FMX | Connect – www.fmxconnect.com - (Reported 9/13/2010)
Breakfast with Dave: A False Sense of Security
Excerpt from MARKET MUSINGS & DATA DECIPHERING
MARKET COMMENT
In span of a few weeks, and based on a set of spurious set of economic data (like the fact that nine States had to guesstimate their level of jobless claims in last week’s “improvement”) a new consensus view has emerged that the double-dip scare of July and August was somehow just a bad joke not grounded in anything real, and that everything from housing, to employment, to consumer spending is doing just fine, thank you very much. Let’s all take a deep breath and respect the fact that the equity market and bond yields both peaked in April, not unlike how they both peaked in 2007, 2000, and 1990 (and we can go on). These are very important market signals in terms of what they are telling us about the future direction of the economy — future information transcends what private payrolls or transportation rate indices are telling us, which is only about the present. And, as is always the case coming off peaks in equity valuation and bond yields, the markets do not move in a straight line down and volatility is the watchword.
There is nothing untoward at all about the recent backup in Treasury yields. The bond market is correcting from deeply overbought levels as net speculative long positions at the yield lows have been closed (the net speculative position is now, thankfully, flat).
FORECAST UPDATE
It’s fascinating that as everyone else is tripping over themselves to cut their U.S. GDP forecasts, we are raising ours. But don’t get too excited, this is only an acknowledgment that the risks of a contraction in the current quarter have faded significantly with the latest data on net exports and inventories. So, it seems as though we could end up getting something close to 1.5% real GDP growth for Q3 with real final sales somewhere around 1%. That is still extremely weak and soft enough to kick the unemployment rate higher in the near-term, but the bulls will still spin this as positive since anything that does not suggest “contraction” will be seen as encouraging.
IT'S BEIGE ALL RIGHT
The Fed’s Beige Book was arguably the weakest of the past year — this reference said it all: “widespread signs of deterioration” through the economy over the past six weeks. Only seven of the 12 district banks reported that activity was expanding this time around, down from 10 a month-and-a-half ago.
INCOME THEME INTACT
This brings us to one of our favourite strategies — Safety and Income at a Reasonable Price. This is what works in a deflationary environment, and if you don’t believe we are in one, then look no further than the article on page B5 of last Thursday’s WSJ (Law Firms Offer Discounts, Play Matchmaker). I mean, come on, when law firms embark on the path of adjusting their fee structure to the benefit of their clients, you know that you are definitely in a cycle that is beyond the norms of the past five decades.
All we can say is that the most compelling risk-return attributes lie in the BB sliver of the bond market — the best of the investment-grade space where the yield is juicy at an average 6.7% and provide a very nice 300 basis point premium over A-rated bonds and over 220bps over BBB product. In both cases, about 100bps above the pre-bubble normal spread.
We should add that in addition to our income focus, a highly volatile market backdrop also warrants hedge fund (“long-short”) strategies that truly hedge. Consider the sort of roller-coaster ride we have been on for the past year-and-a-half. Since January 2009, the S&P 500 has moved up or down by 5% or more in 11 of these months; and 3% or more 16 times. That is unprecedented volatility that investors should consider insulating themselves from.
SUDDEN SHIFT IN SENTIMENT
It did not take much — a post-Labour Day rally right after the worst August in nine years — to get the once-desperate bulls excited again. The bulls, in the latest Investors Intelligence (II) survey, jumped to a 33.3% share from 29.4%, while the bear share sank to 32.2% from 37.7%. So the bull/bear spread gapped up to 110bps from -830bps last week.
SOME INTERPRETATION NEEDED
A false sense of security seems to have overtaken market sentiment in recent weeks. It seems to have started right around the time the first ISM was released on September 1, and then last Wednesday, we received the JOLTS report (Job Opening Labor Turnover Survey) from the Bureau of Labor Statistics.
Look, we can understand the innate need to be optimistic but please, let’s not get carried away. Job openings did indeed rebound 178,000 in July but this followed two straight months of decline totalling 438,000!
U.S. DATA ROUND UP
We had a few better-than-expected data points out of the U.S. late last week. While not a view-changer for us (we still expect very weak GDP growth for this quarter and almost no growth next quarter), we have raised our in-house tracking of Q3 GDP to 1.4-1.7% on greater contributions from net trade and inventories. While our forecast is still below consensus, the gap between ‘us’ and ‘them’ is narrowing. Bloomberg just released fresh consensus forecasts for September and Q3 GDP was sharply revised down, to 1.9%, from last month’s 2.5% forecast.
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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