U.S. stocks slid for a second-straight session, capping the worst January on record for the S&P 500. The index fell 8.6% last month, surpassing the previous record of -7.6% in January 1970.
Weak economic reports put pressure on the indices as the preliminary fourth-quarter GDP report showed the economy endured its worst three-month period since the first quarter of 1982. While the report, which we’ll touch on below, didn’t show the decline that was expected, adjusting for a build in inventories (what’s known as real final sales) activity was weaker-than-expected at -5.1% at an annual rate.
The Chicago PMI reading, which tracks factory activity in the region, didn’t help matters as the gauge posted its weakest reading since 1982.
Market Activity for January 30, 2009
Amazingly, the Dow held above the 8000 mark, which is a psychological level. Today though we may break that mark, again, as comments out of Washington over the past few days have further damaged investor sentiment. We’re talking about the currency fight Treasury Secretary Geithner seems ready to pick with China and failure to understand the mistakes the previous Treasury Secretary made regarding the TARP.
The administrations needs to learn that flaunting a “bad bank,” RTC-style solution, only to pull it back is not at all constructive. The market seems to like the idea of setting up a facility to house troubled assets and holding them until intrinsic value can be realized, so investors get juiced when the idea is brought up but then we have these sell offs when policymakers raise doubts and euphoria deflates.
They must be forgetting what occurred November 19 and 20 (back-to-back 6% declines that established a new multi-year low – 752 on the S&P 500 and 7552 on the Dow) when Paulson changed the TARP from an RTC-style plan to the hugely inferior capital injection route.
On top of it all we’ve got rhetoric over Chinese currency manipulation and tariffs. What is it with this protectionist nonsense? Have people forgotten this is one of the main elements that made the Great Depression possible?
Geithner got this rhetoric kicked off in his written answers to the Senate Finance Committee’s questions (as part of his confirmation process) when he stated the administration believes China is artificially keeping its currency undervalued to boost exports. Someone who is supposed to be so smart should understand this would just present fodder for politicians and that is exactly what has occurred. I’m certainly no China apologists, there are some real military concerns over the longer term but the best way to avoid this is via economic cooperation and trade. In any event, to blame the Chinese for currency manipulation ignores the fact that we manipulate our own – our Fed has a monopoly on the U.S. dollar.
The Chinese yuan has been pegged to the U.S. dollar since 1994, it’s how they escaped the Asian contagion of 1997-1998. Washington didn’t seem to care that they were pegged to the dollar when the greenback was strong.
We need to focus the blame in the right direction, it’s with our own Federal Reserve, they are the ones that have caused the greenback to fall in value over the past decade. The silliest aspect of these comments is that Geithner – just as the previous administration stated – says he desires a strong dollar, yet wants the Chinese to strengthen their currency too. Um, if the Chinese are going to strengthen their currency they’ll need to decrease foreign currency reserves, which means they will sell dollars. This is not going to make the greenback stronger. We need to worry about ourselves. Sound monetary policy and lower tax rates on profits and capital will deliver a stronger dollar over time.
What makes these comments all the more mind-blowing is the fact that this administration is going to be issuing trillions in Treasury debt over the next couple of years in order to finance all of this spending – a trillion here, a trillion there. Don’t poke a stick in the eye of one of the largest foreign purchasers of this debt; we’ll quickly find out much higher servicing costs ensue (via substantially higher interest rates) if Geithner and Congress are not extremely careful here.
So there are some major issues tugging at the market here. The unfortunate thing is we’re beating ourselves up; it doesn’t have to be this bad. Pro-cyclical accounting rules are exacerbating the credit market problems by artificially eroding capital adequacy ratios and protectionist comments are scaring the hell out of equity-market investors – as if they need another concern.
Fourth Quarter GDP
The Commerce Department reported fourth-quarter GDP fell only 3.8% at an annual rate as inventory growth added 1.32 percentage points to the figure. It seems strange to use the word “only” on a 3.8% decline in GDP, but as we’ve been discussing a 5.5% decline was expected. In any event, the reading was the worst since the 6.4% decline in the first quarter of 1982.
Private sector final demand was extremely weak as personal consumption slid 3.5% (real terms at an annual rate) – this largest component of GDP subtracted 2.47 percentage points from the Q4 figure. This follows a 3.8% drop in the previous quarter. These are huge declines in consumer activity and it will just not come back until consumers are more comfortable with cash savings as their two main savings vehicles (homes and stocks) have been ravaged.
Residential investment sank another 23.6%, but only took 0.85 percentage point from GDP as residential home construction is just 3.0% of GDP these days. Go back a year and a decline of this degree was subtracting 1.50 points from economic growth.
