U.S. stocks began the holiday-shortened week lower as a deteriorating outlook regarding corporate profits and commercial real estate wore on investor sentiment. Year-end tax-loss trades may have also put pressure on stocks, overwhelming what is a low volume week.
Stocks did pare earlier losses though, rallying nearly 2% in the final 30 minutes of trading. What appeared to be heading for a 5% downer mid-way through the afternoon session, turned into a 1.80% drop for the broad market – mild by today’s standards.
Commercial real estate concerns are beginning to rise to the surface and this may be an added issue stocks will have to deal with. It’s pretty clear that lenders used unrealistic estimates, assuming strong rental growth rates to justify high loan payments. As the credit freeze-up that hit in September exacerbates declines in commercial rental rates, borrowers will have a more difficult time meeting payments, driving defaults.
On the bright side, with massive levels of cash on the sidelines, we may be able to rally early next year as the taking of tax-losses will have run its course and that will be one less pressure point on stocks. It’s likely the broad market has priced in a lot of ugly assumptions, like this commercial real estate story.
Market Activity for December 22, 2008
Interbank Lending
Interbank lending rates have eased dramatically over the past couple of months and the TED Spread (an indication of risk aversion – a higher level means investors and institutions are less willing to take risk; lower the opposite) has nearly returned to its level prior to the collapse of Lehman on September 15. Although, the level during more normal times is closer to 0.50, so keep that in mind.
The decline in interbank lending rates has not only declined in the U.S. and London, but across the globe. The Hong Kong interbank rate, HIBOR, has declined to the lowest levels since 2005 and TIBOR (Tokyo interbank rates) sits at the lowest level in a decade, according to Bloomberg.
Global central banks have pumped massive amounts of liquidity into the system and as a result these rates should remain palliative to lending.
The degree to which TED has declined is a bit deceiving, however. The narrowing in the spread between three-month LIBOR (the rate at which banks charge one another for loans of this duration) and three-month T-bills is solely a result of the liquidity injections by central banks that has brought LIBOR down. We really need to see 90-day T-bill yields rise; at current levels it is abundantly clear cash is hiding out for now. When the yields on bills begin to rise again it should signal investors’ willingness to take a dip into the risk pool once again.
Been Waiting for This One
Last week I watched an interview in which a business news journalist asked why everything but tax cuts have been tried in getting us beyond the current mess. The guest responded by stating (paraphrasing): “we tried that in 2003 and look where we are now.”
I’ve been waiting for that comment for three months now, it was only a matter of time and frankly I’m surprised it took this long to hear it.
It’s funny to me how Keynesians, always wanting to keep to the same old flawed game plane, have the temerity to make statements like those that vilify lower tax rates. The journalist should have responded by stating that is has been monetary policy mistakes that have brought us to this economic obstacle. If not for negative real short-term interest rates (for two years) that subsidized debt, we wouldn’t have been caught up in this morass in the first place.
Further, the rejoinder should have involved an explanation that if not for the lower tax rates on capital and income over the past five years it’s highly unlikely we would have withstood a serious housing correction (two years in the making) and a massive energy price shock for as long as we did.
(Remember, the oil shock did not begin in 2008 as oil prices doubled from $70 to $145 in a matter of 10 months, but went from $25 to $45 2003-2004; then from $45-$65 2004-2005; later hitting $70 before dipping to $60 in early 2007 and then the stunning spike to $145 that everyone now remembers. All the way, we heard that $40 per barrel would shut down the economy, but it didn’t. Then $60 would shut it down, but it kept rolling along. Then $70, $90, $100 would cause GDP to collapse, no, no and no. It was not until $145 per barrel combined with a freeze-up in credit that the economy finally succumbed.)
And lest we forget, lower tax rates on capital and income (and it’s important to understand that small business makes up 65%-70% of those in the top federal income tax bracket) enabled the labor market to set a record for job creation (52-straigth months) and corporate profit growth (up at double-digit rates for 20-straight quarters – Q3 2002 through Q2 2007) set a post-WWII era record.
The chart below shows profits with capital consumption and inventory adjustment, so no chicanery in these numbers.
Yes, some of this growth was due to the low interest-rate environment that helped the labor market with regard to construction jobs and the financial-sector post robust earnings. However, the higher after-tax returns on capital, the higher disposable (after-tax) income growth and the massive decline in dividend tax rates had a large hand in allowing the economy to withstand a stunning energy-price shock and a housing market that has been weighing on economic growth since the first quarter of 2006.
And another thing, Keynesians are always the first to complain that U.S. consumers engage in too much credit, yet they want consumers to spend like there’s no tomorrow when it makes zero sense to do so – when savings and overall wealth has declined. This is the dichotomy that confuses the Keynesian mind.
Instead of bowing to the mindset that we must always stimulate the demand side, what we need to do is stimulate the production side of things, that’s where the resources are most prevalent right now anyway -- on the business side.
Thus we must continue to reduce trade barriers, lower tax rates across the board, eliminate overlapping regulations and return society to an ideal of self-reliance – a safety net that has turned into a hammock does just the opposite by increasing a state of dependency. An attempt to spend our way out of this situation may look good in the short term, but it is not a long-run strategy.
As Margaret Thatcher stated: (since the world of economics is dominated by the philosophy of taxing and spending) “economics is too important just to be left to economists.” So true.
