Global Economy is Firing on All Cylinders
Economics / Economic Recovery Nov 02, 2009 - 05:43 AM GMTBy: Money_Morning
Jon D. Markman writes: What a difference 12 months can make.
Just one year after every national economy on earth was in deep trouble, a powerful global rebound is underway. In fact, the global upswing is a lot stronger than most investors realize.
So don’t let a few days’ decline here and there cause you to lose sight of one of the most important investing trends investors will find today.
According to ISI Group researchers, the transformation has been a dramatic one. A year ago, every national economy on earth was declining at the same time – some dramatically. Today, however, every economy is now improving – though at different paces.
ISI points out that last week’s highlights included China’s third-quarter gross domestic product (GDP) rising at a 12% quarter-over-quarter rate, and Korea’s economy rising at around 8.2%. McDonald’s Corp. (NYSE: MCD) sales in China were reported up 30%. China retail sales are up 24% annualized in the past nine months. And China industrial production is up 21% in the last 10 months. Across the China Sea, export orders and industrial production in Taiwan are up at around a 51% annualized pace.
Over in the developed world, we’re seeing much of the same: The U.S. leading indicators are rising at the fastest pace since 1983. Canadian retail sales are up 3% annualized in the last eight months. And Japanese exports are up at a 31% annualized pace in the past half year, while Australia is smokin’, with auto sales alone up 12% annualized.
Amid this drama, copper prices are up 120% this year, while commodity memory chips (dynamic random access memory chips, known as DRAM), are up 71%.
Here in the United States, chain store sales are up at a 5.5% pace over the last 10 months and are likely to be much better than the National Retail Federation is predicting, which is negative 1%. And employment? Glad you asked. As mentioned last week, unemployment claims have declined 127,000 in the past six months, which amounts to a faster rate of descent than seen in the last two jobless recoveries.
I want to throw out a shocker of an idea for you to think about until next time. ISI points out that payroll losses have been improving (i.e. falling less) by 77,000 jobs per month on average over the past six months. If that keeps up, payrolls will rise by 137,000 in January next year. And if that occurs, regression analysis suggests that GDP growth for the quarter will come in at around 4%.
Is it possible? Well, virtually everyone seems to think it’s impossible – which increases the likelihood that it could occur. But if you look at trends of unemployment claims, temp employment surveys, layoff announcement tallies and the like, they are all moderating in syncopation.
Pessimists will call this just a lull and a fake-out, but I would just note that improvements have become the norm overseas. As mentioned last week, ISI reports employment is already on the rise in Sweden, Korea, Brazil, Russia, Finland, Japan, Australia, Taiwan and Canada, in order of strength.
The theory is that employment was cut too much last year as companies anticipated a depression. Models of behavior suggest that employment should have only been cut by 3.5%, and instead almost 6% of jobs were cut away. This is why productivity and earnings gains have been so amazing.
Ultimately, and perhaps as soon as right now, companies will start hiring again to reverse their “throw everything overboard” mentality of last year. That will have the effect of moderating earnings gains, but it will also put money back into workers’ pockets and in turn, help boost revenue.
In summary, don’t let the short-term setbacks we’ve seen of late cause you to lose sight of the big picture: Long-term global growth trends are in place. As shown in the chart above, it would be natural for the rapid ascent of the past eight months to taper off into a sideways consolidation before its next leg higher. A total collapse is always possible, but it’s just not the most likely scenario now, no matter what the bears say.
The Week In Review
Stocks plunged Friday after traders, who were initially excited over Thursday’s news that the U.S. economy is expanding again, woke up Friday with an urge to sell. The Dow Jones Industrial Average lost 2.5%, the Standard & Poor’s 500 Index lost 2.8%, the Nasdaq Composite Index lost 2.5%, and the Russell 2000 lost 3%.
There was no shortage of catalysts for the decline.
It was the end of the fiscal year for many portfolio managers, resulting in an increase in selling to lock in profits that will be shown on clients’ October statements. Bank stocks fell on word the government may require them to pay fees to help unwind failed firms, as well as an analyst report suggesting Citigroup Inc. (NYSE: C) might be forced to write off 10% of its tangible equity.
Beleaguered small business lender CIT Group Inc. (NYSE: CIT) inched closer to bankruptcy. It was reported that consumer spending fell in September. The U.S. dollar rose as overseas investors closed out carry trades funded with dollar borrowings. There were reports that Raj Rajaratnam’s Galleon hedge fund complex completed its unwinding process on the last day of the month by dumping tech and emerging market stocks at midday. The list goes on.
