Thoughts from Joe - August 31, 2012

Top Eight 

1. Bernanke keeps hope alive for QE3, but also points a finger at Congress.  In Friday's speech, Fed Chairman Bernanke laid out a defense of the agency's actions to date, highlighting how an absence of fiscal functioning has hampered the Fed's traditional tools.  He also stated clearly that there is more the Fed could do and their view of unemployment is cyclical rather than structural - meaning further actions would have a positive effect.  I am glad the fiscal irresponsibilities were highlighted, but concerned that the Chairman still believes monetary policy has some teeth.  With this much capital at banks and corporations, a lower cost of funds will do very little to affect the real economy.
2. The Case-Shiller housing index rises a more than expected 2.3 percent in June.  On a monthly basis, prices rose in all 20 cities measured with an annual increase in 18 cities.  My concern regarding the housing market remains unchanged, though recent data are encouraging.  With 1.5 million mortgages in foreclosure and possibly as many as another 8 million behind them (when considering delinquencies and stressed LTVs) combined with a housing finance mechanism that is in shambles and nowhere near the top of Washington's agenda, I find it difficult to believe this sector will achieve solid, sustainable growth in the near future.
3. There are possibly signs troubled eurozone economies are improving.  The linked article describes a study by a German government agency that argues lower wages and lower trade deficits are signs of southern European economies becoming more competitive.  The combination of greater corporate efficiency and consumer economy is exactly what austerity measures are attempting to accomplish.  But lower pay and the ability to consume less are also exactly what detractors from austerity fear.  Maybe the difference in views lies in time horizon:  If you are only worried about today, you hate austerity.  But if you are interested in the long-term viability of your country, austerity can help you compete in the future.  Gee, I didn't know it would be this easy to reconcile these two camps!
4. Household debt fell 0.5 percent in the second quarter and remains $1.3 trillion below 2008's peak.  Bankruptcies are down 16 percent from a year ago, but delinquencies on student loans are up to 8.9 percent of the total $914 billion outstanding.  Considering the circumstances of the job and housing markets, consumers have done an excellent job repairing their balance sheets.  Also, companies are flush with cash.  So what's holding the economy back?  Uncertainty about: Financial and industrial regulation, the European economy, healthcare, a divisive political environment, etc.
5. Consumer spending rises for first time in three months. The rate of increase for July was 0.5 percent after spending the initial part of the summer flat or slightly negative.  Recent housing data is painting a more confident picture for consumers as well, even though consumer confidence surveys are lagging recently.  The consumer will float in the near term until the jobs market can pick up, increasing confidence in income levels.  The jobs market depends on capex spending which is dependent on economic and regulatory uncertainty - not the cost of capital.  The Fed can only affect the cost of capital which is why their efforts will fall flat.
6. ECB President Draghi fires back at the Bundesbank regarding control of eurozone finances.  Draghi's primary argument is that political integration can occur at the same time as economic integration, meaning the ECB shouldn't have to wait for political agreement before gaining more power to affect markets.  Sounds like the ECB wants the power but not the responsibility.  Without a political mechanism overseeing the ECB, who will ensure the ECB does right by the people?  Union should mean both political and economic union.  I see how you can have political union without economic union, but I don't see how the opposite could possibly work or how to achieve both simultaneously.
7. Spain revised growth for past two years - lower, of course.  Total revisions for 2010 and 2011 come to 0.5 percent as reported by the country's National Statistics Institute (I'm sure their name is much cooler in Spanish).  There is a wide history that works against the credibility of European nations regarding both their ability and willingness to perform up to the agreed upon standards.  In addition, the shenanigans perpetrated by Greece to get into the union in the first place were, at least, deceptive.  In this case, however, the revisions fall within the normal boundary that would be expected.  Nevertheless, if you were Germany, would you be concerned about pumping more capital into Spain given the revisions?  They probably don't help.
8. Special dividends are increasing due to coming tax law change.  Companies have announced 80 special dividends this year compared to just 53 in the same period of 2011.  The coming tax increase would shift the long-term capital gains rate from 15 percent to 40 percent.  By distributing excess cash today, before the tax rate change, boards are following their fiduciary duty to serve their shareholders. 

Key Indices

Source: Bloomberg

Looking Ahead

• The holiday-shortened week will include some power packed economic data including August's jobs report and the ISM releases on both manufacturing and nonmanufacturing activity.
• The Democrats take center stage next week with the convention.  Again, it's likely nothing market-moving will come out of the scheduled events.
• Earnings releases include:
  • Tuesday: Finisar Corp.
  • Wednesday: Verifone
  • Thursday: Envivio, Bazaarvoice
  • Friday: Comverse Technology
• S1s filed this week include: Lifelock Inc., OvaScience, Workday Inc.
• There are no innovation sector IPOs scheduled for next week.