Business spending declined 19.1% -- spending on structures fell 1.8% and equipment spending plunged 27.8%. (Adding higher current-year write-off allowance and bonus depreciation, as we’ve discussed, to a stimulus plan is essential right now. We should raise the amount with which small businesses can write business spending down in a given year to $250,000 and allow larger businesses to write-down 50% of equipment purchases in the year bought, instead of forcing them to depreciate the entire cost over time. The current depreciation policy creates distortions anyway. It understates cost due to inflation over time and overstated earnings, and thus overtaxes.)
We still feel the Q4 GDP report will be revised down (we’ll get two revisions to this figure), the way things shut down last quarter anything above -4.5% doesn’t seem right. However, inventory levels are low; no where near the heights they generally climb to at this stage in a business cycle, and this could be the bright spot.
Some expect inventories to be drawn down this quarter, and drive first-quarter GDP much lower as a result. But maybe at these levels we’ve seen stockpile curtailment largely run its course. If so, this will keep the GDP readings over the next couple of quarters from falling to levels that compare to the rough 1981-82 recession.
Chicago PMI
The Chicago Purchasing Managers’ index (for new readers, this is the gauge of factory activity out of the largest manufacturing region) fell slightly in January to 33.3 from 35.1 for December. This is the lowest reading since March 1982 (we’re seeing a number of comparisons to that period).
The forward-looking indicators continued to slip from already very low levels – the new orders index fell to 30.7 from 31.5 and production fell to 29.7 from 32.4. Order backlogs inched higher to 26.5 from 26.3, but this degree of improvement is worthless.
The employment index within the report, something we’re all keeping a close eye for any sign the job market is improving, dropped back to 34.8 in January from 39.2 for December.
So this data offers no hope that we’ll see any improvement in the labor market for this month -- although that’s not much of a surprise as jobless claims have painted a clear picture substantial weakness continues --, and shows industrial production will contract at another substantial rate for January. The forward-looking indices also portend factory activity will remain low for February. The only thing that may give us some boost next month is the fact that auto production will rise as idled plants came back on line a couple of weeks ago – but this will prove to be a temporary boost if it does materialize.
We need to get serious here. Attack the crisis in confidence by driving tax rates lower. We’re going to find out, unless this stimulus bill is changed to something that is more constructive, that ignoring the most potent ammunition policymakers have is a grave mistake.
Have a great day!
Brent Vondera, Senior Analyst
Weak economic reports put pressure on the indices as the preliminary fourth-quarter GDP report showed the economy endured its worst three-month period since the first quarter of 1982. While the report, which we’ll touch on below, didn’t show the decline that was expected, adjusting for a build in inventories (what’s known as real final sales) activity was weaker-than-expected at -5.1% at an annual rate.
The Chicago PMI reading, which tracks factory activity in the region, didn’t help matters as the gauge posted its weakest reading since 1982.
Market Activity for January 30, 2009
Amazingly, the Dow held above the 8000 mark, which is a psychological level. Today though we may break that mark, again, as comments out of Washington over the past few days have further damaged investor sentiment. We’re talking about the currency fight Treasury Secretary Geithner seems ready to pick with China and failure to understand the mistakes the previous Treasury Secretary made regarding the TARP.
The administrations needs to learn that flaunting a “bad bank,” RTC-style solution, only to pull it back is not at all constructive. The market seems to like the idea of setting up a facility to house troubled assets and holding them until intrinsic value can be realized, so investors get juiced when the idea is brought up but then we have these sell offs when policymakers raise doubts and euphoria deflates.
They must be forgetting what occurred November 19 and 20 (back-to-back 6% declines that established a new multi-year low – 752 on the S&P 500 and 7552 on the Dow) when Paulson changed the TARP from an RTC-style plan to the hugely inferior capital injection route.
On top of it all we’ve got rhetoric over Chinese currency manipulation and tariffs. What is it with this protectionist nonsense? Have people forgotten this is one of the main elements that made the Great Depression possible?
Geithner got this rhetoric kicked off in his written answers to the Senate Finance Committee’s questions (as part of his confirmation process) when he stated the administration believes China is artificially keeping its currency undervalued to boost exports. Someone who is supposed to be so smart should understand this would just present fodder for politicians and that is exactly what has occurred. I’m certainly no China apologists, there are some real military concerns over the longer term but the best way to avoid this is via economic cooperation and trade. In any event, to blame the Chinese for currency manipulation ignores the fact that we manipulate our own – our Fed has a monopoly on the U.S. dollar.
The Chinese yuan has been pegged to the U.S. dollar since 1994, it’s how they escaped the Asian contagion of 1997-1998. Washington didn’t seem to care that they were pegged to the dollar when the greenback was strong.