As a result, all the major sector groups posted heavy declines. Bank stocks were the biggest losers on the day with the Financial Select Sector SPDR (NYSE: XLF) losing 4.7%. Commodity stocks were also big losers as the U.S. dollar strengthened: The Energy Select SPDR (NYSE: XLE) lost 3.8% while the Materials SPDR (NYSE: XLB) lost 3.6%. Even the defensive sectors were not spared from the selling as utility, healthcare, and consumer staples stocks all posted declined in excess of 1%.
Volume was heavy and breadth was negative – a sign that Friday’s session could prove to be the climactic, panic-driven session needed to clear away sellers and create a vacuum into which buyers can enter. Volume increased 14% over Thursday’s rally session as nearly 1.7 billion shares traded on the New York Stock Exchange (NYSE: NYX). Declining issues outpaced advancers by a 6.8 to 1 ratio while down volume accounted for 95% of total volume. Only 18 components of the S&P 500 managed to close with gains. By every measure, it was a rout.
The good news is that the evidence continues to suggest stocks are not on the cusp of a major price top. Famous last words, right? But really, we’ve yet to see the multi-month degradation in the market’s internal measures of health, including advance-decline metrics and the number of new highs. As the chart that follows illustrates, the major price tops of 2000 and 2007 were preceded by a big, multi-year negative divergence in the number of new highs.
Clearly, this isn’t happening now, as both stock prices and the new high index are rising together – not unlike the situation in 1995 or 2003. This fits with our general thesis: That we may be looking at a 2003-2004 scenario, where the market could be transitioning to a more mature stage of the new bull market, where there will be increased performance divergence between sectors and stocks. A session like Friday does not exactly fit that criteria – because everything went down together – but over the past couple of weeks large-caps and energy have been outperforming small caps and other groups.
Market breadth plumbed depths this week that are associated with rebounds: The percentage of stocks above their 10-day moving average dropped to 5.3%, a level not seen since early March. And the traditional version of the NYSE McClellan Oscillator – my favorite measure of breadth – sank below the key -300 level, all the way to -350, which is nearly as low as it can go. For reference, it briefly touched -367 in late February, just before the March 9 low.
Tom McClellan, whose father invented the gauge, was telling clients this week: “This is not the most oversold that the market has ever been, but it is pretty damned oversold.” He notes that getting to this level doesn’t mean that the decline is over, but that it has accelerated toward a conclusion and is probably close, at least for the near-term.
Also, market sage Paul Desmond of Lowry Research Corp., notes that his proprietary measure of the stock supply, or selling pressure, remains low and falling, despite a modest jag higher late this week. In his words: “Every major market top in Lowry’s 76-year history has been preceded by a sustained rise in selling pressure. With selling pressure recording a new 12-month low within the past two weeks, no such rise is now evident.”
Moreover, November is historically one of the best performing months in the market: It’s been the best month for the S&P 500 since 1950 and the third best for the Dow Jones Industrials. November also marks the start of what tends to be a very profitable six-month stretch for stocks. Over the last 58 years, the Dow Industrials have gained 11,564 points between November and April while adding just 1,042 between May and October. If the market gods wanted to see a sizeable decline, September and October would have been the months to do it, unless they’re trying to be super-tricky.
If you step back from the daily cut-and-thrust, it’s clear that Thursday’s big gains temporarily interrupted a correction that started on October 19 and had yet to fully run its course. Only very short-term technical indicators (including the percentage of stocks over their 10-day moving average) had moved well into oversold territory on Wednesday. Friday’s action deepened the oversold condition, which has reached levels not seen since the March low.
After three heavy down days last week culminating in a 90% Downside Day, the stage is most likely set for at least a modest rebound in the coming week. The key level to watch is 1,070. Bulls need to move back above that level and hold it for a week. If they can do that, then a rebound toward the 1,200 level ought to be in the cards over the next two to four months.
If bears manage to defend 1,070 in November, on the other hand, then you should anticipate trench warfare between 1,000 to 1,065 for as much as nine months amid an economic recovery that’s stronger than what bears believe is possible and weaker than bulls wish for. When the uneven data is suspected to be good, bulls will make ground, and when it’s anticipated to be weaker the bears will take that ground back. This type of ground war is frustrating when it’s happening, but ultimately would likely create a firm foundation for the next multiyear advance at a more measured pace.
Monday: Stocks fell on weakness in bank stocks after Rochdale Securities LLC analyst Richard Bove downgraded Fifth Third Bancorp (NASDAQ: FITB) and SunTrust Banks Inc. (NYSE: STI) and claimed that Bank of America Corp. (NYSE: BAC) would need to raise $45 billion by selling 3 billion shares before the government would allow it to repay its Troubled Asset Relief Program (TARP) money.
