Tuesday, June 1, 2010

Question 2: Is There a Meaningful Recovery Going On?

"Brain surgery is not rocket science to a brain surgeon".

Question 2: "Is there a meaningful economic recovery going on out there"?

Short answer: No.
Long answer: Please, read on.

Don't shoot the messenger, folks! I am not a Negative Nancy by any stretch but when it comes to money and investing objective reality trumps headline fantasy every time.

As promised, every few days I'll be answering the four questions I am being asked most often. They are in no particular order and involve subjects that are billed as "complex" or "difficult". Don't you believe it! This stuff, like all stuff, just isn't that hard to understand at its highest level. Can macro and microeconomics be made confusing to the layperson? Sure. But you don't need that kind of drilled-down study to understand the state of the economy and what drives it. In teaching I like to start at one-hundred thousand feet at a place everyone shares common language and then move in closer and closer to the detail as the situation warrants. For example, if I am teaching the anatomy of the arm I start with "this is an arm". I can then move from there all the way down to the individual cell types of skin, blood, muscle, bone, etc. based on the needs of the audience.

To understand the economy and what drives it we can begin with language everyone understands. The main driver of the economy is you and me. It is a simple circular relationship. The more confident we are in the economy the more confident we are that we will keep our jobs. The more confident we are we will keep our jobs the more likely we consider it to receive raises and promotions. The more confident we are we will keep making more money the more likely we are to spend money on products and services. The more we spend on products and services (demand) the more products and services are offered (supply). The more demand for supply the more companies need to hire workers. The more workers companies hire the lower unemployment gets. The lower unemployment gets the more working people there are who want to spend further driving up demand. Now full circle, the more confident we are in the economy the more confident we are that we will keep our jobs....

It really is that simple. Now, there are boatloads of economic releases that come out each week, month, quarter, year. There is GDP, the unemployment report, housing starts, consumer confidence index, new home sales, existing home sales, new housing permits, first-time jobless claims, factory orders, manufacturing index and on and on and on... What I want you to realize is that for all the data gathered, analyzed and reported on they all have just one common objective. It is to see what kind of mood you and I are in as consumers. If we can determine what kind of mood the consumers are in and what their spending patterns are we can predict which way the economy is likely headed. If unemployment is headed down, personal income is increasing and GDP is rising it is a darn good bet that good times are-a-comin'.

While headlines are useless for anything other than spin we don't need to delve too deeply into the latest batch of anecdotal or objective data to see what's really going on out there.

The perception is that taxes are going up, inflation has no choice but to rise, interest rates are about as low as they can get and unemployment is forecast to remain well above 8% for the foreseeable future. With the notable exception of some early, cautious loosening of liquidity in the M&A space, there is not a single ingredient common to healthy economies much less economic recovery.

Objectively, we don't need to dive very deep into the latest economic reports to get a sense that the anecdotal observations appear to be supported by the objective data.

The jobless rate is hovering around 10%. {Release site: www.bls.gov} That is bad enough. When we factor in the under-employed and those who gave up looking the rate is about 17% with no relief in sight. Even worse is that those unemployed for more than 26 weeks are at historic levels and workers who are 25 years and older with a bachelor's degree or higher are out of work at rates never seen since the statistic has been kept (near 5%). This group, in particular, is the group most likely to spend on big ticket items, feel secure and start new companies. The media attempted some positive spin on the rise in unemployment from 9.7% to 9.9% and we could hardly believe our eyes and ears. The statement that the rise in unemployment is a sign of optimism on the part of workers is ludicrous. It has a great deal more to do with the possibility of unemployment benefits being discontinued and, remember, they are looking for work not finding it. Hey, maybe that's why the percent of unemployed people WENT UP!!??!!

The Gross Domestic Product (GDP){Release site: www.bea.gov} numbers are not as rosy and bright as you have heard in the media, either. The GDP for Q1 2010 was "predicted" to be 3.4%, came in on the advanced estimate at 3.2% and was revised down to 3% at the second reporting in May. Strip out increases to inventories (stuff made but not sold) and we are at about 1.6%. The best indicator of consumer demand is "final sales of domestic product" found in the addenda section of Table 1. The latest estimate is that it grew at a paltry rate of 1.4%, revised down from an initial report of 1.6%. Blue World expects a further downward revision at the final release on June 25th.

There are many other indicators showing similar data. Those mentioned above tend to be the more headline grabbing names. We simply don't see any fundamental catalyst needed to drive a sustainable or vigorous economy. On the contrary, there are ongoing significant threats not the least of which are continuing foreclosures, a looming commercial debt crisis and a flood of newly printed money in the face of rising federal deficits. The objective data just does not support the existence of a robust, or even modest, recovery underway. We have a problem with the concept of a "double dip" recession when the data does not indicate meaningful emergence from the first drop.

Objective data not headlines, friends. Keep an eye on your money. "D - fence" is still our chant.

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