In a note this morning David Rosenberg says that all is not how is it appears on the surface. As stocks continue to rally and the economic data is an endless stream of “better than expected” Mr. Rosenberg says not to be fooled – “Things are not really as they appear to be”:
1. U.S. consumer spending in the first quarter is higher because the savings rate has slipped to 3.1% from 4.7% at the end of last year. Organically, spending is actually doing quite poorly and that reflects the fact that wage-based incomes remain under pressure. So, without that unsustainable decline in what is already a low personal savings rate, consumer spending in January would have actually contracted 0.4% and 0.6% in February. In other words, what we are seeing unfold right now is a ‘low quality’ consumer recovery in the U.S., not deserving of the P/E multiple expansion that the retailers have enjoyed in recent months. A sector to clearly fade going forward is consumer discretionary.
2. On home prices, the seasonally adjusted data did indeed show an increase of 0.4% MoM (using the Case-Shiller Composite-10), but the raw data revealed a 0.2% dip — the fourth decline in a row! Now it would be one thing if January was an unusually weak seasonal month for home prices deserving of an upward skew from the adjustment factors; however, from 1998 through to 2006, they rose in each and every January and by an average of 0.6%. But what happened is that home prices collapsed in each of the past three Januarys — by an average of 1.8%, or a 25% annual rate. And, seasonal factors typically weigh the experience of the prior three years disproportionately so what looks like steady gains in housing prices may be little more than a statistical mirage.
3. Consumer confidence (Conference Board version) rose to 52.5 in March and yet again this was treated gleefully on the Street and in the media because it beat the consensus estimate. But here is the reality: in recessions, this confidence index averages out to be 71.0, and in expansions, it averages 102.0. What does that tell you?
4. The ISM index came out before the payroll numbers did and injected a big round of enthusiasm into the pro-cyclical camp. The index did shoot up in March, to 59.6 from 56.5, and while many of the components were up, the prime reason for the increase was the eight-point surge in the inventory component, to 55.3. Moreover, the orders-to-inventories ratio slid to a level suggesting that we could be in for a big pullback in the next few months. Meanwhile, very little attention has been made to the construction spending data, which sagged 1.3% MoM in February with broad-based declines across sectors — and January’s 0.6% drop was revised to -1.4% (the fourth slippage in a row).
5. Stock buybacks are widely (and erroneously) viewed as being a major fund-flow driver of the equity market, and many a pundit points to the 37% QoQ jump (+98% from the 2009 lows) in buybacks as source of comfort. But here’s the rub: The vast majority of companies are buying back their stock to avoid the dilutive effects of expiring stock options — of the 214 companies that did a buyback in Q4, only 50 resulted in share count reductions (see page B2 of the weekend WSJ). Moreover, it really says something about the widespread excess capacity in the economy and poor perceived rates of return on new investments that companies would opt to deploy cash for buyback strategies at this presumed early stage of the business expansion. If there is one trend that is indeed constructive — certainly for our income theme — it is that companies are beginning to pay out more of their retained earnings in the form of dividends — $5.1 billion in net dividend increases in Q1, the most since 2007Q4 (but still down 21% from two years ago).
6. There seems to be this entrenched view now that the government can be expected to come in and resolve all the problems in the economy. This view is deserving in some sense because not only did the Fed and the Treasury break the boundaries between the private and public economy this cycle to bail out the banks, auto sector and housing companies, but they have continued in these efforts despite a record $1.5 trillion deficit. With no other goal, it would seem, than to allow the residential real estate market to clear at lower prices, the government now intends to permanently reduce the mortgage balance for all homeowners who are “under water” and unemployed homeowner mortgage borrowers are also going to be recipient of taxpayer assistance (but not the renter). The problem ahead is that the bond market may no longer be in a cooperating mood to finance all this largesse. With the 10-year yield now pressing against the 4% threshold, we have a crucial week ahead for the Obama team’s financing capacity as a further $82 billion of debt sales are being put to the market for added digestion. Another source of concern for the bulls who continue to rely on government support for the recovery is the general population — the part of the public that took in a mortgage it could afford and never used the house as an ATM. Resentment is starting to build as Uncle Sam is increasingly being viewed as Robin Hood at best, or the Artful Dodger at worst. There were two great reads over the weekend pertaining to this theme of emerging class warfare — Tea Party Anger Reflects Mainstream
Concerns on page A13 of the weekend WSJ and Help Paying Mortgages Elicits Anger on page B1 of the Saturday NYT.
7. While everyone is treating the nonfarm payroll report as gospel, let’s keep in mind that the ADP count showed that private payrolls fell 23k, completely at odds with the Bureau of Labor Statistics (BLS), which claims that this metric was up 123k. Now, we are not going to dismiss the BLS data at all, but wouldn’t it be nicer if both surveys said the same thing? The ADP is a pretty simple concept — and does not have any “plug” factors to try and assume how many new businesses were created or destroyed in any given month. Meanwhile, wages are now deflating and the 0.1% decline in March could be the thin edge of the wedge as the Gallup Daily tracking finds that 20.3% of the U.S. workforce was underemployed in March — a slight uptick from January and February.
Source: Gluskin Sheff
Mr. Roche is the Founder and Chief Investment Officer of Discipline Funds.Discipline Funds is a low fee financial advisory firm with a focus on helping people be more disciplined with their finances.
He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance, Understanding the Modern Monetary System and Understanding Modern Portfolio Construction.