Tuesday: The day started on an optimistic note after the latest Case-Shiller Home Price Index showed that nationwide home prices gained 1% in August thanks to a combination of ultra-low mortgage rates, a flood of cheap foreclosed properties, and the first-time homebuyer tax credit. This is the third straight month of price increases.
The positive vibe ended a short while later when the Conference Board reported a surprise decline in consumer confidence for October. The index fell to 47.7, down from 53.1 previously and well under the consensus estimate of 54. The current conditions assessment dropped 2.5 points to 20.7 – the lowest reading of the cycle – as nearly 50% of respondents reported that jobs were hard to get. Buying plans were down across the board as consumers shy away from cars, appliances, and homes: an ominous development as the holiday shopping season approaches.
Wednesday: Durable goods orders continue to show improvement, up 1% for the month of September. The gain was led by machinery orders, which were up 7.9%. Excluding autos, the year-over-year growth rate improved from negative 18.9% to negative16.9%.
Thursday: The U.S. economy expanded at a 3.5% seasonally adjusted annual rate in the third quarter, breaking a string of four consecutive quarters of contraction. This was well ahead of the consensus estimate of a 3% rise in activity. Most of the improvement was due to the government’s simulative efforts. Personal consumption, inventory investment, exports, and residential investment all contributed to growth. A rise in imports and tightened government spending subtracted from growth. Private domestic purchases increased 3.2%, the largest gains since the beginning of 2006.
The results were impressive enough that Deutsche Bank AG (NYSE: DB) economists increased their GDP forecasts through the end of 2009 and into 2010. Sequentially over the next few quarters, they expect the following annualized growth rates: +4%, +4.5%, +3.5%, +3.7%, and +3.8%. Much of the increase is tied to the expected bounce in industrial production as the inventory replenishment cycle begins.
Friday: The University of Michigan reported that consumer confidence increased slightly in October as its index increased to 70.6 from 69.4 in September. The Chicago PMI reported another surge in production activity in the Midwestern region as the index moved to 54.2 from 46.1 in September. This was well ahead of the 48.5 consensus estimate. And finally, personal income was flat for the month of September, but consumer spending fell 0.5% as motor vehicle sales plunged upon the expiration of cash-for-clunkers. The fall in spending was in line with expectations.
The Week Ahead
Monday: Motor vehicle sales for October will be reported. Sales fell 33.8% to an annualized rate of 6.6 million in September as consumers recoiled in the wake of the expiration of the government’s cash-for-clunkers auto rebate program. Analysts expect sales to improve slightly to a 7.3 million annual rate.
Tuesday: The Federal Reserve begins its two-day policy meeting. Factory orders for September will be reported. Order fell 0.8% in August after rising 1.4% in July. Analysts expect a 1% increase for the month.
Wednesday: The Fed’s policy statement is due. Interest rates are expected to be left unchanged. Investors will be closely watching for indications on the timing of the Fed’s exit from its unconventional policy measures — which will act as shadow interest rate hikes. I continue to suspect that interest rates will remain on hold for all of 2010, as the Fed is unlikely to hike until employment growth has not just begun but also continued for six consecutive months.
Thursday: Chain store sales for October will shed light on the health of the consumer after September’s back-to-school season.
Friday: It’s the biggie, the jobs report. October’s employment situation report will provide an update on the unemployment rate and the number of jobs lost. Analysts expect the unemployment rate to increase one-tenth of one percent to 9.9% as 175,000 jobs are lost. A headline unemployment rate of 10% would not be well received. Temp employment company surveys, layoff announcement counts and new unemployment claim reports all suggest that a positive surprise is possible.
In summary, there may be well be a few more days or weeks of soft action in stocks, with prices possibly heading down to the 1,000 to 1,025 level from their recent high around 1,100. Although it would seem painful, even a decline to the 1,000 level would be little different than the decline from 950 to 875 that transpired from June to mid-July this year.
A decline below 1,000, however, would be a different story — and I’d get out of all stocks on a drop below 970. But with interest rates at record lows and the global economy recovering, I would be really surprised to see much more than a modest stall as fundamentals are given a chance to catch up with prices.
To keep it simple, on big down weeks add positions in Vanguard Total World Stock Index (NYSE: VT) fund, which gives you exposure to all of the biggest companies in the U.S., Europe, Asia and Latin America at one shot, and hang in there.
[Editor's Note: New Money Morning contributor Jon Markman is a veteran portfolio manager, commentator and author. He is currently the editor of two investment-research services, Strategic Advantage and Trader's Advantage. For information on obtaining a two-week free trial to the daily commentary of the Strategic Advantage, please click here. Anthony Mirhaydari was the research assistant on this column.]
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