December 29, 2005
YEAR-END SECTOR PERSPECTIVE
There are no shortcuts to easy profits in the global economy, but at least there's perspective. That includes freshly minted number crunching from Zacks this week that deconstructs S&P 500 earnings by sector. As we fade into our final remarks for 2005 and prepare for some year-end revelry, we leave you with best wishes for 2006 and a few market tidbits from the Zacks analysis to chew on as you sip grog over the holiday and ponder what comes next.
* S&P 500's total earnings are predicted to rise 10.8% for 2005 and 13.3% in 2006.
* Materials and consumer Staples are the only two of the S&P 500's ten sectors that are expected to post a higher pace of increase in median earnings in 2006 vs. 2005.
* The energy sector--which delivered by far the biggest percentage increase in earnings in 2005 among the ten S&P 500 sectors--is on track to deliver slower earnings growth in 2006. Even so, the improvement will be robust nonetheless, advancing by a predicted 23.3% next year, down from 69.3% this year. The 2006 earnings forecast for energy, although much slower than 2005's advance, is still the highest expected percentage rise among the ten S&P 500 sectors, based on Wall Street estimates. The primary engine of that growth will come from the smaller energy firms next year, or so we're told, namely, the drillers and lesser oil service operations as opposed to the behemoths such as Exxon Mobil and Chevron.
* The financials still carry the biggest market-cap weight in the S&P 500, reaching nearly 21%. That's more than consumer discretionary, utilities, materials and telecom combined, Zacks advises. Financials "deserve to be the biggest influence on the market, since they contribute 25.4% of the total expected earnings for 2006, or more than the total earnings of the Tech, Industrial and Materials sectors combined," the firm opines.
* Energy appears to be "under represented," Zacks notes, based on expectations that the sector will contribute 13.6% of S&P 500 earnings next year while energy's market cap represents just 9.4% of the benchmark.
* Earnings estimate cuts for 2005 in S&P 500 sectors have been concentrated in financial, health care and consumer discretionary.
With all this talk of sectors, how have the relevant ETFs fared this year? Since you asked...
(2005 total returns through Dec. 28 via SectorSPDR.com)
Energy (XLE): 39.2%
Utilities (XLU) 13.4
Healthcare (XLV) 6.1
Financials (XLF) 4.3
Materials (XLB) 2.9
Consumer staples (XLP) 2.0
Industrials (XLI) 1.7
Technology (XLK) 0.2
Consumer discretionary (XLY) -6.9
S&P 500: 3.8
December 28, 2005
Widely anticipated by some, it's at once feared, dismissed, worshipped and condemned in the multipolar world of money management. But no matter your view on the advent of the inverted yield curve, it's here (or, at least it was), and has spawned fresh debate about what awaits in 2006.
But for all the deliberation on what it does or doesn't mean, there are but two basic paths of reaction to an inverted yield curve. One, ignore the event, which paid an ignominious visit yesterday to the Treasury market for the first time in five years. Or, for those with darker inclinations, there is the traditional conclusion, namely, that a recession will soon follow.
There is no shortage of support for taking the latter route. Exactly how we get from here to there is the prevailing conundrum. By most statistical measures, the economy is humming along, and so immediate and obvious signs of slowdown are hard to come by. Scarce, perhaps, but not beyond the pale, to judge by the various warnings of what might go wrong. In any case, pessimists the world over recite the history of economic slowdowns that have followed the inversion of yield curves, a sorry state of fixed-income affairs where short rates exceed long. A recent statistical summary of the bad news can be found in a recent New York Fed appraisal of yield curves and their role as a leading indicator. Among the observations: since 1960, yield-curve inversions have preceded every recession in the United States. (How's that for cutting to the chase?)
As to why one should lead to the other, Paul Francis Cwik took a crack at an answer in his 2004 Ph.D. dissertation, for which research support was provided by the Ludwig von Mises Institute. "As money is injected into the economy, the yield curve steepens," Cwik writes. "The steepening yield curve creates incentives for entrepreneurs to create short-term malinvestments throughout the structure of production, and it misleads entrepreneurs so that they do not terminate long-term malinvestments. These long- and short-term malinvestments accumulate in every part of the economy. When the level of disequilibrium becomes so great, the economy reaches the upper-turning point and heads toward a recession."
To wit, Are you malinvested?
Whether that line of inquiry is informed or not, the stock market seems to have jumped on this pessimistic bandwagon of late. The S&P 500 took a 1% tumble yesterday, presumably in sympathy with the notion that the arrival of an inverted yield curve yesterday, if only briefly, heralds something less than robust economic growth. If nothing else, yesterday's selloff in equities adds fuel to the notion that the 1275 range for the S&P is the new ceiling for the market.
