While we believe in a stock market rally mid 2008 because of fiscal and monetary stimulus, we don't believe it will be the start of a new bull market as many predict.
Housing declines in sales and values haven't bottomed as evidenced by the pending home sales index today. Rising inflation costs are hitting consumer pocket books not only in energy but now in food. How are we going to begin a new bull market in stocks if these issues are still keeping the consumer down? Sure, retail sales are up, but that's because prices have gone up in the two things they've been buying: gas and food! A larger and larger percentage of consumer income is going towards necessities, not luxuries.
Source: U.S. Census Bureau
With rising energy prices, I believe one of the best investment themes to play is home entertainment. I think these themes are fantastic: video games, movies, cable, satellite, and internet providers. Costco Wholesale (COST) is another investment along the theme of higher food costs as consumers buy in bulk to save money.
Starting off with today's economic releases, pending home sales fell 20.1 percent from a year ago. The report said that restrictive practices by lenders are adding to the troubles. In addition, foreclosures are adding to supply on the market and pushing home prices lower. I've heard of some homeowners in San Diego contacting banks to work out their upside down loans only to be turned down a discussion unless they're three months late on their mortgage. They must be swamped!
Source: Federal Reserve's Senior Loan Survey
Productivity rose 2.2% for nonfarm corporations in the first quarter. The improvement was based on a drop in hours worked. This suggests that earnings for consumers are slipping. While compensation per hour rose a 4.4% annualized pace, the slippage in hours worked is our main concern that the economy is slowing and nearing a recession (some argue we're in a recession).
Oil inventories rose again last week by 5.7 million barrels, yet crude prices continue to rise. Inventories of gasoline are up 7.6% year-on-year compared with only a 0.3% rise in demand. Refining capacity sits near 85% allowing for ample production needs during the summer. The bullish trend in energy since January of 2007 has been unwavering. One would expect prices to fall now that inventories are rising. I believe the price of oil is more reflecting the geopolitical problems in Nigeria disrupting supply than it is with concerns on falling U.S. demand. Rising energy prices have hit pocket books for consumers and business transportation.
Crude oil's tremendous run since January 2007 is in need of a break sooner or later. It's been an investor's market instead of a trader's market in crude, but that may change as inventories rise and the dollar goes through an intermediate-term rally early this summer. The dollar has clearly broken above its 50-day average for the first time in awhile, but that won't debunk the bear market in U.S. dollars until our economy can find a bottom or a country breaks free of the Euro.
Reporting late in the day, consumer credit rose .3 billion as consumers borrowed heavily in March. That represents .3 billion in revolving credit and .0 billion for non-revolving credit. The non-revolving credit is expected to decline in April based on weak vehicle sales. The rise in revolving credit in the first quarter points towards rising fuel and food costs racking up on credit cards. Despite the drop in the federal funds rate, the consumer hasn't seen much of that reflect the rates he/she is paying on new car loans, credit cards, and home loans. During the first quarter in 2007, the interest rate on a new car for a 48-month duration was 7.74. The last reading was in February 2008 for 7.27. Credit card APR was 13.41% in the first quarter 2007 while they're currently 12.48%. The difference is marginal, yet consumers are borrowing 7.25% more. In many extreme situations, the consumer is walking away from their house in many instances and that could spell trouble for credit cards and car financing. Change in consumer credit is important because it tends to rise at the beginning of a recession as consumers depend more on their credit cards than they do on income to pay for necessities. We see here that debt-to-income and the percent change in consumer credit has been rising since the housing peak mid-2006.
In summary, fiscal and monetary stimulus will help with an intermediate rally in the stock market, but fundamentals are driving at a recession that hasn't bottomed. The consumer is being assaulted on all fronts with declining asset values and rising costs of living. Many adjustable rate mortgages can't be financed because homeowners are upside down on their loans. The housing ATM machine during the last recession is no longer accessible this time around. The only thing the government can do now is inflate its way out of this one, and with the major decline in the dollar over the past year, it looks like that's exactly what the government intends to do.
