Zero Hedge_A Look Back At The Week

8/14/2019 Zero Hedge_A Look Back At The Week

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http://zerohedge.blogspot.com/2009/05/look-back-at-week.html

Friday, May 1, 2009 A Look Back At The Week

Posted by Tyler Durden at 11:31 AMThe week that was through the eyes of David Rosenberg.

1) Largest drop in real GDP since early 1980s

GDP fell 6.1% QoQ annualized in 1Q, well below consensus expectationof -4.6% and even below the BAS-ML forecast of down 5.5%. Allinvestment-related segments of the economy showed significantpullback, reflecting the global recession and the ongoing creditcrunch that is making it difficult to complete projects. Commercialconstruction fell 44.2% in 1Q, which is the largest quarterly declineever recorded going back to the late 1940s. The BEA noted significantdeclines in energy-related drilling projects as well as sharpdownturns in commercial, healthcare, power and communication building.Capex investment fell 33.8%, the 5th quarterly decline in a row andthe deepest decline to date. The residential building sector faredjust as poorly, down 38% in 1Q continuing a string of declines that

stretch back to early 2006, but again the 1Q drop was the deepestdecline so far in the cycle. Inventories were cut by $103.7B in 1Q andtook 2.8ppt from top line growth; however, this was far short of ourexpectations and combined with the weaker than expected final salespace suggests businesses will likely need to slash more inventories inthe months to come.

The one bright note in the report was the consumer, which posted a2.2% quarterly annualized gain, in the first upturn since 2Q 2008.Early tracking into 2Q, however, suggests that this positive pacelikely will not be sustained not surprising amid the steadilyclimbing unemployment rate. The saving rate continued to climb,

resting at 4.2% in 1Q a full percentage point higher than in 4Q. Onthe price side, the GDP price index increased by 2.9%, above consensusbut in line with BAS-ML expectations. The more important consumerprice index fell by 1.0% as expected and the core PCE advanced by ananemic 1.5% q/q annualized while the yearly pace slowed to a 4-yearlow of 1.8%.

2) Nominal GDP declines at a 3.5% annual rate

We must admit to being surprised at the bond market reaction as theyield on the 10-year note retests critical support around the 3% area,

especially with NOMINAL GDP, which has the highest correlation withinterest rates, in contraction phase. Nominal GDP declined at a 3.5%annual rate on top of a 5.8% slide in the fourth quarter of last year.This back-to-back slide dragged the year-on-year trend to -0.5% from+1.2% in 4Q and +4.7% a year ago. This is a historic event, in ourview. Outside of the deepest part of the Great Depression from 1930-33, the only other times that nominal GDP was deflating were in 1938,1946, 1949, 1954 and 1958. While the equity market turned in rathermixed showings during these periods, what is clear to us is that long-term bond yields traded in a 2-3% range with perfect consistency,which could be a signal that at current levels, we could have themakings of a pretty nice buying opportunity in the Treasury market. As

for equities, a client made an interesting point to us in theaftermath of the data. The left side of the V does not surprise anyoneanymore its a done deal. What investors will likely have to see forthis market to reverse course is the right side of the V prove elusive


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and end up looking like an L, an elongated U or a series of Ws.

3) Are the Fed and markets on the same page?

We find it rather difficult to square the Feds press statement thisweek with the extremely positive reversal in investor sentiment overthe past several weeks. The equity market is, as we all know, aforward-looking barometer, and now seems to have gone further than

merely pricing in green shoots, to discounting the right-hand sideof the V. Mr. Market is to be respected, but he is not alwayscorrect. The Federal Reserve does possess the largest US macroeconomicmodel on the planet, and although the central bank acknowledged theobvious (that the pace of contraction appears to be somewhat slower,which was hardly a resounding endorsement for the second-derivativeviewpoint, in our view), it seems to have a much more somber forecastof the economy (that economic activity is likely to remain weak for atime) compared to Mr. Market. Although the outlook has improvedmodestly since the March meeting, the operative word is modestly.In addition, the remain weak for a time quote resonated with us even

if the market has largely shrugged it off. The Fed certainly does nothave a perfect forecasting track record , but lets just say thatthere does appear to be a disconnect between the central banks choiceof words to describe the economic backdrop and Mr. Markets ability tosustain this vigorous rally.