But if recession is coming, why is the Federal Reserve still raising interest rates? For some, the answer is simply, it's not, or at least it's close to ending the squeeze play. The inverted yield curve "suggests we are very close to the end of the tightening cycle," Michael Rottmann, strategist at Hypovereinsbank, tells Reuters. What's more, he doesn't think the inversion signals the onset of recession. Rottmanns' expectations, we can say with absolute authority, represents the bullish ideal for the various scenarios that inhabit the prognostication business of late.
In fact, the March 2006 Fed funds futures is priced in agreement as it relates to Rottmann's outlook for rates, with the contract projecting a rate of 4.5%, or 25 basis points above the current level.
A topping out of rate hikes has obvious appeal, but the implications for the dollar aren't among them. The U.S. Dollar Index suddenly looks tired in the wake of all the inversion talk. Without the allure of elevating yields in the buck to stir the forex pot, the dollar may wilt further if the trade balance continues to deteriorate.
But lest we go too far off the deep end, yesterday's dalliance with an inverted yield curve has yet to prove itself durable. The two- and 10-year Treasuries each sported a current yield of 4.36% in this morning's trading, according to Bloomberg. If the inversion has legs in the days and weeks ahead, all eyes will be on corporate earnings and the various economic reports for clues about what comes next. The housing market arguably leads the top of the list as the leading catalyst that could turn the sunny economy cloudy.
There is no clarity in the marketplace of the 21st century. In its stead are multiple scenarios and an ever lengthening list of risk factors to embrace or dismiss. So many variables, so little time.
December 27, 2005
IN GIANTS WE TRUST
The official word from the two behemoths of oil supply runs something like this: Don't worry, be happy. But when Opec and Russia starting talking of cooperative agreements, the consuming world may want to consider the implications of what, on paper at least, could be the foundation for the new super cartel of the 21st century.
Officially, the news that Russia and Opec will meet annually is all about improving the market visibility for crude oil. And what could be more wholesome than that? Opec and Russia, which isn't a card-carrying member of the cartel, "have a mutual interest in the predictability and transparency of all factors affecting the oil market," a press release dispensed yesterday by the cartel informed. Only the paranoid could question such a union, particularly for one whose self-described goal is to calm the world's consumers of crude.
Whatever the ulterior motives, if any, the freshly announced arrangement is clearly a marriage of convenience, and geologic destiny, with promises of good will thrown in as a bonus. Perhaps there's nothing more to it than that, in which case we can all go home, turn up the thermostat, and settle in for a long winter's nap. But it's the nightmares of what could happen, fueled by history, that keep up us awake. And, so, when Russia, the world's second-largest exporter of crude after Saudi Arabia, teams up with the oil cartel on any level, the coupling is destined to foment reaction in the wider world, and perhaps a rush to turn the thermostat down after all.
The optimistic perspective (from the consumer angle) is that Opec and Russia are worried that a supply glut is once again approaching. Anxiety of that persuasion garners attention among the producers like wolves do with sheep. After the recent bull market in oil, the pumps around the world are currently running at full or near-full capacity. That's delivering record levels of revenue for the producers, and more of the same will come so long as demand keeps pushing higher, the presumed outcome among many strategists. Yes, in the long run, growth, like taxes and new indictments from Spitzer, are a given. The short run, however, is another matter.
The Center for Global Energy Studies, a London research outfit, is among those predicting that the future path of oil prices in the near term is any which way but up. As reported by BusinessWeek, CGES forecasts that the oil bull market of recent vintage is paring demand growth globally, which will soon trigger an Opec response in the form of production cutbacks.
The cartel said as much for next year. "We expect the call on Opec crude to decline in the second quarter to 27.8 million bpd from almost 29.8 million bpd now," Shaikh Ahmad Al Fahd Al Sabah said yesterday via TradeArabia.com, thereby creating a rationale for production cutbacks.
The oil market seems to agree at the moment, with crude oil falling below $58 a barrel in New York futures trading this morning.
But while traders stay focused on the next tick, rest assured that the forces that have driven the Great Game remain unchanged. On that score, Russia's recent inclination to be buddy-buddy with Opec will have repercussions beyond what's outlined in the press releases.
First and foremost is the task of managing supply so that benefits are maximized by the producers and accidents in the form of low oil prices are avoided. Any one who's studied the history of Standard Oil, the Texas Railroad Commission, Opec, and the other key elements of the oil industry's history knows that minimizing the natural cycle of boom-bust that's long afflicted the business is priority one, even in the here and now. Arguably, the boom-bust cycle has evolved in recent years, courtesy of the peak-oil argument. But marginalized or not, boom-bust remains the operating framework by which Opec and Russia lay out their strategic plans.
