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Rainbows over Canyonlands - Dave Stoker

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Tuesday, March 09, 2010

Recovery or Intermediate Bounce?

The faint stirrings of economic activity appearing in the US economy is not unsurprising given where we were a few months ago and the monetary and fiscal response that ensued.

Deficit spending in the form of an $870 billion stimulus bill bailed out several states’ payrolls, extended unemployment benefits to millions, subsidised many ex-worker’s 'Cobra' payments, cut taxes, and funded grants and shovel-ready jobs to buoy local economies.

Twenty-two separate special liquidity programmes, outside of TARP and its $750 billion price tag, were hurriedly enacted guaranteeing commercial paper, asset-back securities of virtually any quality, increasing FDIC insurance per deposit to $250,000, insuring money market funds, plus offering access to the discount window for commercial banks, investment banks, financial and insurance firms. If you could fog a mirror or produce a note from your mother, you could tap Ben’s plastic.

A Quantitative Easing policy was implemented which dropped the cost of borrowing funds by banks to zero and increased big banks 2009 profits by an additional $34 billion. Taxpayers underwrote $1.2 trillion in agency mortgage-backed securities that were purchased to keep interest rates low.

Tax credits were given to car buyers and home buyers, corporation could recapture profits going back five years, and mark-to-market accounting rules were suspended allowing banks to craft the value of toxic assets on their books. One hundred and forty banks went out of business in 2009; four more were shut down last Friday, bringing the 2010 total to 20.

Many were sold to private equity groups that signed shared-loss agreements the FDIC that may place taxpayers on the hook for more money. These banks were not too big to fail. The Calculated Risk Unofficial Problem Bank List stood at 617, last Friday.

Yes, the economic free-fall we were in did abate. But, are we in recovery or is this an intermediate bounce? Here’s a clue: for the first time ever, Wal-Mart did not report an increase in sales, year-on-year. Most would agree they are the best merchandiser in the world.

The M-2 money stock as reported by the St Lewis Federal Reserve Board was near an all time high last year only for the economy to scratch out minimum results. As you can see, going forward, there will be a lesser amount of stimuli flowing into the economy, therefore, less liquidity to propel earnings growth for this cyclical bull rally.

Consumers are still repairing their private balance sheets. Less credit is being utilised by consumers. Savings’ is up while flows into equity mutual funds last year were a net negative figure. Moreover, high unemployment equals fewer paychecks which mean fewer 401K and IRA contributions into equity mutual funds – but not bond funds. At this point, going into a bond fund is akin to running up the staircase inside a burning house.

All, but the die-hard trader, and clients with convincing advisors promising a return of the bull and their principal, have decided to take a rest from getting rich via the stock market. That gamble paid off from last March until recently. Before the average investor comes roaring back in droves to the market, I’m afraid equities will be compelled to show more than the 2009 bounce.

And, before stocks can move higher on a sustainable basis, the economy must display true organic growth – and this it cannot do. Our disesteeming view of the European debt crisis cannot prevent the inevitable; a surging dollar short-term wreaking havoc on US exports, thus slowing the economy, and, possible seizing the international credit system.

There are entities that would love to poach Greek assets for pennies on the dollar in similar fashion to the erstwhile assets of Bear Stearns, Lehman brothers, General Motors, and AIG. Consequently, a putative resolution may be premature thinking. At home, state budgets across the nation will go through draconian cuts this year further adding drag to the recovery. One or two will default on their debt temporarily causing a non compos mentis municipal market.

Making money in the stock market in 2010 will take hard work and much luck. We did not mention the machinations of an election year.

Frankly, not losing money on the long song side of the market will be reward in itself.

Come to think of it, 2009 wasn’t a day at the beach either – unless it was Omaha Beach.

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