Financial Skeptic Bulletin, 2010

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Q3 2010 Predictions (July, 2010)

General consideration

• Growth is downshifting from the rebound phase, but unclear how much. Probably growth will not fall of the cliff before elections. But there is a general anxiety about this slowdown in the air.  That means bonds prices probably will remain elevated and yield depressed (or "normal" as in "new normal"). But that does not mean that, say, Pimco Total Return prices remain on the current levels.  See Potholes in the Recovery Road - Reduce Speed Ahead Paul Kasriel Safehaven.com Jul 9, 2010
• Per Paul Kasriel: "Although we had projected declines in state and local government spending for 2010, the budgetary problems are even more serious than we had assumed. "
• Probability of deflation is higher, growth will slower as US needs to stop living belong its means.
• Emerging markets are growing and is some future may boom and form a bubble. 

Q2 2010 Predictions (April 2010)

1. General considerations.

   • They will be kicking can down the road. While this is an election year opposition to the current elite is weak and the elite is sleeping at the switch and is not inclined to pursue any real reforms of financial sector which remains a huge drag ("finance tax") on a real economy.   Speculation continues (credit-default swaps, derivatives, securitization.). They just want to kick the can down the road.

   • America’s economy shows worrying signs of weakness (common to other developed countries): it  lacks a credible strategy for longer-term growth. Incomes in the middle-income range for most Americans have stagnated for more than 20 years. The challenge of the future is economic growth that does not depend upon resource depletion or pollution. The question is how we get to a service economy without becoming a servant economy: were workers are employed providing personal services to significantly richer folks then the providers themselves (table servers at white linen restaurants, etc)

   • Oil price remains high and that makes sustainable recovery impossible. So it's just a question of time when relapse happens.  That complicated establishing a viable industrial policy.

   • Outsourcing remains an important factor. The availability of low-cost, highly disciplined labor force (no strikes) in developing countries reduces the incentive for companies to invest in technologies that enhance labor productivity in the manifacturing  sectors of the advanced economies. That results in changing composition of advanced economies with higher and higher weight of service sector.

   • Municipalities are broke but will be kept alive as zombies.  Municipalities are broke and with pension obligations cannot finance many projects worth financing: austericity on municipal level translates into pull back for the whole economy.

   • Export based growth can't materialize as manufacturing was severely weakened.  So there is no real driver for recovery. Due to outsourcing manufacturing is vanishing in the US, a trend that must be reversed. The question is how. Crosspollination between R&D, product development and manufacturing is lost...  Employment stagnate. Income distribution  move toward higher inequality the social contract  eroded.

   • Three separate but related forces are now threatening economic activity: a credit market crisis, a decline in house prices and home building, and a reduction in consumer spending. {plus huge unemployment -NNB} These developments compound the general weakening of the economy earlier in the year, marked by slowing employment growth and declining real spendable incomes. Liquidity Now! - WSJ.com

2. Double dip postponed till late 2011 or even the second half of 2012 or as they call it "hunt for the Red October".

   • Bonds

     • All bonds will do well in 2010.

   • Stocks

     • S&P 500 might experience a double dip.
        

3. Housing will continue to deteriorate in 2010, unemployment will drive foreclosures higher.

   Supporting evidence:  A Few House Price Forecasts

   11/20/2009 | CalculatedRisk

   From housing consultant Ivy Zelman commenting on the MBA Delinquency report in the NY Times U.S. Mortgage Delinquencies Reach a Record High

   "I’ve been pretty bearish on this big ugly pig stuck in the python and this cements my view that home prices are going back down."

   From Bloomberg: Housing Recovery in U.S. Set Back to 2010 as Market Wanes

   “I don’t think the housing crisis is over,” Mark Zandi, chief economist with Moody’s Economy.com, said in a telephone interview. “I think we’re going to see another leg down.”

   From Goldman Sachs chief economist Jan Hatzius in a note to clients: A Renewed Sag in the Housing Market (no link)

   "Our current working assumption is a 5%-10% drop in home prices through the middle of 2010. ... house prices and credit quality ... to weigh on the US financial system, the availability of bank credit, and ultimately the pace of the economic recovery."

   My view is that house prices might have bottomed in some non-bubble areas, and also in some low end bubble areas with high foreclosure rates, however I expect further price decline in many mid-to-high end bubble areas.

Disclaimer: This page is mainly an exercise in self-education that was made available to others in a hope that it might be useful. The stories on this page are financial blogs stories picked by me from the Internet; in addition to being late some or most represent a typical market noise that is mostly irrelevant. You are warned !