Russia also has newly hatched (or reawakened?) ambitions for its oil power that extend beyond pure economics. The Kremlin, emboldened by the recent surge of oil wealth in Mother Russia, sees new strategic opportunity as well as profits. Neil Buckley, writing today in the Financial Express, puts his journalistic finger on the point in an insightful essay that's deserving of a wide audience. "After spending the past year bringing key oil and gas assets back under state control, a string of events have shown how Russia is using its petropower," he observes. One example, he continues: Russia plans to cut oil supplies to Lithuania next year "in what analysts see as an attempt to press the Baltic republic to favor a Russian buyer over rival Polish and Kazakh bidders for the strategically important Mazeikiu oil refinery."
Poland? Opec? Mazeikiu? The names are changing, as are the tactics. But the strategic goals are more or less intact from yesteryear as the Great Game rolls on, now playing for a return engagement for its third century of performance.
December 23, 2005
AND TO ALL A GOOD NIGHT...
'Twas the night before Christmas,
when along Wall Street
Not a trader was speaking,
even short sellers were discreet;
The last transactions were dispatched with care,
In hopes of creating one more billionaire;
Strategists were nestled deep in their beds,
While visions of higher trading volume danced in their heads;
And Spitzer with his phone calls, and
Whitehead's reply rap
Had frightened the smart money into a long winter's nap.
But over at the ECNs there arose a clatter;
Forcing specialists to ask, What the heck is the matter?
And away to the Big Board they flew like a flash,
And screamed that their monopoly soon would crash.
The brand was sagging from new competition,
Giving momentum and power and threatening attrition;
But in truth the real change to appear,
Was a fresh choice of venue, for which investors did cheer,
With digital trading, so lively and quick,
They knew in a moment that this was no schtick.
So they sprang to their computers, and mice did click,
To trade on systems where commissions don't prick.
They sang to accountants, to daughters and sons,
All's not lost, save maybe a bank run.
But then one finally proclaimed, ere the trading finally ceased,
Maybe this time, just once, we won't get fleeced.
December 22, 2005
ASSET CLASS SCORECARD
(Year to date through Dec. 21)
Russell Capitalization/Style (total return)
Russell 1000 Value 8.0% <--The rebound rolls on
Russell 1000 7.3
Russell 1000 Growth 6.5
Russell 2000 Value 5.5
Russell 2000 5.5
Russell 2000 Growth 5.2
Russell Microcap 3.0
International Equities (price change, US$)
MSCI Emerging Markets 28.9% <--Still sizzling
MSCI EAFE (Developed Markets) 10.9
Bonds (total return)
10-year Treasury 3.9% <--The one to beat
Lehman Bros. Municipal Bond 3.0
Lehman Bros. Aggregate Bond 1.9
ML High Yield Master II (junk bonds) 1.8
Commodities (price change)
Oil 34.3% <--Momentum leader
Commodities (CRB) 15.0
U.S. Dollar Index 12.5
S&P 500 Sectors (total return)
Utilities 13.5 <--Energy's coattails?
Consumer Staples 3.2 <--Forget discretionary
Information Tech 2.0
Consumer Disc -6.4
Telecom Svcs -8.1 <--The big stumble
December 21, 2005
EVO'S BIG ADVENTURE
How do you know there's a bull market in energy? Governments are salivating over domestic oil and gas supplies.
Straight-out nationalization a la the Mideast in the 1970s is a bit too blunt a tool in a media-savvy world of the 21st century. That forces states to employ a bit more finesse in their "acquisitions." The Kremlin's been a master at this, managing to take control of large chunks of formerly private energy properties in recent years.
The newest member of the club is Bolivia, which just elected Evo Morales as president. As it happens, Bolivia is home to the second-largest natural gas reserves in South America, second only to Venezuela, according to the Energy Information Administration. In addition, the country suffers the ignominious fate of being among the poorest nations in the hemisphere. Those two realities are about to be put to the test, although if history is a guide, there's context to study and respect in such evolutions.
Perhaps, then, it's no coincidence that Bolivia's new chief executive is a protege of Venezuela's Hugo Chavez, another South American president intent on bringing an already nationalized oil industry into closer orbit with the ideals of his Bolivarian revolution, albeit one step at a time. The latest step is Venezuela's requirement that all foreign oil companies form joint ventures with the government, or else hit the road. "Those [companies] that don't accept it," Chavez explained in October, "should pick up their things and go, and hand over all the [oil] wells," according to AP via NCTimes.com.
Bolivia's new president looks likely to follow the Chavez model. Toward that goal, Morales wasted no time in announcing his plans for the country's gas reserves. “Property rights at the well head are over," he declared this week, the Times of London. "That’s finished. We need partners, not owners.” In a nod to the times, including the need for nuance in such delicate matters as taking control of private property, Bolivia's leader clarified his position, counseling, “If [foreign oil companies] accept Bolivian rules, they are welcome as partners. But they cannot be the ones that have ownership control.”
