Tug of War in the Economy and Markets
11/11/2010 2:30 pm EST
Today’s markets and US economy seem to be suffering from multiple personality disorder.
The outgoing, optimistic Mr. Market is focusing on a slight but steady improvement in job growth and stronger spending, particularly by more affluent consumers.
His gloomy friend, Ms. Economy, says GDP growth remains weak, unemployment looks intractable, and the housing catastrophe will depress overall consumer spending for years to come.
Who’s right? Well, both, of course, and the outcome of their battle will determine how far the current bull market will go and how long it will last.
Count me among the optimists for the next couple of years, at least, although I think we could see a correction in the weeks ahead, as I’ve written here.
But I’m still looking over my shoulder every time stocks make new highs, because the bears have some powerful arguments on their side—and they’ve often been right.
First, the good news. There are clear signs of economic recovery, though it’s far weaker than the recoveries we saw in, say, the 1980s and 1990s.
Last week’s jobs report showed private-sector job growth of 159,000 in October, and employment in the private sector has grown by 1.1 million since last December, according to the Bureau of Labor Statistics.
Those new hires—and current employees who may be less anxious about their jobs than they were, say, last March—are spending money again.Affluent and upper-middle-class consumers are definitely opening their wallets, as we suggested they would earlier this year.
While moderate-priced retailers like JCPenney (NYSE: JCP), Kohl’s (NYSE: KSS), and Dillard’s (NYSE: DDS) reported declines in same-store sales this month over the same four weeks a year ago, their tonier brethren told a different story.
“A resurgence in luxury spending seemed to have legs,” The New York Times reported.Coach (NYSE: COH), the epitome of “affordable luxury,” shot the lights out last quarter. Starbucks’ (Nasdaq: SBUX) stock has more than quadrupled from its late 2008 lows, while Whole Foods Market’s (Nasdaq: WFMI) shares have risen nearly fivefold during the same period.
And bigger-ticket items are starting to move, too.General Motors, on the verge of an initial public offering that will return it to the markets and dilute government ownership, just reported net earnings of $2 billion in the third quarter, its best quarterly results since 1999. US total vehicle sales could top 12 million this year (nearly a 40% increase from 2009), and the average price for a new car hit $28,360 in October, up from $27,130 in July.
Air fares, too, are rising.
“On some routes, fares are up to 59% higher than last year for travel before Thanksgiving and up to 40% higher before Christmas,” according to USA Today.
Clearly, more Americans think it’s OK to go on vacation again, and airlines’ capacity cuts during the recession have created a squeeze on available seats.
We found this out first hand when we started booking a family trip to Disney World right around winter break. Air fares were much higher, but the real shock was rental car rates.
Like the airlines, rental car companies slashed their fleets by an estimated 25% during the recession, and now that consumers are travelling again, more of them are renting cars—without corporate discounts. Hence, the higher prices.
The good news: Travel, a highly discretionary area, has come back strongly.
NEXT: The bad news
And then there’s the bad news, for which I turned to Gary Shilling, the noted economist and perennial prophet of doom. His very early warnings on the housing and credit bubbles were more than prescient, and his three-decade-long bullishness on long Treasury bonds has been amply rewarding.
Shilling has written a new book, The Age of Deleveraging, which offers the economist’s take on the causes and effects of the present crisis and what investors should do about it.
Having interviewed him many times and read his newsletter regularly, I’m pretty familiar with his arguments. Still, I found the book a valuable, comprehensive view of the very big-picture trends that created the financial crisis and which he thinks will drag out its effects far longer than most of us expect.
The key for Shilling is the nexus between unemployment, housing, and consumer spending.
He thinks the economy was propped up by a credit bubble for the last 30 years, which encouraged speculation first in stocks, then in housing, and now in commodities (for those who are still solvent).Of all those bubbles, housing had the most devastating effect on the largest number of people. Housing prices nationally have fallen 25% from their peak in June 2006, almost identical to the decline during the Great Depression!
But Shilling thinks prices may have another 20% to fall as markets, propped up for the last couple of years by incentives and other failed government programs aimed at keeping people in their homes, find their natural price levels. He expects housing prices to decline through 2012 and then begin to recover slowly.
Plus, nearly one in four US homeowners, 23.2%, now have “negative equity”—they owe more on their mortgages than their homes are worth. If Shilling’s right, that percentage will rise.
Meanwhile, unemployment is likely to remain stubbornly high, largely because offshoring and ever-greater productivity have permanently changed the economy.“We don’t have that manufacturing base where you had people laid off when recessions hit, and once the inventory excesses were liquidated,…employment picked up rather quickly,” he tells me.
Also, the housing market’s continuing woes are exacerbating the problem. One-third of the unemployed are also under water on their mortgages, preventing many of them from relocating for new jobs.“You have labor immobility—that’s a new feature in the American landscape,” observes Shilling. He says the fallout from the crisis—high unemployment, chronically weak housing prices, and declines in asset values across the board—are forcing Americans to save like crazy to secure their financial futures. “Consumers…have a long way to go to repair their finances,” he concludes.
That should depress consumer spending—typically two-thirds of gross domestic product—and put a lid on economic growth for years to come, he believes.
I’m not a big believe in Shilling’s deflation scenario, nor do I agree with him that commodity prices will remain weak; other factors, such as supply shortages and growing global demand outside the troubled US economy, should continue to support the bull market in hard assets for a while.And I don’t think stock prices will remain quite as depressed as he has often predicted. In fact, there’s been enough juice in the world economy even with a sick American consumer to power the Standard & Poor’s 500 index more than 80% higher from its lows last year.
Global growth and corporations flush with cash should keep our stock market and others moving up in a cyclical rebound for the next year or two. But unless our deep problems are decisively resolved, I don’t expect it to last much longer than that.Howard R. Gold is executive editor of MoneyShow.com. The views expressed here are his own, and he does not own any of the stocks mentioned in this column.