Weekly Market Commentary 5-2-2011

May 2, 2011

The Prediction Business

Tim Phillips – CEO, Phillips & Company

Weekly Market Commentary 5-2-11

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The week was interesting enough for capital markets. In spite of all the concerning headlines (gas prices, debt ceilings, birth certificates, Fed press conferences) the equity markets trudged higher. I suspect it was mostly driven by higher than expected earnings reports. According to a Reuters news release on Sunday (May 1st, 2011):

“So far, 324 of the S&P 500 companies have reported earnings, of which 73 percent were above analysts' expectations, according to Thomson Reuter’s data. In a typical quarter, 62 percent of companies beat estimates.” - (“Sell in May and go away? Not so fast” by Angela Moon)

Not bad.

Unfortunately, a rear view mirror commentary isn’t worth very much when you’re in the prediction business. Make no mistake about it, when you invest in the stock market you are in the prediction business.

So the forward looking question in my mind continues to be what happens when the Fed stops their purchase of government bonds? Back in November, I discussed the actual Fed mechanism that details the basics about the Fed program. In short, the Fed is pushing the yield curve down forcing banks and others that hold Treasuries to swap short term, low yield, low risk Treasuries for longer term, higher yield, higher risk lending and speculating.

This has appeared to have happened. Since the beginning of October, the S&P 500 is up 17.2% and consumer credit is up $12.1 billion. The Wealth Effect has certainly been given a chance.

The ultimate question is whether the consumer is in better shape now to sustain economic activity than they were when the Fed ended their stimulus programs in April of 2010.

Recall, the Federal Government had many stimulus programs in place which include:

  • Term Asset- Backed Securities Loan Facility - TALF
  • Troubled Asset Relief Program – TARP
  • Public- Private Investment Program – PPIP
  • Unemployment Benefit Extension
  • American Recovery and Reinvestment Act
  • Car Allowance Rebate System – “Cash for Clunkers”
  • FHA Housing Rescue – First Time Homebuyers Credit

The list goes on and on. You can go to CNN Money for a full list of bailout programs.

Is the consumer better off? Let's take a look at a few consumer indicators:

  • Personal income is up 5.3% YOY
  • Consumption is up 4.6% YOY
  • Personal Savings rate is 5.5% (which leaves plenty of "dry powder" for consumers to absorb higher gas prices and keep on spending)
  • Consumer Credit is up 3.8% YOY
  • Revolving Credit is down only 4.0% YOY
  • Unemployment is down to 8.8%
  • Bank lending on durable or non-revolving assets are up 8.0% YOY

With the cuts made to payroll taxes, accelerated depreciation and other federal tax breaks the consumer might be able to sustain spending at a reasonable pace without another federal stimulus program. The markets will certainly pivot on this issue as more clarity is provided. This is indeed a great time for the prediction business to make intelligent tactical asset allocation bets on whether or not you believe the consumer is juiced up enough to sustain these current trends.

My prediction is they are, but to the tune of 3% GDP, not quite 4 or 4.5% GDP. Just remember, when it comes to the predicting business, the more precise, the more likely it is to be inaccurate.

Thank you for your thoughts and comments, please keep them coming. Send them to: tphillips@phillipsandco.com

Tim Phillips, CEO - Phillips and Company