Inflation Makes Economy Look Better; Stocks Soar on the News

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


Despite a number of economic reports at the beginning of the month indicating continued problems, stocks rallied strongly on September 1st. The Nikkei was up over 1% and the major European markets were up between 1% and 2%. The U.S. markets were up over 2% in morning trade.

U.S. stock futures were up strongly in the pre-market and not even an incredibly weak ADP employment report indicating a loss of private sector jobs in August could derail the rally. In a rare moment of candor, even news service coverage found the rally odd. One article stated, "The sharp jump in U.S. stock futures is surprising given the domestic economic reports due out later in the morning. Often investors don't make big bets ... heading into key economic reports, particularly in recent weeks as data has consistently showed growth is slowing." And this was before the ADP report indicated that job losses in the U.S. are accelerating again after three challenging years and despite trillions of dollars of government stimulus spending.

What supposedly started the global stock rise was 'good' news on China's manufacturing index (PMI). The official government number was 51.7 in August versus 51.2 in July. While that may seem OK, albeit rather mediocre, the details indicate big trouble on the horizon. One component of the report was disproportionately responsible for the index not falling below 50 and indicating contraction. That component was the Input Price Index, which rose from 50.4 in July to 60.5 in August. Isn't that an inflation indicator? Doesn't that mean that input prices went up around 20% in only one month? Couldn't this possibly indicate that China is on the verge of experiencing major inflation and this is masking a big drop in manufacturing activity there? Then the U.S. PMI was released at 10:30AM and it unexpectedly rose.  Of all its components, the highest number was Prices, also an inflation indicator.

In the U.S., the market was also pleased that home prices were rising.  This news however was more laughable than ominous. According to Case-Shiller, U.S. houses prices in select cities were up 4.4% in the second quarter. The entire time period included the $8,000 home-buyer tax credit. According to other sources, an increase of $8,000 in the median average U.S. home price would be about 4.4%. So what happened was the government gave homebuyers $8,000 and they then spent an average of $8,000 more to buy the same home they would have without the tax credit. This obviously didn't make real estate any more affordable, all it did was create the illusion that this was the case. It wasn't just naive and gullible homebuyers that fell for this scam either. One prominent mainstream economist commented on the data, "Even with concerns about near term developments, we recognize that the housing market is in better shape than this time last year." Home sellers of course got an extra $8,000 courtesy of the U.S. taxpayer (if you check your bank account and notice $8,000 missing, this is where the money went).

So how is it possible that stocks are having a massive rally on the above news items?  The state of the economy is not the short-term reason stocks rally or sell off. Stocks rally on liquidity. And it is obvious that central banks are injecting huge amounts of liquidity into the global financial system at the moment. The liquidity free lunch doesn't last for a long time however. It has to be paid for periodically with withdrawals of liquidity to prevent a huge inflation spike. This causes lots of volatility with stocks experiencing big price rises followed by sharp drops. We saw a lot of this in the second half of 2008 when the market went up and down like a yo-yo on crack cocaine. While this resulted in an eventual market collapse two-years ago, this is not likely to deter the Fed from continuing to play the same dangerous game again until the November 2nd election. Investors should brace themselves for a rocky market during the next two months.


Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Q2 GDP Report: 5 Important Things You Need to Know

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.


The Bureau of Economic Analysis reported today that GDP increased by 2.4% in the second quarter. First quarter GDP was revised up to 3.7%. The annual revisions for previous years indicated that the U.S economy contracted at an average annual rate of 0.2% between 2006 and 2009.

While 2.4% is in and of itself a fairly decent increase in GDP, the components that made up the increase are the key to interpreting how good it really is. To do this, it's necessary to know whether or not they are sustainable and even whether or not they are believable. Increases in some components are a negative because they ultimately lead to lower growth in the future. Inventories are the best example of this. Others, such as increased government spending are at best neutral because they don't indicate an improvement in the private economy. If spending isn't going to be increased further in the future, then this also indicates lower GDP going forward. Finally, some numbers simple don't match up with other government reports, observations of reality, or economic definitions. If they don't, they are obviously inaccurate.

So how do the GDP numbers stack up in the latest report?  Based on the official news release from the BEA, which can be found at: http://www.bea.gov/newsreleases/national/gdp/gdpnewsrelease.htm, it can be seen that:

1. Inventory increases added 1.05% to second quarter GDP. Based on the annual revision, they added 2.64% to first quarter GDP or 71% of the total increase. Inventories were also responsible for approximately two-thirds of the GDP increase in the fourth quarter of 2009. The entire economic 'recovery' has essentially been an inventory adjustment. This does not bode well for the future.

2. Government spending was up across the board in Q2. Federal spending increased by 9.2% in the second quarter versus 1.8% in the first quarter. State and local spending was up 1.3% this quarter versus a decline of 3.8% last quarter. The second quarter was when stimulus spending was at its maximum. So expect less of a contribution from government spending to future GDP and lower numbers as a result.