4) Deflation seen as the primary risk

As for Treasuries, the sell-off continues unabated, and came on a daywhen we learned that real GDP contracted at over a 6% annual rate,with confirmation of a deflationary environment with the grossdomestic purchase deflator (GDP deflator ex trade) declining at a 1%

annual rate on top of a 3.9% annualized slide in the fourth quarter of2008. In fact, at no time in the past 60 years have we seen domesticprices fall this much over a six-month span. Perhaps the market wasexpecting that the Fed would announce more in terms of the size of itsbondbuying program (which was not forthcoming) and viewed the pressstatement as a disappointment. But as we have stated, periods ofdeflation in the past were typically met with long-term yields in a 2-3% band with near consistency. The Fed may have tweaked how itportrayed the current climate in the statement, but what it did notchange was its view that deflation remains a risk the Committeesees some risks that inflation could persist for a time below rates

that best foster economic growth and price stability in the longerterm.

The fact that the Fed can state this view, knowing full well that ithas dramatically expanded its balance sheet and the money supply, is atestament to the view that the central bank has been leaning againstthe winds of deflation rather than creating inflation. In our view,the latter will be practically impossible to do in an environmentwhere the underlying unemployment rate is approaching 16% and capacityutilization rates are at all-time lows of 66%. There is simply toomuch slack in the economy, in our view, for us to be worried over theprospect of inflation or a sustained bear market in bonds.

5) March spending decline implies weak 2Q start

Real consumer spending fell 0.2% MoM in March, after upwardly revised


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prints of 0.9% and 0.1% MoM respectively in January and February.Since so much of the 1Q gain was front-loaded into the beginning ofthe quarter it leaves an extremely weak hand-off of -0.4% (March/1Qannualized) heading into the second quarter. Thus the numbers areconfirming our view that the 2.2% quarterly annualized gain in 1Q waslittle more than a short-lived rebound after the extreme bout of riskaversion seen in 4Q. Combined with the decline seen in April retailsales, this leaves our 2Q tracking for PCE at around -2.9%. Personal

income fell 0.3% MoM in March, continuing an almost unbroken string ofpullbacks dating back to last September. Real disposable personalincome (DPI) was flat in March after a 0.3% drop in February, markinga renewed downturn after the boon to real income of the prior 6 monthsas energy prices collapsed. The statistical momentum (March/1Qannualized) of real DPI turned negative in March for the first timesince last September.

6) This rally more rooted in technicals than fundamentals

We remain of the view that this is a rally more rooted in technicals

than in fundamentals and that means that traders may well end upenjoying a further upleg to the 200-day moving average of 970. It ispossible, though we choose not to participate. If you want risk, atleast get paid something for the price of being wrong; for example, an8-1/4% yield on a Baa corporate at least means investors will garnersome income if the consensus view of a second half economic turnaroundturns out to be off base. Everyone loves to point to that 1932-37rally in the equity market when the economy bounced off its lows then again, real GNP had plunged 33% peak-to-trough so there was spacefor a bungee jump and indeed, that stock market rally took place asthe level of economic activity surged nearly 60%. We shall see theextent to which we see such a vigorous rebound this time around. For

all we know, this is not 32-37 but perhaps the hiccup we saw in 1Q31when we saw a 1.1% annualized growth rate followed by a 7.2% pop thevery next quarter. We can only imagine how much excitement there musthave been back then, but the reality is that the recovery in both theeconomy and the equity market was still more than a year away.

7) Homeownership out of vogue

Data from the Census Bureau on 1Q homeownership and vacancy ratesrevealed that the homeownership rate eased slightly from 67.5% in 4Q08to 67.3% in 1Q09. Though down 2ppt from the peak of 69.2% in 4Q04, a

reversion to the long-term average would still suggest another 2-3pptcorrection. To date, the largest correction has been in the Midwest,where homeownership has dropped 3.5ppt from the 74.2% peak in 2Q04. At62.8%, the homeownership rate in the West is now the lowest regionally likely the result of surging foreclosure rates. By age of homeowner,those under the age of 44 years have seen the largest correction inhomeownership, with rates falling to 40% for those under 35 years(from 43.3% in 1Q05) and to 65.7% for those between 35-44 years (from70.1%) this segment was likely the most active in market speculationand/or taking out subprime and Alt-A mortgages during the financingboom. The latest climb in delinquency and foreclosure rates suggestson ongoing shift of households into the rental market a trend that

stands to only add to current vacant housing stock.