Writing from Bolivia, Jim Schultz of the Democracy Center, a human rights group and a Morales supporter, opines, "If you want to see which way Morales...will govern, keep your eye on what he does on gas and oil." Among the choices: "Will he quickly tell foreign oil producers holding current contracts with Bolivia that all those contracts are now going to be renegotiated from scratch? Will he put Bolivia’s state-owned oil company back into business exploring and exploiting underground reserves?"
These are no idle questions for the foreign companies that have poured billions of dollars into Bolivia over the years in an effort to develop the country's natural gas reserves. The largest player in Bolivia in this capacity is Repsol-YPF, a Spain-based energy company. Perhaps it's no surprise to learn that the company's stock price has been sagging since Morales' election.
As for natural gas prices, there's no obvious effect of late in the wake of Morales' triumph. Then again, natural gas prices had soared previously. Higher prices, of course, make natural gas properties all the more compelling to governments eyeing opportunities for re-engineering existing business contracts. Just ask President Chavez. With that in mind, take note that the January 2006 contract continues to hover near all-time record highs.
The people of Bolivia are obviously enamored with Morales, but the newly elected president has another constituency: traders with long positions in natural gas futures.
December 20, 2005
Western music was banned in Iran yesterday, AP reports via Chron.com. "Blocking indecent and Western music from the Islamic Republic of Iran Broadcasting is required," according to a statement on the council's official Web site.
It's too early to tell what, if anything, the new prohibition means for oil production in the Islamic state. The optimist interpretation is that it's merely culture, separate and distinct from oil. But oil and culture are hardly unrelated in the Middle East. One necessarily bleeds into the other.
From an outsider's perspective, the latest turn of events recalls the era of the 1979 Iranian Revolution. Among the prominent repercussions of that upheaval from a generation ago was a sharp reduction in Iran's oil production and, and by extension, its exports. For a country like the United States, which imports vastly greater quantities of oil today relative to 1979, the unfolding events in Iran these days is something less than comforting.
Still, the leap from music to oil remains a huge and imponderable chasm in the 21st century. Iran still needs to sell oil to fund its economy and satisfy its growing population. Nonetheless, there's reason to wonder what's coming, given Iran's history of political upheaval.
Raising eyebrows of late are the comments from the country's newly elected president, Mahmoud Ahmadinejad. Iran's president is no stranger to controversy since ascending to the post in August. His most contentious remarks came earlier this month in reference to Israel, essentially calling for the Jewish state's destruction and questioning the existence of the Holocaust. The resulting outrage from the international community has since escalated, threatening to isolate Iran while stoking tensions in the Middle East.
Then there are reports that Israel is preparing for possible strikes on Iranian uranium enrichment facilities, according to the Times of London. “Israel — and not only Israel — cannot accept a nuclear Iran,” Israel Prime Minister Sharon warned recently. “We have the ability to deal with this and we’re making all the necessary preparations to be ready for such a situation.” Adding to the anxiety is news today that Iran recently obtained 12 cruise missiles that can be armed with nuclear weapons and are capable of reaching Israeli soil.
Iran's nuclear program has in fact been a growing source of stress between the theocractic nation and the West. And if that diplomatic conflict is any indication, Iran's current government is in no mood for negotiating.
When the 1979 revolution unfolded in Iran, one byproduct was a drastic fall in oil production, from about six million barrels a day in the late-1970s to roughly 1.5 million b/d by the early 1980s, according to the Energy Information Administration. It was no coincidence that oil prices in that period rose sharply.
Iran's oil production represents roughly 13% of Opec's crude output, according to the EIA. And while that output has been growing in recent years, to around 4.1 million barrels per day as of this past August, up from 3.4 million b/d in 2002, the six-million b/d era of the 1970s is still a long way off. World consumption, however, has taken no vacations. Demand, in short, keeps rising, largely unaffected by ideologies. Supply, on the other hand, can fall victim to local politics.
Raising Iranian oil production is of no small interest to either the West or for Iran, which continues to consume ever larger quantities of its own crude as its population grows. The question is whether the recent turn of events threatens future Iranian oil output. On that score, there's nothing new to report other than to wonder if there's new reason to worry.
Lowell Feld, who follows Iran's oil business for the EIA, tells CS that "the prospects for Iranian oil and gas development are looking more uncertain...." That doesn't necessarily mean there's trouble ahead for increasing production, but the future's not getting any clearer, he suggested.
A murky future or not, Iran needs foreign investment to expand and modernize its oil business if it's to offset its natural decline rate of about 500,000 barrels a day, Lowell said. "The question is whether [Iran] can do that under new regime?"
Foreign investment and expertise are almost surely needed, Lowell speculated. Whether the country will be inclined to reach out promises to be a hot-button issue in 2006. One indication of the potential for disorder and confusion on such matters came with the political turmoil that accompanied President Ahmadinejad's three failed attempts to install a new oil minister before his fourth choice was approved by the parliament.