3. The most obvious fantasy figures in the report was the new home construction figure. This supposedly increased by a whopping 27.9%, even though the Commerce Department's New Residential Structures report (more commonly known as new home sales) indicated a 6% decline quarter to quarter and an 8% decline year over year. Nor is there any evidence of a massive increase in new home inventories or any real world evidence indicating a huge building boom. This number is impossible.

4. Somewhat suspicious is the increase in investment on business structures (commercial real estate). This was up for the first time since Q3 2008. The big increase in banks going under that is currently taking place is being caused by commercial loans going bad, yet commercial construction is now on an upswing? Perhaps work on the BP oil spill juiced up this number. Interestingly, the UK also reported a huge increase in construction spending last quarter as well, although there is little evidence of much construction going on there. BP is headquartered in the UK, but it spent its money to handle the oil spill in the U.S.

5. The most ridiculous claim of all was the revised figures for 2008 GDP. Based on original reports, GDP increased by almost 3% in 2008, a very good rate, even though it is universally acknowledge that the U.S. was experiencing the worst economic downturn since the 1930s Great Depression. GDP is supposed to decrease during a recession, not go up. In the revision in July 2009, GDP for 2008 was revised downward to plus 0.4%. In the current revision, GDP growth for 2008 is now listed as 0%. Perhaps after another 15 to 20 revisions it will get to a more reasonable number. The history of 2008 GDP indicates the U.S. can overstate its GDP by a total of 6% to 9% in its initial reporting. Keep that in mind when you read that GDP was up 2.4% last quarter.


Disclosure: No positions.

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

U.S. Interest Rates Go Negative Again

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

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At one point on November 19th, the yield on a new 3-month T-bill fell to 0.005%. A rational person would think you couldn't go lower than that, but a rational person would be wrong. The yield on 3-month bills maturing in January 2010 briefly turned negative. This was not the first time in recent history. It happened last year on December 9th, 2008 at the bottom of the Credit Crisis - or at least what has perceived to be the bottom so far. A 3-month T-bill auction on that date had a high bid equivalent of 0.000%. Apparently not everyone got in at that great rate.

Interest rates below zero are theoretically impossible. After all why not just keep the cash instead of settling for less money after a period of time? They do happen in the real world however and are an indication of extreme risk aversion on the part of banks. They are a marker of severe financial crisis. Before the current Credit Crisis, T-bill yields were only negative in the U.S. in 1940, after years of financial stress from the Great Depression. The auction low for T-bills was 0.01% in January of that year. Rates apparently went negative because of punitive property taxes imposed by a number of U.S. states. T-bills were not taxable and investors kept more of their money by taking a slight loss on T-bills than if they had paid the tax. No such special circumstances exist today to justify negative interest rates. The explanation for current negative rates is that banks are loading up on short term government instruments to improve the appearance of their year-end balance sheets.

Negative interest rates also took place in Japan during their current 19-year (and counting) financial debacle. Short-term interbank lending had a negative return one weekend in January 2003. As was the case in the U.S. during 1940, years of severe financial stress preceded this event. In Japan's case there were a series of rolling recessions - the modern version of depression thanks to government's now common practice of continual economic stimulus programs. There have been other cases of negative interest rates, however these seem to have been utilized (usually officially by the government) as a type of currency control. Switzerland imposed negative interest rates during 1970s after years of appreciation of the franc for instance, but only for foreign depositors.

The appearance of negative interest rates after a long period of financial stress raises the question of when economic problems actually began in the United States. It is reasonable to assume that they started long before the awareness of the Credit Crisis in 2007. Interest rate anomalies may have in fact already existed in 2003. While it is not generally known, between August to November some U.S. government repurchase agreements had negative rates. There is more than enough evidence to indicate that recessionary period actually began in the U.S. in 2000. Manipulated inflation rates and GDP calculations hid the details from the public. The U.S. government, businesses, and consumers lived off ever-increasing borrowing which made up for declining income. The Credit Crisis was merely the unraveling of this scheme, not when the financial problems started. The return of negative rate indicates a deeply entrenched problem within the U.S. financial system - and it doesn't look like it has been fixed yet.

Disclosure: No position in T-bills.

NEXT: For Gold, Overbought Means Overgood

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Economic Predictions for 2009

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:


Last night in its December 4th meeting, the New York Investing meetup released its economic predictions for 2009. The talk began with a review of the 2008 predictions made at the Dec 12, 2007 meeting and published on the website that day (can be found in the file section in the file, "Japan 1992, U.S. 2007", see: http://investing.meetup.com/21/files). All the predictions made for 2008 were accurate at least to some degree, with the prediction of recession and and government bailouts for financial institutions being particularly spot on. If the 2009 predictions are equally accurate, it's going to be a very rough year.

It is our belief that the economy next year will descend from recession to depression (this is no official declaration for depressions as there is for recessions). As part of that scenario, unemployment is likely to rise toward and possibly into the double digits (depends on how much the government fudges the figures). Bankruptcies will increase dramatically, particularly for retailers, auto related companies (suppliers, dealers, etc.), home builders, and small businesses and individuals. Shrinking consumer credit and rising defaults on credits cards will continue to damage the economy. The real estate sector will not recover and the commercial component will suffer more than the residential. The bailout for banks and brokers will continue and additional money will be have to pumped into the failing institutions that have already received government money. Bailouts are likely to be needed for big players, like Morgan Stanley, Goldman Sachs, Bank America, and General Electric. Failures of small and medium banks will rise.

