Tuesday, February 23, 2010


The Conference Board issued the Consumer Confidence Index this morning, which dropped from 56 to 46, the lowest in ten months and the biggest one-month drop in history, even larger than after 9-11. There have been grumblings about their methodology for many years, but today’s reading is so un-realistic that I feel safe in dismissing it.

This afternoon, many of us were watching the Treasury’s sale of $40 billion in 2-year bonds. When they have trouble selling bonds, interest rates will likely start rising. To everybody’s relief, there was a huge demand. In fact, they could have sold $3.33 for every $1 they wanted to sell. However, I think that is also misleading, as investors who were spooked by the weak reading on the Consumer Confidence report this morning, ran to the safety of Treasury bonds this afternoon. This is a good day to simply ignore the data! I still expect the market to trade within a 10% band until the middle of the year, before beginning a slow rise. We’ll see . . .

Friday, February 19, 2010

A Shot Over the Bow

Last Wednesday, during the snowstorm that shut down Washington, something odd happened. Even though the testimony of Fed Chief Ben Bernanke was cancelled, the Fed still released his planned comments anyway, which laid out their tentative plans to remove stimulus from the economy, beginning with an increase in the discount rate. This Thursday, the Fed, as promised, raised that rate by a quarter-point. This is the rate charged to banks needing quick cash. At one time last year, the Fed had issued over $500 billion in these short term loans. Today, it is less than $30 billion and relatively unimportant. So, why did the Fed do this, since so few banks will be affected?

One reason is to flatten the yield curve a little. The difference between two-year and ten-year Treasury rates is a historically high 2.9 percent. This is a subsidy to the banks, who can borrow very cheaply, while lending money out expensively, creating a fat margin of profit. Apparently, the Fed believes the banking system no longer needs the subsidy, which would be a good thing.

Another reason is to encourage China to continue buying our debt. Their holdings of our Treasury debt has stabilized, and we need them to continue buying confidently. Since our bonds are denominated in dollars, China was losing money by holding dollars when the dollar was depreciating. Yesterday’s action is very bullish on the dollar and should help the Treasury to sell their bonds.

More importantly, inflation is much harder to control once inflationary expectations have been created. Many analysts, such as myself, believe inflation is inevitable and maybe even desirable. To keep that inflationary expectation from growing, the Fed last week laid out their plan to curb inflation and implemented the first step this week. They want to demonstrate their conviction to combat inflation, and I wish them well.

The next step is likely to be an increase in the interest rate that the Fed pays on bank reserves it holds at the Fed, which is a more important step. A big increase would encourage banks to leave money in reserve at the Fed and not to lend money into the economy, which would further dampen inflation expectations. Logically, the next step would be taken when unemployment is not such a problem, but inflationary expectations would have already hardened by that point and would be too late. When that happens, it is time to sell any long term bonds, quickly.

While this was clearly a warning shot over the bow, I don’t think they are ready to dampen the economy anytime soon. While I think inflation is still the most likely and most desirable outcome, the Fed has reminded us that they do indeed have the power to prevent it. (Think: Paul Volcker) But, do you think they will? . . . in this political environment . . . with stated unemployment at 9.7% and under-employment at 17% . . . when core CPI inflation is only 1.6% . . . I don’t think so!

Thursday, February 11, 2010

A Tiger Changes His Stripes....?

Dr. Nouriel Roubini is widely known as “Dr. Doom” after being the lonely voice predicting the Great Recession. Today, he actually found reason to be optimistic, i.e., the return to growth in global trade.

In 2008, global trade grew 3%. In 2009, it actually contracted by 13%, the first contraction in 27 years. Today, he predicted global trade will actually increase 4.5% to 5% this year. This would be good news, indeed! Take a look at the Baltic Dry Index, which measures shipping rates and is often used as a de facto indicator of globalization.

We’re unlikely to see the euphoria of early 2007, but we can hope . . . especially if “Dr. Doom” is right

Wednesday, February 10, 2010

Waiting for the Fat Lady to Sing.....

Wall Street is always climbing a “Wall of Worry”. The current one is the Greek debt crisis, and it does indeed have the potential to be a big problem. Fortunately, it is becoming increasingly apparent that it is definitely in the best interests of the entire European Union to keep Greece from defaulting. While the EU constitution expressly forbids direct assistance, there are many indirect ways to do so. Now, there is a feeling that Greece must not get off too easy and must “twist in the wind” for awhile. It is also important the other nations see Greece suffer before they ask the EU for help. I'm now confident this problem will be solved satisfactorily . . . but not as soon as the market would like.