Officially, Iran says that a foreign oil presence is still welcome in Iran, the new oil minister announced last week. But the fact that such announcements are needed at all implies that alternative scenarios aren't necessarily beyond the pale.
Revolution and chaos, history reminds, aren't favorable for boosting oil production. As Lowell points out, after the turmoil the turmoil of December 2002 in Venezuela's state-run oil company, crude output in that South American member of Opec has yet to return to levels recorded before that year-end disorder. Indeed, Iran's pre-1979 oil output also remains an elusive target more than 25 years hence.
History doesn't repeat, but it rhymes, Mark Twain once observed. Will any less be true for Iran in 2006?
One reason for thinking there's trouble ahead comes from the school of thought that reasons that the Iranian president is intentionally trying to isolate his country so as to spawn a defensive mentality at home that rallies around him. In that case, the theory runs, the president will reduce the pressure for delivering on his economic promises that catapulted him into the presidency earlier this year.
"His comments are more for domestic consumption," Saeed Laylaz, an Iranian political analyst, told the New York Times today. "He wants to control the domestic situation through isolating Iran. Then he can suppress the voices inside the country and control the situation."
If so, what, then, will be the price, if any, for oil consumers?
December 19, 2005
YOUR TAX DOLLARS AT WORK
Gold isn't money, we're incessantly told. To which we reply, "Oh, yeah?"
But the argument keeps coming back, unchanging, unwavering. It's a metal, and a barbaric one at that, reason the commodity's adversaries. Yes, they concede, it was once used as a medium of exchange, but those days are gone. We know better now. This is the age of fiat money, which has more or less prevailed for more than three decades since the Nixon administration completely severed the dollar's link with gold.
Government sanctioned or not, gold just won't go away, finding a raison d'etre in poking its finger in the eye of paper money, which has long been promoted as a replacement for the metal that refuses to go away quietly. Indeed, some predicted in 1971 that freeing the dollar from gold would cause the metal to drop to $7 from its then-official price of $35. In fact, the opposite struck, with gold confounding the paper pushers by rising in price.
Today, of course, gold has again crossed above $500 of late, for the first time since the early 1980s. The cries still go out that gold isn't money; it's just another commodity. But defining money isn't necessarily cut and dry in the 21st century. In fact, it's a task that can be downright perplexing. We can't help but notice, for example, that the United States Mint openly advises that it produces "legal tender" gold coins with face values ranging up to $50 for the one-ounce American Eagle. Some might call this money. Legal tender? Gold? Say it ain't so. Alas, who are we to argue with the United States government on the definition of money?
In fact, the feds are a clever bunch when it comes to marketing, selling their legal tender $50 gold pieces at the going rate for (gasp!) gold and then som, which is to say at steep premiums over the face value of the legal tender coins. Lest any one think this is a great scam, rest assured, that no matter what you pay for the American Eagle, it will be accepted for payment by the good folks at Wal-Mart, 7-Eleven, and other fine merchants across the land. The law requires no less. Yes, dear readers, gold is in fact legal tender money by decree of the United States government, and must be received if given in exchange for Junior Mints and Chuckles candies. But in a not-so-surprising development, the coins' use as legal tender money amounts to a perfect record of failure as a means of exchange.
No one in their right mind would spend a $50 American Eagle as $50, given that the gold content is worth ten times that. You might think that the feds have stumbled when it comes to devising denominations of money that will find work for the employment at which the coins were intended. But don't be too hasty here. In fact, we suspect that all is going exactly as planned. As we noted, the government is a clever bunch, and the $50 American Eagle's face value is purposely assigned a value below what the gold content of the coin is worth in the open market. What's more, people are happily paying the premium. It's a win-win situation between government and adoring public. And since the U.S. sits atop the single-largest horde of gold in the world, it's a strategy with legs.
This government's current policy of minting gold coins with severely discounted face values stands in contrast to the past, when Washington stopped minting gold coins with face values that were severely discounted to the underlying gold's value. Minting of the original St. Gaudens $20 gold coins were suspended in 1933. But there too the government has a plan for purging past monetary demons by selling the old "Double Eagles" at prices well above face value.
So, let's review. The government used to mint legal tender gold coins for general circulation but ended the policy when it was clear that the face value didn't keep pace with the rising value of the underlying commodity. More recently, the government began minting gold coins again, this time embracing the strategy of severely underpricing the face value so as to insure (we're speculating here) that no one spend the legal tender gold. What's old is new…again.
The logic in all of this is debatable in discussions of the prudence of design and deployment of a national monetary system. But when it comes to the claim that gold isn't money, there's a large institution that suggests otherwise…sort of.