The U.S. government will react to this economic deterioration in 2009 by lowering interest rates even further, essentially instituting ZIRP (zero interest rate policy), and by ballooning the deficit and the national debt. Bailouts will expand beyond companies to states and municipalities. Some municipal bonds are likely to default if not propped up as well. The feds are going to have to support money market funds again next year, just as they have done twice so far in 2008. They may have to bail out the market system itself with the possibility of an exchange failing (there have been rumors of trouble at COMEX for some time now). In general, there will be some shift toward bailouts being focused on programs that help individuals rather than corporations, which received over 95% of bailout money in 2008.

Things don't look any better on the International front either. 2009 will be the year of global recession, with simultaneous recessions in the U.S., the Eurozone, Great Britain, Japan, Australia and a number of emerging economies. China will be in danger of political instability because of contraction in its manufacturing sector. Countries that export a lot to China, such as Japan and Korea and commodity producers such as Brazil will see damage to their own economics because of China's problems. In Europe, it looks like Great Britain will be the hardest hit of the major countries. Some smaller countries, such as the Ukraine, Hungary, Romania, Latvia and Estonia could see their economies implode just as happened in Iceland this fall. Overall, the rest of the world will react to the economic crisis by lowering interest rates and 'printing' large amounts of money just as we will be doing in the U.S.

While things look dire on a number of fronts, that doesn't mean there aren't many ways to make money in the current environment. People tend to focus too much on the risks in such scenarios, instead of the opportunities. The bigger the crisis, the bigger the opportunity should always be kept in mind. Winners always keep both in balance and keep an eye out for profitable investments when others are too worried or too fearful to do so.

The notes for the talk can be found at: http://investing.newyork.com/21/files in the file, "Economic Predictions for 2009".

NEXT: Brother, Can You Spare a Job?

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.

Landslide Elections and the U.S. Stock Market

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. In addition to the term helicopter economics, we have also coined the term, helicopternomics, to describe the current monetary and fiscal policies of the U.S. government and to update the old-fashioned term wheelbarrow economics.

Our Video Related to this Blog:

There seem to be only two things that Americans voters will not forgive their politicians for. In the case of the President it is a failed economy, which led to a Democratic landslide in 1932 and a Republican landslide in 1980. While congressional voting is strongly affected by the economy as well, there is an additional factor of failing to deliver on a political party's core promises. When the Democrats couldn't pass a health care bill (something they had campaigned on for almost 50 years) in 1993, the voters turned on them en mass. This year, there is not only economic turmoil going into the election, but many Republicans in congress abandoned one of their party's most fundamental principals, fiscal conservatism, by supporting the Wall Street bailout bill. Conditions are ripe for a major political shift.

Presidential landslides are usually preceded by shifts in Congress two years earlier. In 1930, the Republicans, who had totally controlled Washington for the proceeding 10 years, lost 52 House seats and 8 Senate seats as the economy started to fall headlong into the Depression. Even with these losses, Republicans still had slight control of the U.S. senate and only lost their majority in the House after further defeats in special elections. While the U.S. economy was allegedly in good shape in 2006 (at least according to the official highly manipulated government figures), Republicans lost 30 House seats and 6 Senate seats in the election that year. This gave Democrats solid control of the House and a bare majority in the senate.

As bad as 1930 was for the Republicans, it was nothing like the political bloodbath that followed in 1932 when they lost 101 seats in the House and 12 seats in the senate. Best guesstimates as of now is that Democrats will pick up another 30 House seats this November. Interestingly, as many as 12 senate seats could also shift from Republican to Democratic hands this year, although the Democrats would only need 9 seats to have a filibuster proof majority. There is probably a slightly less than 50% chance of this happening, so it isn't a done deal yet. Wall Street would not react positively to this outcome and it has almost certainly not been factored into stock prices as of yet.

As for the Presidential election, Obama is clearly ahead of McCain and some perennial Republican strongholds like Indiana, North Carolina, North Dakota, and Virginia may go his way in addition to almost every swing state. Obama has the advantage in ad spending and field operations. Most polls show him way ahead in the race. While there are a few that don't, closer examination of them reveal that they are as statistically suspect as the U.S. governments inflation and GDP figures.

So what has a major political shift said about the prospects for the U.S. stock market in the past? The stock market actually bottomed before the 1932 election and entered a multi-year rally period after FDR's inauguration in March. In 1980, Regan was elected while a recession was already underway (as is the case in 2008) and another recession immediately followed that one.
Two years later though, U.S. stocks started an 18 year secular bull market. Generally, things have to be very bad economically for there to be a large change in the previous U.S. political balance. By the time this happens, the worst is likely to be over soon thereafter.

NEXT: Start Looking for Capitulation

Daryl Montgomery
Organizer, New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.