19.1M homes stood vacant in 1Q a record figure including over 2.1Mspecifically for sale. Relative to pre-bubble levels, this is an 800K


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overhang of homes that can be expected to weigh heavily on prices forquite some time. In fact, at the current sales and housing start ratesfor single-family homes, it would take over 7 years to work throughinventories. Simply calling an outright moratorium on homebuildingwould require a 125% jump in new home sales to work through thehousing stock in one years time. In short, these numbers indicate awork-out period in the housing market that will likely takequarters/years to resolve even with mortgage rates at record lows and

affordability at record highs.

8) Consumer confidence a hope and prayer

Consumer confidence jumped by the most in 3 years to 39.2 in Aprilfrom 26.9 in March, almost exclusively on the expectation that thepolicies put in place will set the economy on a better glide path.This is still an extremely depressed level of sentiment, down 65% fromthe cycle peak back in February 2007. As such, we reserve judgment onwhether the government policies will actually play out asoptimistically as the US consumer predicts, but in the short term it

is suggesting less of a pullback in consumer spending and a perhapstemporary slowing in the pace of saving rebuild.

Consumer assessment of the present situation rose by 1.8 points to astill very depressed 23.7 in April, with the job assessment (jobsplentiful minus jobs hard to get) up just 0.7 points to -43.4. Thus wehave not changed our forecast for April payrolls of -670K with a0.5ppt jump in the unemployment rate to 9.0%. Future expectationssurged to 49.5 from 30.2, the largest jump since just after the Iraqinvasion in April 2003. The net assessment of business conditionsimproved to -9.7, a 20-point jump from the previous month, which isthe largest delta we have seen in this indicator since the end of the

1990 recession. Employment prospects performed equally as well asbusiness prospects. Notably, however, the needle in income prospectsbarely moved, suggesting consumers remain wary about economic-basedpay such as bonuses, tips and commissions.

9) March home price declines could be set to reaccelerate

The Case-Shiller home price index for the 20 largest US cities fell2.2% M/M in February to stand down 18.6% Y/Y (a let-up from the recorddecline of -19% Y/Y in January). Results were in line with BAS-MLexpectations but a tick lighter than consensus estimates. All 20

markets were in the red for the 6th straight month, with declinesranging from -0.3% M/M in Dallas (-4.5% Y/Y) to -5.0% M/M in Cleveland(-8.5% Y/Y). While the pace of deflation appears to have easedslightly in February, prices were still down -26.3% at a 3-monthannualized rate. Further, sales transactions in March were driven by ahigher share of distressed properties (50% versus 45% in Februaryaccording to the NAR), suggesting that a reacceleration to thedownside may lie ahead.

The hardest hit markets continue be those where sub-prime lending waspervasive and foreclosure rates have surged. Such areas include SanFrancisco, Phoenix, Las Vegas, Miami, and Los Angeles all off by 40-

50% from their respective peaks. At the same time, Cleveland, Detroit,Chicago and Minneapolis were among the cities to post the largestmonthly declines in February, reflecting the spreading nature of realestate deflation. To be sure, malaise in the auto industry was also


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partly at play in some markets and can be expected to continue toweigh heavily on real estate prices in coming months. Looking ahead,depressed demand, tight credit, rising default rates and excessinventories will likely continue to lead prices lower. We estimatethat an additional 10%-15% in downside is still in store, for a peakto trough decline of 40% (versus -30.7% at present).

10) Swine flu a look back to SARS

With the world watching the swine flu situation, we thought it wouldbe interesting to look at the market impact of the SARS breakout inthe opening months of 2003, though we note that this cannot beconsidered predictive for the current situation. SARS certainly didexert a market impact, though it did not last for much more than 2-3months. We also have to consider that at the time, the recession wasover by well over a year and the economy was far less fragile than isnow the case. Plus, the Fed had just announced that it was going tobuild a firebreak around deflation and was on the cusp of cuttingthe funds rate to 1%, and we also had the positive impact from the

initial success in the Iraq war. But what was clear at the time wasthat (i) S&P food processors fell 15% as the stock market was buildingits base, and along with that we had airlines down 20%. Thehotel/leisure/tourism segment of consumer discretionary pulled back15% as well. The best hedges were pharmaceuticals, which rallied15%, and gold, which rose 10% during the peak of the pandemic.Emerging market equities were clocked, with the near-25% slide in theKorean Kospi at the time was just one indication. Commodity pricesdropped 10% while bond yields managed to rally 100 basis points(though keep in mind that the Fed was still in the process of cuttingrates).

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Zero Hedge_A Look Back At The Week