December 16, 2005
IT'S ALL ABOUT CORE AFTER ALL
Pointing out headline inflation's ascent of recent years has been a fruitless exercise in swaying opinion. The rise of annualized rate of increase in the monthly consumer price index had in September and October climbed above 4% for the first time in more than a decade. But the jump was effectively dismissed as largely irrelevant, the byproduct of the energy bull market of late and therefore unworthy of serious consideration as a sign that inflation threatened. Or so many reasoned.
The real action was in the core rate of inflation, otherwise celebrated as the true gauge of pricing trends. On that score, core depicted an inflation that was well-mannered, docile and generally unthreatening, delivering a sharp and soothing contrast to headline CPI's rude message.
There was no smoking gun in yesterday's report to materially change that view, at least when looking at the numbers. Core CPI (less food and energy) rose by 0.2% in November, unchanged from October's advance. On an annual basis, core inflation increased by 2.1%, also unchanged from the 12-month rate of advance logged in October.
Meanwhile, just for fun, headline inflation last month literally collapsed, thanks to falling energy prices. True, no one should expect that will continue. Still, even if it's a one-time event, the biggest monthly drop in CPI in more than 50 years isn't chopped liver.
But just when you thought the market would celebrate such a milestone, persistent or not, Mr. Market decides that it's time to start worrying about core inflation after all. The bond market registered its anxiety yesterday by moving the 10-year Treasury yield back above 4.5% at one point in the day before closing the session at around 4.47%. Fairly quiet stuff, to be sure, when it comes to bond trading, although the fact that the benchmark 10-year's yield didn't move much on a once-in-50-year-drop in monthly CPI tells you something.
The stock market, on the other hand, wasn't nearly as restrained. The S&P 500 shed 1.8% on Thursday. The buzz is that yesterday's industrial production report for November from the Fed reminds that the economy continues to bubble, keeping the inflationary fires smoldering. Industrial production advanced 0.7% last month, following a revised hike of 1.7% in October. Meanwhile, capacity utilization crept higher too, moving above the 80% mark for the fifth time this year. To the extent that the bond market thought sluggish industrial activity would help keep a lid on core CPI, such wishful thinking looks increasingly outdated.
"The manufacturing sector seems to be on the rebound, recovering much of the loss suffered during the hurricanes,'' Lynn Reaser, chief economist of the Investment Strategies Group at Bank of America in Boston, told Bloomberg News yesterday. "The overall economy is approaching a fuller level of capacity, both in terms of the labor market and in our industrial sector.''
Perhaps that's not reason to worry, but combined with a core rate of inflation that seems inclined to inch higher has inspired some to start worrying. "While this rate of 'core' consumer price inflation remains very low by historical standards, it is still roughly double the inflation rate of 2003 of 1.1 percent," said Brian Wesbury at Claymore Securities, via a story posted on Political Gateway yesterday. "While somewhat slow and unsteady, the acceleration in inflation is very real ... as 2006 unfolds we look for the 'core' CPI to push toward a 3.0 percent rate of increase."
What's so disturbing about a core rate that's running at 2.1% a year? Indeed, as Wesbury noted, it's up from the low-1% range that prevailed in 2003. No big deal, perhaps, although the upward trend is obvious. But perhaps more importantly, a 2.1% rate of increase is now slightly above the 1%-to-2% range for core inflation previously championed by Ben Bernanke, who'll take over the Fed from Alan Greenspan on January 31, 2006.
The new new game with inflation has become watching core CPI, and watching closely. It's already above Ben's comfort zone, and that's no aberrant trend. Core CPI's annual rate of change has been at or above 2.0% each and every month in 2005. The only question is what will Ben do, and when will he do it? Perhaps we'll hear the argument that the core CPI doesn't really reflect the "true" rate of inflation. Regardless, rest assured that helicopter references, as they relate to monetary policy, won't be returning any time soon.
December 15, 2005
IT'S BEGINNING TO LOOK A LOT LIKE CHRISTMAS
The economy giveth, and the economy taketh away. Today's update on consumer prices for November showed it clearly in the giveth mode, offering a refreshing volte-face from yesterday's disappointing news on the trade deficit.
Today is all about better-than-expected news of CPI dropping by the most in a month since July 1949. The consensus forecast was calling for a drop of 0.4% in last month's CPI, reflecting the pullback in energy prices. In fact, the decline in consumer prices was much steeper, registering a 0.6% fade. Energy led the retreat, shedding 8% in November, helping the energy-dependent price gauge for transportation to fall a hefty 4.9%. Whether this is sustainable is debatable, but for now there's only cheers.
The bond market hardly needs more incentive for predicting that the Fed's cycle of interest-rate hikes is nearing an end. Needed or not, that view of money markets got a large boost of momentum with this morning's CPI news. But if the Fed is tightening the price of money primarily to slow the housing market, central bankers may be inclined to keep on keeping on. Indeed, housing prices rose 0.5% in November, according to the CPI report--the second-highest monthly rise in 2005 after October's 0.9% jump.
