We don’t agree with that assessment as the production data, even as it was worse than expected, is hardly a surprise after all other data sets have clearly shown a shutdown occurred last quarter. Rather, the market doesn’t know what to do as investors are attempting to gauge government action instead of focusing on fundamentals. The government is capricious, and thus trading will continue to exhibit quick fluctuations as well.
It was talk that the FDIC and Treasury are going back to the future, as we’ll touch on below, by removing troubled assets from banks’ balance sheets that got things rolling in the back-half of trading.
Market Activity for January 16, 2009
Advancers ended up beating decliners by a two-to-one margin on the NYSE. Roughly 1.5 billion shares were traded, in line with the three-month daily average.
Original TARP Redux
Absent a tax rate response focused to bring in bids for toxic assets and an elimination of pernicious mark-to-market accounting standards, we were proponents of the original intent of the TARP – buying up troubled assets, RTC-style, and holding them until the housing market and investors’ willingness to take risk return to somewhat normal behavior.
Engaging in such action removes assets that are causing the mayhem from bank balance sheets and provides a return to the Treasury as the vast majority of these assets have a higher intrinsic value than the depressed market prices currently assigned to these positions. In a way the latest Citigroup and Bank of America rescues, which include the government backstopping troubled assets, are close to the original TARP proposal -- but not enough; it was smart by half.. These assets must be removed in a way similar to what was done during the S&L crisis of the late-1980s/early-1990s.
Now, Treasury Secretary Paulson and FDIC Chairman Bair have come up with what they are calling an “aggregator bank” to buy and house these assets based on the aforementioned purpose.
Well darn, wish they would have begun this process last year instead of ditching it for lack of timeliness in favor of cash injections – a strategy that has not helped as banks hoard the cash in this highly uncertain environment. All we did was waste time
Hopefully, since our most desired way to attack this problem doesn’t have a chance with Congress, they get to it and begin the RTC model; it might actually work.
In the meantime, mark-to-market accounting requires that institutions continue to write-down assets (even those in which institutions had no prior intention of selling), which means the endless circle of cash injections continues. And expect it to get worse. Since Citigroup and Bank of America have government backstops on troubled assets, they’ll unload these positions at horribly low prices, which forces the rest of the industry to mark assets even lower – far below intrinsic values. While this means we’re getting closer to the problem running its course, it also means mark-to-disaster accounting wreaks even more harm.
Economic Data
The Labor Department reported the headline consumer price index (CPI) for December fell 0.7% (-0.9% was expected), marking the third-straight month of decline. The year-over-year (YOY) rate rose 0.1% for December (a decline was expected, which would have marked the first YOY decline in CPI since August 1955).
The decline in the month-over-month reading was largely due to the plunge in energy prices (as we’ve talked about via the other inflation gauges). When you remove just the energy component, CPI was flat last month and up 2.4% year-over-year.
The core rate, which excludes food and energy items, came in flat last month (a decline of 0.2% was expected) and was up 1.8% on a year-over-year basis.
In a separate report, the Commerce Department announced industrial production slid 2.0% last month (double the expectation) -- a huge move, which follows a statistically large 1.3% decline for November.
Consumer goods production fell 1.7%, construction-supply production declined 3.4% (down 32.6% at an annual rate last three months) and computer and office equipment output fell 3.8% (also down more than 30% at an annual rate last quarter). Business equipment did rise (largely machinery and electrical equipment) for the second straight month. Let’s hope a trend has begun.
This decline in overall industrial production marks the fourth monthly drop in the past five and all of those four negative readings were large. That said, the August and September declines (represented by the sharp negative move on the chart above) were a result of Gulf-coast hurricane activity (back-to-back storms) and the Boeing machinist strike. So, the true weakness within this figure began to take hold in November as it occurred without an exogenous event.
For the quarter, manufactured output fell hard, down 13.8% at an annual rate. This is in volume, so it takes out the price-related declines within other data. This is yet another indication the Q4 GDP reading will be the worst since the 1981-82 recession.
On the bright side, the bounce in business equipment may be signaling there’s some life out there. We know the vast majority of businesses have the resources, it is a high level of caution we need to conquer, which is why we’ve spent so much time talking about a tax-rate response to the current woes – nothing can kick start stocks, economic activity and confidence like bold across-the-board tax-rate reductions.
Don’t think we can move rates lower? I think we can reduce capital gains and dividend tax rates to single-digits, move the corporate tax below 30% and do a lot of good by reducing six federal income tax brackets down to two and making sure the top rate does not exceed 25%. Let’s not pretend these changes are static; there is a huge economic boost that results, and as the tax base and entrepreneurial spirits explode, flows to the Treasury will follow.)
Morning Activity
U.S. stock-index futures are lower this morning, showing the affect of overseas financial woes that sent international bourses lower yesterday. But today is Inauguration Day, so maybe some optimism will follow as incoming President Obama will give an uplifting address and get right to work.
We need good policy and we need it fast. An RTC-type response to troubled assets will do a lot of good, but my fear is neglecting (actually abusing) the private sector will only cause Atlas to shrug. That cannot be allowed to occur.
Capital is already on strike; innovators, the providers of seed capital and the engines of production must be incentivized by higher after-tax returns. In terms of infrastructure programs, it must be focused on productive sources such as rebuilding the energy grid, enhancing broadband, improving air-traffic control and restoring vital defense equipment after several years of wear and tear. The current stimulus package appears to be tilted toward entitlement programs; this will not do.
Have a great day!
Brent Vondera, Senior Analyst
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