Please read them critically and apply sound judgment. Very plausible stories and explanations can in retrospect be dead wrong. All 401K investors should be warned about the 95% rule, which states that about 95% of what you read about finance and economy is either wrong or irrelevant. In investment, 95% is probably a very conservative number. This site is no exception...

How 2009 predictions fared

1. [Wrong] The country was on the wrong track for too long. Financial crises is the payback for excesses and will hit 401K investors in 2009 regardless of whether you are a saint or a sinner. Losses can be substantial.

   Reality check: Not only this prediction was fuzzy, it looks like this prediction is completely wrong. 2009 was an up year for 401K investors no matter in what class of instruments they were invested. Bond investors probably are up 7% or so, "all equity investors" (those reckless fools decimated in 2008 :-) 20% or so.

2. [Wrong] For 401K investors, who are baby boomers, it might be better to stay out of the way for the next year.

   Reality check: This prediction was completely wrong. Those who converted everything to cash at the end of 2008, realized 2008 losses without enjoying 2009 gains. The only exception was gold. Some trading would be very beneficial for 401K accounts. Investors who stayed in equities got back approximately 20% of losses (which were in 2008 approximately 28%). Total loss in comparison with stable value funds for two year period is still substantial but it is much less for those who participated in the rally.

   Unfortunately most 401K investors were burned too badly in 2008 and as of November 26 bonds funds have attracted $315bln of new inflows while there is virtually no inflows into equity funds. This Fed financed and zero rate induced rally was for and by Wall Street sharks not a regular 401K investor.
   

3. [Right, but with a caveat] Dollar might be structurally weak and that prevents stabilization. Joseph Stiglitz consider dollar to be doomed, but euro not up to the task of global currency either.

   Reality check: Dollar his 2008 lows in November 2008, but few 401K investors participated in related gold rally. Actually gold was not recommended in this advice/prediction.

4. [Partially right but too fuzzy] Pervasive lack of confidence in government and financial institutions created no-win situation on many fronts [NC, July 22, 2008]. Merrill Lynch recently warned that the United States could face a foreign "financing crisis" within months as the full consequences of the Fannie Mae and Freddie Mac mortgage debacle spread through the world. Hiroshi Watanabe, Japan's chief regulator urged Japanese banks and life insurance companies to treat US agency debt with caution.

   The financial crisis continues to create victims. This is not only Peak Oil but Peak Credit. Not only people but also crazy but dominant ideas like market fundamentalism will go the way of Baer Sterns. The idea that financial markets are efficient now looks very unconvincing, to say the least. This is not a liquidity this is solvency crisis. The banks now have deep and justified concern about the solvency of their peers...

   Reality check: there was no foreign financial crisis in 2009. Lack of confidence pushed gold to new highs. Market fundamentalism is really dead now, including absurd idea that markets are efficient. Looks like banks are still hiding losses and many small banks were closed, but none of big banks went bust in 2009.

5. [Completely wrong, at least for 2009; might be true for "in a long run"] Equities are undergoing structural change with new (and few) winners and many (mostly old, established firms) as losers; they are probably further to fall from June 30, 2008 level. Earnings growth will be harder and harder to get. From one hand we should never discount the resilience of the US economy. There are a lot of companies which are positioned well to weather this period. Still the majority of fund managers dismiss hopes of double-digit earnings growth this and next year as "fantasy".

   It was financial sector propelled by government which rallied. As rotten as they are, they were the top dogs in 2009. Also power of cost cutting was such that it increased revenue of many companies who the whole 2009. Unemployment hit double digits as a result.

   No "multiple bankruptcies and liquidation" for U.S. airlines in 2009. Auto sector benefitted from "cash for clunkers".

   S&P500 is up from 900 for 1100 for a year.
   

6. [True] Consumer is done. While consumption in the USA is dominated by rich and as such is resistant to downturns even high net worth families appeared to be cutting their discretionary spending on luxury goods and services as the global economy slows (Financial Times). Long term, Americans may have no choice but to spend less, save more and reduce debts - in short, to live within their means.

   Not that dramatic but consumer is retrenching and saving rate increases.
   

7. M&A mania is over. Stock prices were partially (especially in 2007) driven by debt expansion and M&A wave. M&A craziness is over and the money supply dwindles.

   Not only M&A mania is over, chicken will come to roost in 2012-2013 (five years loans need to be refinanced on new terms).

8. [True for 2009] Approximate time for bottoming of real estate is probably another 2-3 years (2011-2012).

   Still there is not bottom. Government subsidies propel sells but foreclosures are still rising.

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