Have a great day!
Brent Vondera, Senior Analyst
Stocks did pare earlier losses though, rallying nearly 2% in the final 30 minutes of trading. What appeared to be heading for a 5% downer mid-way through the afternoon session, turned into a 1.80% drop for the broad market – mild by today’s standards.
Commercial real estate concerns are beginning to rise to the surface and this may be an added issue stocks will have to deal with. It’s pretty clear that lenders used unrealistic estimates, assuming strong rental growth rates to justify high loan payments. As the credit freeze-up that hit in September exacerbates declines in commercial rental rates, borrowers will have a more difficult time meeting payments, driving defaults.
On the bright side, with massive levels of cash on the sidelines, we may be able to rally early next year as the taking of tax-losses will have run its course and that will be one less pressure point on stocks. It’s likely the broad market has priced in a lot of ugly assumptions, like this commercial real estate story.
Market Activity for December 22, 2008
Interbank Lending
Interbank lending rates have eased dramatically over the past couple of months and the TED Spread (an indication of risk aversion – a higher level means investors and institutions are less willing to take risk; lower the opposite) has nearly returned to its level prior to the collapse of Lehman on September 15. Although, the level during more normal times is closer to 0.50, so keep that in mind.
The decline in interbank lending rates has not only declined in the U.S. and London, but across the globe. The Hong Kong interbank rate, HIBOR, has declined to the lowest levels since 2005 and TIBOR (Tokyo interbank rates) sits at the lowest level in a decade, according to Bloomberg.
Global central banks have pumped massive amounts of liquidity into the system and as a result these rates should remain palliative to lending.
The degree to which TED has declined is a bit deceiving, however. The narrowing in the spread between three-month LIBOR (the rate at which banks charge one another for loans of this duration) and three-month T-bills is solely a result of the liquidity injections by central banks that has brought LIBOR down. We really need to see 90-day T-bill yields rise; at current levels it is abundantly clear cash is hiding out for now. When the yields on bills begin to rise again it should signal investors’ willingness to take a dip into the risk pool once again.
Been Waiting for This One
Last week I watched an interview in which a business news journalist asked why everything but tax cuts have been tried in getting us beyond the current mess. The guest responded by stating (paraphrasing): “we tried that in 2003 and look where we are now.”
I’ve been waiting for that comment for three months now, it was only a matter of time and frankly I’m surprised it took this long to hear it.
It’s funny to me how Keynesians, always wanting to keep to the same old flawed game plane, have the temerity to make statements like those that vilify lower tax rates. The journalist should have responded by stating that is has been monetary policy mistakes that have brought us to this economic obstacle. If not for negative real short-term interest rates (for two years) that subsidized debt, we wouldn’t have been caught up in this morass in the first place.
Further, the rejoinder should have involved an explanation that if not for the lower tax rates on capital and income over the past five years it’s highly unlikely we would have withstood a serious housing correction (two years in the making) and a massive energy price shock for as long as we did.
(Remember, the oil shock did not begin in 2008 as oil prices doubled from $70 to $145 in a matter of 10 months, but went from $25 to $45 2003-2004; then from $45-$65 2004-2005; later hitting $70 before dipping to $60 in early 2007 and then the stunning spike to $145 that everyone now remembers. All the way, we heard that $40 per barrel would shut down the economy, but it didn’t. Then $60 would shut it down, but it kept rolling along. Then $70, $90, $100 would cause GDP to collapse, no, no and no. It was not until $145 per barrel combined with a freeze-up in credit that the economy finally succumbed.)
And lest we forget, lower tax rates on capital and income (and it’s important to understand that small business makes up 65%-70% of those in the top federal income tax bracket) enabled the labor market to set a record for job creation (52-straigth months) and corporate profit growth (up at double-digit rates for 20-straight quarters – Q3 2002 through Q2 2007) set a post-WWII era record.
The chart below shows profits with capital consumption and inventory adjustment, so no chicanery in these numbers.
Yes, some of this growth was due to the low interest-rate environment that helped the labor market with regard to construction jobs and the financial-sector post robust earnings. However, the higher after-tax returns on capital, the higher disposable (after-tax) income growth and the massive decline in dividend tax rates had a large hand in allowing the economy to withstand a stunning energy-price shock and a housing market that has been weighing on economic growth since the first quarter of 2006.
And another thing, Keynesians are always the first to complain that U.S. consumers engage in too much credit, yet they want consumers to spend like there’s no tomorrow when it makes zero sense to do so – when savings and overall wealth has declined. This is the dichotomy that confuses the Keynesian mind.
Instead of bowing to the mindset that we must always stimulate the demand side, what we need to do is stimulate the production side of things, that’s where the resources are most prevalent right now anyway -- on the business side.
Thus we must continue to reduce trade barriers, lower tax rates across the board, eliminate overlapping regulations and return society to an ideal of self-reliance – a safety net that has turned into a hammock does just the opposite by increasing a state of dependency. An attempt to spend our way out of this situation may look good in the short term, but it is not a long-run strategy.
As Margaret Thatcher stated: (since the world of economics is dominated by the philosophy of taxing and spending) “economics is too important just to be left to economists.” So true.
Have a great day!
Brent Vondera, Senior Analyst
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