FMX | Connect – www.fmxconnect.com - (Reported 5/25/2010)
Excerpts from MARKET MUSINGS & DATA DECIPHERING
Market Thoughts
After an 18-month period of unprecedented fiscal, monetary and bailout stimulus, it is completely legitimate to pose the question: why is the yield on the 5-year T-note sitting below 2%? (Not to mention a record low 0.769% two-year note yield at yesterday’s auction.) Is that consistent with a V-shaped reflationary recovery? And, wasn’t the Fed so convinced just a few months ago that the recovery was going to be entrenched enough to allow the central bank to start to shrink its pregnant balance sheet? If so, then why is it that since March, the Fed’s balance sheet has expanded a further $50 billion, and all with extra mortgage backed securities?
Maybe, just maybe, the recovery is more fragile than many believe — though we must admit that the minutes from the last FOMC meeting were filled with talk of downside risks to the economic outlook. The vagaries of life in a post-bubble credit collapse.
NICE LATE-DAY RALLY, BUT ….
There really isn’t a whole lot to be bullish about. Nothing is really oversold technically. Certainly sentiment is not washed out. The S&P 500, for the first time since the bear market rally began, has sliced below all the long- and intermediate-term trend lines. The 50-day moving average has actually morphed from merely peaking out to now rolling over; and the index has sliced seriously below the 200-day m.a., which is a sign of serious rupture. The same can be said, by the way, about oil, copper and the 10-year note yield — though we must admit that 4% is acting as a key source of resistance for the long bond.
CAN WE EXPECT A 30-40% CORRECTION?
There have only been two other times when the stock market ran parabolically up from a low in barely over a year, as was the case this time around (+80% from March 2009 to April 2010): the 112% surge from June 1, 1932 to September 7, 1932; and the 116% runup from March 2, 1933 to July 18, 1933. In the first case, we had a 40% correction and in the second, the correction was 34%. So, we are talking here about the prospect of a pretty hefty reversal in the S&P 500 that could very easily take the index down to as low as 850, if the history of these types of givebacks is any indication.
The problem for Mr. Market is that it went into this latest Europe-induced ordeal with an excessively bullish GDP growth outlook for the U.S.A. – at the April highs, we would argue that a GDP growth rate of 6% was effectively being discounted. How nutty is that?
SHILLER P/E — MARKET OVERVALUED BUT LESS SO
One of our favourite equity valuation measures, the Shiller P/E ratio, slipped to 19.8x in May from a cycle-high 21.8x in April (the Shiller P/E uses the 10-year average of inflation-adjusted earnings). Even still, this metric suggests that relative to the long-run, which spans to the 1881, the market is overvalued by about 20% compared to over 30% in April. If history is a guide, when the Shiller P/E is at these levels, the 10-year annualized total return of equities is just over 5%.
HOME PRICES WEAKEN AGAIN
The Case-Shiller home price index (the 20-city index) fell 0.05% to the second decimal place in March, the second dip in a row. Fully 70% of the cities posted MoM declines (95% did so the month before). Before the seasonal adjustment, the raw data series showed a larger 0.5% decline during the month, the sixth falloff in a row (and recall – the folks at the Case-Shiller have already warned us that the raw data are the ones we should be focusing on right now).
Despite the artificial boost to demand as the homebuyer tax credits expire, the weight of excess supply continues to cloud the backdrop for home prices, which still have at least 10% more downside from here. On a raw (non-seasonally smoothed) basis, prices fell 3.2% in Q1 (down 12.3% on an annualized basis), following a 1% decline in Q4 -- and this was the weakest rate since Q1 2009.
CONFIDENCE UP, BUT LESS THAN MEETS THE EYE
Consumer confidence improved 5.6 points in May to 63.3 (Conference Board measure) which is the best tally since March 2008 and the third increase in as many months. The consensus was looking for something closer to 58.5, but it hardly seems that important. After all, in an economic expansion, what is normal is for confidence to be 102 – that is the average we see during periods of positive economic growth, which the government statistics would seem to portray. In recessions, consumer confidence averages 71. In fact, right after 9/11 it was sitting at 85.3 and at that point not only were we coming off the terrorist attacks but an economy eight months into recession. So before anyone uncorks the champagne over this particular data point, it may pay to out it in some sort of perspective. For instance, that it is still consistent with a mild recession, not a V-shaped recovery, maybe Mr. Market is finally figuring this out after an 80% rally in barely more than a year.
NOT SO RICH IN RICHMOND
The manufacturing index slipped back to 26 in May from 30 in April — still a decent headline but confirming that the peak in the pace of industrial activity is in. We note that for all the talk about improvement in the labour market, the employment index fell to 4 from 13 in April.
David A. Rosenberg
Chief Economist & Strategist Economic Commentary
drosenberg@gluskinsheff.com
+ 1 416 681 8919
Source: Market Musings & Data Deciphering
http://www.fmxconnect.com/
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