October 31, 2009

Market Insights - 31 October 2009

Dear Friends & Fellow Investors

Here is the latest issue of market insights.  We are taking a break in November but will be back with a new issue by mid-November.  For any questions, please email: .  Enjoy reading!

In This Week's Issue
▪   Weekly Snapshot
▪   Chart Of The Week
▪   Thoughts On The Economy 
▪   Real Estate 101 
▪   More On Property
▪   More Jobs
▪   The Dollar Isn't Doomed
▪   Happy Halloween

Weekly Snapshot
• Average US Retail gas price at $2.70 per gallon, highest in a year (AP)
• Euro area unemployment up to 9.7% (Eurostat)
• US consumer sentiment index for October slipped to 70.6 from 73.5 in September (Reuters)
• US GDP increased at an annual rate of 3.5% in the third quarter of 2009 (ESA)
• Norway first European country to raise interest rates since financial crisis (FT)
• Britain’s economy contracted by 0.4% in the third quarter of 2009 (Economist)
• US New home sales in September 2009 declined 3.6% from August, to 402,000 (ESA)
• US durable goods in September increased 1.0%, to $165.7 billion (ESA)
• A maximum Euro/US$ rate of $1.55 is a critical pain threshold for German exporters (FT Deutschland)
• ING Bank agreed to EU demands to sell its insurance units to secure approval for its bailout (Bloomberg)
• US consumer confidence at 47.7 (1985=100), down from 53.4 in September (Conference Board)
• Home prices rise for the third straight month in August (AP)

Chart Of The Week  
A good overview of consumer confidence in various countries.


Source: http://blog.nielsen.com/

Thoughts on the Economy
US Equities rallied on Thursday after the announcement that GDP grew 3.5% in the third quarter.  So much for the worst recession since the Great Depression - or is it?

Friday came around taking back all the gains and more as the market apparently wasn't buying it quite yet.  After the initial cheers on Thursday the mood was dampened by another decrease in consumer sentiment.  But investors also realized that much of the GDP gains came from the cash-for-clunkers program (car buying incentive), the $8,000 tax credit for new home buyers and obviously the bulk of the 12 figure stimulus package to support the financial and banking industry. With this much stimulus pouring into the economy, no surprise that it is showing some upside now.  Remember, this is no longer a free-market economy but much closer to a control economy that has stimulus levers written all over.

While the majority of economists probably agree that the worst is over the debate has now changed to the question of the shape of the recovery.  Is it a V or a U shape? I would leave that debate to the economists and instead examine some of the concepts of the stimulus efforts. 

Let's assume for a moment that everyone agrees on the need for stimulus and let's also assume that the amounts of stimulus are agreed upon.  What remains is simply where to put stimulus to work. In terms of the stimulus efforts by the US government, I have a conceptual problem with the idea that a recovery should be based on housing.  Haven't we learned that the concept of a home as an ATM machine is flawed?  Instead, any sustainable recovery should come from efforts to create more jobs by giving incentives for productive capacity.  Innovation must be a driver and efforts to improve education, specifically in areas of sciences, would make sense.  If the US wants an educated work force, the country must promote educational efforts domestically.  Exporting education, technology and business intelligence overseas or worse even, outsourcing all the above is not the answer. 

In terms of housing, one must understand that, aside from the utility of owning a home for shelter, the house itself (not the land) is actually a depreciating asset, much like a car.  A house is prone to entropy and needs to be maintained; otherwise it falls apart.  Any home owner should know that.  If more people buy depreciating assets, how should that lead to sustainable economic growth? 

Real Estate 101
One may not agree with some of Peter Schiff's political views or some of his controversial predictions but he has a cunning ability to put clarity into some foggy financial concepts. Your realtor friends may hate you after you viewed this, but it's an important reminder of the basic concepts of real estate.  Enjoy!

More On Property  
With Peter Schiff's video in mind, property prices may not be quite as relevant any longer.  But let's examine the chart below anyway and just consider housing prices from a simple perspective of potentially matching inflation.  To assess whether the current home prices are sensible from the perspective of matching inflation, you can use this Inflation Calculator.

US Home Prices

A general price level of 100 in the year 2000 would result in a price of 125.42 in 2009 if accounted for inflation.  On that basis, housing prices are still doing well outperforming inflation by about 20% or about 2.2% annually.  We have not assessed how that compares within a longer historical perspective, but should one not consider that housing prices could potentially fall another 20% to then be in line with inflation?  On that basis, how can lenders including government entities like the Federal Housing Authority fathom that a 3% down payment is sufficient to account for potential downside risk?

More Jobs  
The economic outlook has improved, global stock markets have come back and emerging markets have been leading the way towards a recovery, although the shape of which is still up for grabs.  Any sustainable recovery however, particularly in consumer driven economies like the US, must be on the back of job growth.  As the chart below illustrates, many countries still have a long way to go.


The Euro area (EA16) consists of Belgium, Germany, Ireland, Greece, Spain, France, Italy, Cyprus, Luxembourg, Malta, the Netherlands, Austria, Portugal, Slovenia, Slovakia and Finland.  The EU27 includes Belgium (BE), Bulgaria (BG), the Czech Republic (CZ), Denmark (DK), Germany (DE), Estonia (EE), Ireland (IE), Greece (EL), Spain (ES), France (FR), Italy (IT), Cyprus (CY), Latvia (LV), Lithuania (LT), Luxembourg (LU), Hungary (HU), Malta (MT), the Netherlands (NL), Austria (AT), Poland (PL), Portugal (PT), Romania (RO), Slovenia (SI), Slovakia (SK), Finland (FI), Sweden (SE) and the United Kingdom (UK).

The Dollar Isn't Doomed  
Martin Wolf, the chief economics commentator at The Financial Times, has been in the business of assessing global economic trends for several decades and he is one of the most highly respected economic journalists.  It is with a typical sense of British understatement that he assess some of the claims of the Dollar falling to zero.  And yet, as he suggests with a rather assertive "BUT", the Dollar value has been influenced by 1) a reversal of the trend towards the illusive flight to safety and 2) the fact that the US$ is a long-term decline that has begun in 2000 (Ed. Note: some consider the long-term decline to have started in the early 70's when Bretton Woods was abandoned and currency exchange rates were allowed to freely float). 

So the Dollar won't fall to zero, we can all relax now; and yet, as long as the interest rate differential between the US and other countries still ends itself to carry trades, as we discussed at length, the pressure on the US Dollar remains despite temporary respites.  Only when US rates will climb would there be a possibility of big demand pull for the Dollar.  Please consider the full interview with some very insightful views by this highly respected market commentator.

Happy Halloween
Just in time for Halloween, please consider Midnight Candles, a seriously spooky investment outlook by Pimco's Bill Gross.

Happy Halloween!

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