12 Sep 2003 Economy’s Balance Improving
The S&P gave up a half a percentage point this week while the NASDAQ declined by .64%. The economic news was mixed and gave little boost to the market in either direction. Retail stocks led the decline as some investors and analysts fretted that the increase in mortgage rates would slow refinancing, thereby reducing a major source of consumer funds. Another factor weighing on the market was the release of yet another bin Laden tape on the eve of the 9/11 anniversary.
As the day went on yesterday and the odds declined that there would be a terror event here, investors relaxed and stocks rallied. Specifically, retail stocks reversed their declines as buyers recognized the fact that while mortgage rates were up in relative terms, they are still historically low. And three rounds of tax cuts have not yet delivered their full benefits to consumers.
Consumers demonstrated more confidence in their income situation this July as they borrowed more money. Borrowing through credit cards, auto loans, and other non-mortgage personal debt increased by 4.1% in July. Consumer spending increased in July at the fastest pace in four months even as the economy lost 49,000 jobs. Currently, consumers’ actions reveal a greater confidence in the economy and their individual situations than do the surveys designed to measure their confidence. The University of Michigan just released its consumer index showing that consumer confidence slipped a bit from 89.3 last month to 88.2.
The increase in consumer spending also boosted the U.S. trade deficit to near record levels again in July. The U.S. economy is growing faster than those of its major trading partners in the European Union and Japan. However, the decline of the dollar in the first part of the year is helping to makeU.S.exports more affordable overseas and containing the growth of the deficit.
What this recovery has lacked in the past is balance. The consumer, who represents 70% of the economy, has carried most of the load while business, particularly manufacturing has been in decline. But there are signs that the business sector is finally beginning to recover. The past several weeks of government reports and corporate earnings reports have shown improvement in an increasing number of industries. But managers remain very restrained in their optimism about the near-term as the record low level of wholesaler inventories indicates. Businesses aren’t yet having trouble keeping up with demand. But as Fed governor Ben Bernanke said last week in a Bloomberg interview, “companies have drawn down stockpiles too far to keep up with rising sales. If the past is a guide, we may soon see a quarter or two of inventory building that provides a powerful boost to the growth rate of output.”
Until that happens, job creation will remain sluggish. The government showed that initial jobless claims increased to 422,000 for the week from 419,000 last week. Companies continue to hold down payrolls, opting instead to increase productivity and cost savings through equipment and software purchases which are cheaper than hiring new workers. But when demand for their products or services begins to outstrip their inventories and their ability to deliver just-in-time, they will be forced to hire again. It’s safe to say that most investors’ eyes, if not all, are on employment reports as the final indicator that the recovery is sustainable.
Another factor that will help businesses recover is pricing ability. If companies can raise prices, modestly, to cover the increases in their costs, profits will increase and they will be more willing and better able to hire additional workers. An encouraging sign came this morning as the Labor Department reported that the Producer Price Index and the PPI excluding food and energy both rose at .4% and .1%, respectively. Rising prices also help quell the fears that the economy is slipping into deflation.
Retail sales rose less than expected in August, due primarily to heavy discounting by auto dealers and slowing purchases of building materials. “Excluding autos, sales have had three really good months. The consumer has been spending a lot more of those tax cuts than we expected” said Tim McGee of U.S. Trust Corp.
On balance, company earnings reports continue to be good as they report actual results, but their outlooks for the future remain cloudy and cautious. No doubt, new regulations holding management accountable for misleading statements partially explain why their future-looking comments are so different than their recent past results.
Those issues aside, the almost glacial nature of this recovery continues subdue risk-taking and investment on the part of many. Almost two trillion dollars waits un-invested, in the wings. Tantalizing ingredients for recovery are in place and the table is set. The invitations are sent. Who will come? We know from Econ 101 that investor appetites for risk and growth eventually improve, but just how long that will take is the eleven trillion dollar question (the size of the U.S. economy). We feel the best course of action here is to continue to invest in reasonably valued growth companies keeping a wary eye on the economic recovery.