14k and would continue well above 14k despite negative GDP readings ((a: something about efficiency? b: divergence is an analysts best friend, technical or fundamental)). Today we all know where stocks are and yet the consumer is still the exact same proportion of the economy, 70%. You'd think that after what we just went through somebody somewhere might suggest a little less reliance on the same 'ole, same 'ole! With the unemployment level much higher, tax rates higher and headed even higher, there is no doubt that the Chinese should be worried about their investments.
Some say that China is the new global engine of growth. I simply don’t believe that. The locals don’t know where to put their savings; it goes from one gamble (the stock market) to another (real estate). Simply put until they have a real bond market and spend more, a generation or two away, I’m not a believer that the economic compass has changed. China’s stats of course are extremely difficult to examine, especially with the Hong Kong re-exporting going on, but if you look at US exports, they are down 30% since last August, nearly all of which is goods related (not services). Although we don’t produce much of what China wants our goods exports should show more resiliency than down a whopping 30% if someone else was the world economic leader.
Speaking of making believers, have you noticed how crowded the local tourist spots are this year? Obviously fewer far-away destinations for many, bad for airlines, but good for that local economy. How supportive will they be to hotels, restaurants, bars and local retailers? As we all know the unemployment rate is, call it 10%, but headed to 12%? Plus another 3% that are back in the labor force but looking aggressively for work more suited to their skills and prior pay levels. So realistically it’s around 15%. Tax revenues have obviously suffered as through June tax receipts at the Treasury were down over 22% from a year ago. In 2002 they bottomed at a 20.6% loss of revenue, so even if we slip a bit more, any marginal upward change in expectations for jobs is going to be met with aggression buying in the stock market.
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Given the negativity and the depressed stock levels one would have thought that the individual tax withholdig receipts at the Treasury would be off more, but they are not.
No doubt it won't be a straight line from here and the rest of the year may be a trader's paradise, but whether or not we're at the economic bottom may be easier to spot than we first thought.
Look for this to be sent out occasionally until, well you know until what.
Tim
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