To be sure, the government's measure of housing costs in the CPI report is driven by rental prices, which is flawed because it only captures of portion of what's going on in real estate generally, namely the buying of houses at higher prices. Nonetheless, higher rental costs feed into higher real estate costs.
But such sniping will be lost in today's celebration of a CPI update that, at least for one month, has given the markets a reprieve from the annoying talk of inflation. Indeed, the stock market, measured by the S&P 500, is pushing into new recent highs, and today's CPI report should help cement the trend for the remainder of the month and on into January. Meanwhile, the bond market seems inclined to pare rates, again, with the 10-year Treasury yield building downward momentum of late.
Christmas, in sum, may come early this year.
December 14, 2005
HOPES, DREAMS, AND INTEREST RATES
It's no longer "accommodative," and so the elevation may be nearing an end. But it's also a failure, if the two-and-a-half year tightening of monetary policy's intent was raising long rates and putting the fear of the central banking god into the hearts and minds of the fixed-income set.
The Federal Reserve raised its Fed funds rate 25 basis points yesterday to 4.25%. Gone from its accompanying statement was the word "accommodative," which has been present in previous statements and was widely considered to be a way of saying that further rate hikes were in the cards to bring the monetary policy closer to a neutral stance.
None of this matters much, if at all, to the bond market. The Fed's influence on trading in the 10-year Treasury looks virtually nil. Not only did the yield on the benchmark 10-year slip a bit yesterday, the closing ~4.54% yield on Tuesday was a bit lower than when the Fed began hiking rates back in June 2004.
What gives? There are, it seems, more pressing matters for the bond market. Such as? Take your pick. The choices, depending on your thinking, range from expectations of an approaching economic slowdown or recession; a global savings glut that's keeping long rates artificially low; to an export-driven mania in Asia that channels monies into American bonds regardless of fundamentals, to name but a few. Incoming Fed Ben Bernanke is partial to the global savings glut argument, and presumably that will inform his decisions when he takes the helm of monetary policy next year.
As to the suggestion by the Fed that it'll soon stop raising short rates, the pundits are buzzing with the possibilities. "Yesterday's FOMC meeting was a watershed in the sense that it was the first time the Fed left the window open for a pause in this 18-month tightening cycle," David Rosenberg, Merrill Lynch's chief North American economist, told MarketWatch.com today.
But before investors bet the ranch on the end of interest-rate hikes, there's more to digest. For starters, the economy's still rolling along. As Charles Dumas of Lombard Street Research wrote yesterday in a note to clients, "Psst! Ben: The economy's booming." Of course, we'll have to wait till next year to see if Mr. Bernanke takes the hint.
Meanwhile, yesterday's trade report for October reminds that there are more than a few hazards lurking in the global economy that may yet conspire to push up interest rates in spite of the best laid plans of central banking's finest. The consensus expectation called for a trade deficit of $62.8 billion in October, or down from September's $66.0 billion, according to
http://www.thestreet.com/markets/databank/10256427.html TheStreet.com. But the data surprised with a bigger-than-forecast mountain of red ink totaling a monthly record deficit of $68.9 billion. So much for Christmas gifts.
The news was greeted with shock and awe by forex traders, who've been selling the dollar today. The U.S. Dollar Index has dropped sharply since yesterday's close. The not-so-subtle implication: interest rates must rise to appease anxious currency traders and, more importantly, the large and far-flung club of foreign dollar holders.
"It's a genuinely bad number,'' Jason Daw, a currency strategist in New York at Merrill Lynch & Co., said of the trade report in Bloomberg News story today. "It's a negative situation for the dollar. We expect the current account widens out through the beginning part of next year.''
The reaction in the 10-year Treasury Note, by contrast, could hardly be more different, or more relaxed. The yield on the benchmark debt security, as we write around noon, is 4.44%, or about ten basis points below yesterday's close.
The bond market may be smoking what the Fed's handing out, but we'll stay on the wagon a while longer, thanks.
December 13, 2005
GOLD & RED
If you're scratching your head in search of a reason why gold prices surged again yesterday, reaching nearly $540 an ounce, try reading the latest Monthly Treasury Statement for inspiration. Among the numerical revelations imparted in this accounting of government finances is the news that the federal budget deficit last month was the largest ever for a November, David Resler, chief economist at Nomura Securities in New York, wrote in a research note to clients yesterday.
In fact, the longer you scan the Treasury Statement with data through November, which was released yesterday, the more it looks like the government's mountain of red ink is set to deepen. Again citing Resler's numbers, cumulative fiscal receipts for fiscal 2006, which begins in October, are up just a bit more than 6% this year vs. FY 2005--the slowest rise since October 2004.
But no one should have any illusions that a slowdown in receipts will easily translate into an epiphany of fiscal rectitude when it comes to the government's penchant for spending. As evidence, consider that cumulative government expenditures rose 8% in the first two months of FY 2006, the fastest pace since FY 2004. In the race between receipts an outlays, the latter are maintaining the lead of late.