So, don’t expect this opera to end soon! This still has the potential to become a heart attack and therefore will hang over the market for awhile, which is just fine, since the market is ahead of the economy anyway.

Sunday, February 7, 2010

Pearls of Wisdom...?

Thinking back on President Clinton and President Bush sitting together as friends to discuss lessons learned in life, there are two observations that stick in my mind. First, President Clinton said that, as he aged, it becomes increasingly important to talk with others long enough to find something they agree about. Of course, it is easier to renew a discussion if the last one ended pleasantly. Second, President Bush said the only way he could save the American financial system and prevent a depression was to “swallow my principles”. i.e., minimize Federal involvement in the economy. I could see that caused him a good deal of anguish. Clearly, he did the right thing . . . but is it ever right to expect a person to swallow their principles? Or, do we have the right to expect others to swallow their principles for the good of everybody else?

Saturday, February 6, 2010

Chest Pains...?

Some analysts worry about a double-dip recession. While I am not worried about that, I do worry the economy will suffer a “heart attack”, which usually comes from the world of finance. For the last 10 days, the world markets have worried about sovereign debt. This is definitely a chest pain and should not be ignored. The problem started with the PIGS (Portugal, Italy, Greece, and Spain) and should be contained within Europe. However, we remember the “Asian Contagion” a decade ago, when a regional problem spread throughout the world. That could definitely happen again, starting in Europe.

But, there is a difference. Asian had no European Union, to backstop individual countries. This 11-year-old Union of 16 nations cannot allow one of their own to default on its debt. So, when do chest pains stop and a heart attack begins? If the European Union does not help their sick members, I will be selling stocks. It is not imminent as Greece has two bond issues this month. If they sell easily, there may be little for the EU to do. If not, it will be time for the Union to step up to the plate. If they don’t, there goes the Union, and there goes the Euro! They have no choice.

Saying the financial sector is unhealthy is like saying your heart is bad. As Bob Doll, who is Chief Investment Officer of massive BlackRock, said yesterday “this is not the last credit problem we’ll hear about”. He’s right . . . unfortunately!

Friday, February 5, 2010

Remenbering Civility

I try to use this blog to discuss economic events and changes in the investment climate, hopefully in an understandable way, preferably with a touch of whimsy. I assiduously avoid talking of personalities, with the recent discussion of Bernanke being an exception. But, I cannot resist this opportunity.

Long time readers know my greatest fear is that America is no longer governable, that our unique brand of democracy has become obsolete. The D’s and the R’s of DC have so polluted the “Well of State” that we are no longer governable . . . by anybody! Today, I was fortunate to listen to President Bill Clinton AND President George W. Bush sit on the stage together and talk. That’s all, they just talked like two old friends.

During the terrible tsunami a few years ago, President Bush (41) and President Clinton became good friends. (Clinton even slept on the floor one night, so the older Bush could use the one available cot.) That friendship has continued to grow over the years. Now, President Bush (43) and President Clinton are working together on relief for Haiti, and they have also become friends. Am I more surprised or shocked? When President Bush told his mother, Barbara, he was on his way to appear with President Clinton, she instructed him to “say hi to your step-brother”.
Do you hear the theme song from Twilight Zone playing?

Cats and dogs can play together, like it used to be in Washington when elected officials were civil to each other, before gerrymandered districts insured the election of extremists from both parties, before elections required officials to return home every weekend to raise funds instead of networking with fellow legislators of both parties, and before each party had their own cable channel.

Clinton was not surprising. His responses were thoughtful, sensitive, nuanced, but ponderous. (However, he did look much older and had an alarming amount of age spots on his hands.) Bush was still “preachy” in his responses but absolutely stole the show with some great one-liners. For example, when asked how he would have prepared differently if he had known he would someday be President, he replied that he “would have been much better-behaved in college”! Where was this guy during his eight years in the White House?

Anyway, I’ll talk about their policy differences another time. For now, it is simply uplifting to see politicians being decent and civil to each other. Of course, neither one lives in Washington any longer . . .