Worst June for the Dow Jones Since 1930s Deflationary Depression

By: Paul_J_Nolte

With but one day left of trading to the half-way point of the year, it is becoming more clear that this will not be an ordinary year. Unless today's market rallies something fierce, this will be the worst June for the averages since the Depression. On a less ominous note, the Fed met last week and decided that inflation was more an issue for the economy than growth, however left rates unchanged and likely spurred the latest round of selling. In what could be deemed a rush to call out their brethren, brokerage firms downgraded each other citing additional capital needs in the months ahead. If that weren't enough, oil prices continued their drive higher, altering many 4th of July vacation plans (on a 3-day weekend no less).

But before everyone celebrates our founding “birthday”, the economic reports will be coloring the already darkening sky. Payrolls are expected to decline again, while construction spending as well as factory orders should be below prior month's readings. Based upon all that we see, we still maintain that we are in a recession and the Fed is not yet done cutting rates. While inflation rates are likely to rise in the months ahead, we expect them to be fleeting as slow economic activity – here and abroad – slows overall demand for even oil, pushing prices lower by yearend.

While not yet officially a bear market, the decline from the October '07 peak is still worthy of taking notice. Many are making references to the 1970s economic environment with the high rates of inflation (oil related) and low economic growth. But looking back at the indexes, there are other similarities. The ‘73/'74 decline took 2 years to complete and by the end of '74 was down 43% from the yearend '72 peak. Even though it managed to rally 60% over the next two years, it wasn't until mid-'80 that the old high was surpassed, if only for a while. The '00 decline took 2 years to “complete” and shaved 43% off the averages from the prior 2-year period.

Although more drawn out, the ensuing rally did not match the fury of the '75-'76 rally. The market today sits essentially where it was two years ago, and if the ‘70s experience is any guide, we have another two years to go before markets embark upon another bull market. In the meantime, we will be keeping our foot more on the brakes than the gas, attempting to keep losses to a relative minimum.

We began to get a bit more excited about bonds last week, and even though the Fed sidestepped a rate increase, bond yields declined (prices rose) as bond investors began worrying more about that recessionary feeling and less about the price of gasoline. Our bond model improved a bit, but not yet enough to get excited about buying longer maturities – yet. While the focus of the world seems to be on oil prices and commodities in general, we still see many indications that the prevailing worry should be about how deep/long will the recession be and just maybe DEflation, instead of inflation. GM just announced price cuts/rebates, real estate is still falling and inventory levels are beginning to rise across the manufacturing sector. Keep an eye on factory orders on Wednesday and comments about inventories in the ISM data released on Tuesday.

By Paul J. Nolte CFA
http://www.hinsdaleassociates.com
mailto:pnolte@hinsdaleassociates.com

Copyright © 2008 Paul J. Nolte - All Rights Reserved.
Paul J Nolte is Director of Investments at Hinsdale Associates of Hinsdale. His qualifications include : Chartered Financial Analyst (CFA) , and a Member Investment Analyst Society of Chicago.

Disclaimer - The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable, but are opinions and do not constitute a guarantee of present or future financial market conditions.

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