Wednesday, July 28, 2010

Economic Recovery Anything But Durable

While investors are drinking the Obama Administration's Kool-Aid and popping champagne corks over the slew of optimistic earnings reports and guidance, the economy continues to quietly deteriorate.  This morning we were treated to another disappointment:  durable goods.  Add to that the ongoing weakness in real estate and sub-par retail sales and it's hard to understand the unbridled optimism that has suddenly gripped the markets.

Not that economic statistics are a good barometer of future market prices.  Like earnings, they are backward looking and generally have ZERO predictive value.  Markets typically turn well before the economy and corporate earnings.  So, what's my beef?

The main problem with these economic data is that they are occurring in the middle of a so called "recovery" and one that began more than a year ago.  At this stage, we should be seeing growth in employment, sales, economic output and an increase in taking on credit.  None of those are happening. 

Durable Goods came in well below expectations.  The always wrong consensus had them rising about a percent.  They declined by a percent. 

Housing starts peaked in the 2005-2006 period at above 2 million units.  From there, they dropped to about 500,000 at the bottom of the financial meltdown of 2008-2009.  Since then, they have merely bounced around the lows.  No material recovery in more than a year.  We have not experienced the current low levels in decades.

June real retail sales rose at a 3.7% year-to-year pace, down from May’s revised 4.8% and from the first quarter's growth rate of 6.6%.

According to ShadowStats, adjusted for inflation, retail sales in May and June fell at an annualized pace of 7.6%.  Compared to the peak in 2008, retail sales are still down 10%.  If that pattern continues into the current quarter, a contraction in real third-quarter 2010 GDP would be a good bet.

What makes the economic sluggishness so worrisome is that it comes after the orgy-like expenditures and bailouts from the Obama Administration and near-zero interest rates.  The Federal Reserve is pretty much out of bullets.  The Obama Administration is out of bullets.  Can you imagine how difficult economic conditions might become now that all the stimulative measures have already filtered through?

On Friday, the first estimate of Gross Domestic Product will be reported.  Consensus estimates are for a 3.5% advance.  That number would seem way too optimistic and sets up the market for a major surprise.

Don't get me wrong.  Rising corporate earnings are great.  They prove that corporate America can make the necessary adjustments to cope with the very harsh economic conditions.  A victory for capitalism.  But, if we are about to enter the "second-dip", tomorrow's earnings will come under renewed pressure.  So, using this one data point in the absence of context will prove quite misleading and cause investors to make poor decisions.

Marko's Take

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