We need to focus the blame in the right direction, it’s with our own Federal Reserve, they are the ones that have caused the greenback to fall in value over the past decade. The silliest aspect of these comments is that Geithner – just as the previous administration stated – says he desires a strong dollar, yet wants the Chinese to strengthen their currency too. Um, if the Chinese are going to strengthen their currency they’ll need to decrease foreign currency reserves, which means they will sell dollars. This is not going to make the greenback stronger. We need to worry about ourselves. Sound monetary policy and lower tax rates on profits and capital will deliver a stronger dollar over time.
What makes these comments all the more mind-blowing is the fact that this administration is going to be issuing trillions in Treasury debt over the next couple of years in order to finance all of this spending – a trillion here, a trillion there. Don’t poke a stick in the eye of one of the largest foreign purchasers of this debt; we’ll quickly find out much higher servicing costs ensue (via substantially higher interest rates) if Geithner and Congress are not extremely careful here.
So there are some major issues tugging at the market here. The unfortunate thing is we’re beating ourselves up; it doesn’t have to be this bad. Pro-cyclical accounting rules are exacerbating the credit market problems by artificially eroding capital adequacy ratios and protectionist comments are scaring the hell out of equity-market investors – as if they need another concern.
Fourth Quarter GDP
The Commerce Department reported fourth-quarter GDP fell only 3.8% at an annual rate as inventory growth added 1.32 percentage points to the figure. It seems strange to use the word “only” on a 3.8% decline in GDP, but as we’ve been discussing a 5.5% decline was expected. In any event, the reading was the worst since the 6.4% decline in the first quarter of 1982.
Private sector final demand was extremely weak as personal consumption slid 3.5% (real terms at an annual rate) – this largest component of GDP subtracted 2.47 percentage points from the Q4 figure. This follows a 3.8% drop in the previous quarter. These are huge declines in consumer activity and it will just not come back until consumers are more comfortable with cash savings as their two main savings vehicles (homes and stocks) have been ravaged.
Residential investment sank another 23.6%, but only took 0.85 percentage point from GDP as residential home construction is just 3.0% of GDP these days. Go back a year and a decline of this degree was subtracting 1.50 points from economic growth.
Business spending declined 19.1% -- spending on structures fell 1.8% and equipment spending plunged 27.8%. (Adding higher current-year write-off allowance and bonus depreciation, as we’ve discussed, to a stimulus plan is essential right now. We should raise the amount with which small businesses can write business spending down in a given year to $250,000 and allow larger businesses to write-down 50% of equipment purchases in the year bought, instead of forcing them to depreciate the entire cost over time. The current depreciation policy creates distortions anyway. It understates cost due to inflation over time and overstated earnings, and thus overtaxes.)
We still feel the Q4 GDP report will be revised down (we’ll get two revisions to this figure), the way things shut down last quarter anything above -4.5% doesn’t seem right. However, inventory levels are low; no where near the heights they generally climb to at this stage in a business cycle, and this could be the bright spot.
Some expect inventories to be drawn down this quarter, and drive first-quarter GDP much lower as a result. But maybe at these levels we’ve seen stockpile curtailment largely run its course. If so, this will keep the GDP readings over the next couple of quarters from falling to levels that compare to the rough 1981-82 recession.
Chicago PMI
The Chicago Purchasing Managers’ index (for new readers, this is the gauge of factory activity out of the largest manufacturing region) fell slightly in January to 33.3 from 35.1 for December. This is the lowest reading since March 1982 (we’re seeing a number of comparisons to that period).
The forward-looking indicators continued to slip from already very low levels – the new orders index fell to 30.7 from 31.5 and production fell to 29.7 from 32.4. Order backlogs inched higher to 26.5 from 26.3, but this degree of improvement is worthless.
The employment index within the report, something we’re all keeping a close eye for any sign the job market is improving, dropped back to 34.8 in January from 39.2 for December.
So this data offers no hope that we’ll see any improvement in the labor market for this month -- although that’s not much of a surprise as jobless claims have painted a clear picture substantial weakness continues --, and shows industrial production will contract at another substantial rate for January. The forward-looking indices also portend factory activity will remain low for February. The only thing that may give us some boost next month is the fact that auto production will rise as idled plants came back on line a couple of weeks ago – but this will prove to be a temporary boost if it does materialize.
We need to get serious here. Attack the crisis in confidence by driving tax rates lower. We’re going to find out, unless this stimulus bill is changed to something that is more constructive, that ignoring the most potent ammunition policymakers have is a grave mistake.
Have a great day!
Brent Vondera, Senior Analyst
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