As to reasons why, the usual suspects were again at work driving government spending skyward, including Social Security, Medicare and other non-defense items. Meanwhile, the prospect of more tax cuts are in the works, suggesting to some that red-ink momentum may still have legs. The House of Representatives last week passed an Alternative Minimum Tax relief measure that's estimated to add more than $30 billion to the federal budget deficit. In addition, the House gave the green light to a $56 billion tax cut spread out over five years.
Supporters of the tax cuts say such fiscal stimulation is needed to keep the economic expansion going. Warranted or not, the paring of taxes may add to the government's debt burden in the short term if for no other reason than Congress is no stranger to embracing more and bigger spending bills in the 21st century regardless of tax receipts. According to the Heritage Foundation, federal spending has been "accelerating" in recent years. "Federal spending has reached $20,000 per household, in constant dollars, for the first time since World War II," according to recent analysis published by the conservative think-tank.
Source: Heritage Foundation
Arguably, the gold market is paying close attention to such trends and, unsurprisingly, expects the worst. Gold bugs always see doom and gloom just around the corner, and that includes a jump in spending-induced inflation. They were largely wrong for a generation after gold reached an all-time high 25 years ago. Are they right this time?
December 12, 2005
'TIS THE SEASON
Let's call it a holiday gift. When investors unwrap the inflation reports scheduled for release later this week, hope and even joy may be the initial response.
Consumer prices for November are expected to fall by 0.4%, according to the consensus estimate, although Briefing.com advises that even that dose of cheer underestimates what's coming, and so forecasts a slightly steeper 0.5% decline.
Whatever the final number, Wall Street is comfortable with the view that the first monthly decline in CPI since June is upon us. The catalyst is energy, which delivered some holiday cheer in the form of price declines last month. The January 2006 contract for crude oil, for instance, extended a warm greeting with a 5% price retreat in November, putting the CPI on its presumed downward slope of late. And with Opec making all the right noises today at its current confab about keeping production at its current 25-year high, optimism may be able to thrive for at least another day.
Lower energy prices are expected to have kept core CPI in check last month, which in turn will trim headline inflation for November. But falling energy prices are a double-edged sword when it comes to inflation and interest rates. Indeed, when the Fed convenes tomorrow for assessing the price of money it's widely expected that the central bank will again raise Fed funds by 25 basis points, which would elevate the rate to 4.25%, based on the December Fed funds futures contract. Lower energy costs may very well inspire consumption confidence in Joe Sixpack, and so the Fed may be inclined to head off the renewed spending burst at the pass.
"With virtually every measure of economic activity surprising to the upside recently, and strong evidence of corporate pricing power, the Fed probably remains concerned that still-elevated energy prices are likely to bleed into core inflation over time,'' Michael Darda, chief economist at MKM Partners, told Bloomberg News yesterday.
Tomorrow's retail sales report for November may attract more-than-average scrutiny as the market assesses just how much renewed spending vigor is stirring. The consensus outlook calls for a 0.4% rise, which would be the highest since July's 1.7% climb. Adding to the warm and fuzzy feelings will be updates of regional economic activity from the Philly and New York Fed banks, which will probably show "moderate growth, with the industrial production data providing further evidence that key sectors such as building materials and chemicals are, respectively, responding to, and bouncing back from, last summer’s hurricanes," write the economists at Nomura Securities in New York in a research note published on Friday.
Ditto for the hopeful outlook on the update on last week's jobless claims, and the continued momentum in industrial production.
The economic buzz could very well juice stocks, but the question of the week is whether the Fed's fears will take the fizz out of buying equities.
Another potential fly in the ointment may be the October trade balance, which continues to bleed red in extraordinary amounts. Although expectations for a slightly retreat are in order when the figure's released on Wednesday, this volatile number increasingly holds the potential to surprise and therefore shed uninvited volatility on unsuspecting traders.
No matter--the fixed-income set is calm and feeling in a jaunty holiday mood. A bit of buying was evident in the 10-year Treasury in early trading today. This despite the fact that the economy continues to surprise on the upside. The bond market keeps the faith that its ancient bull market still has legs. The 10-year yield remains steady this morning: at around 4.52%, it remains well below its recent peak of roughly 4.68% set on November 4.
'Tis the season.
December 9, 2005
SLICING, DICING, AND OTHERWISE ACCUMULATING DEBT
Debt is in vogue these days. From the government budget to Joe Sixpack's personal finances, there's no shortage of red ink. The question, of course, is whether the mounting liabilities threaten or are merely a reflection of a wealthy nation indulging in what other economies can only dream of: borrowing to the hilt with no immediate consequences.
Yesterday's release of the Fed's third-quarter Flow of Funds report triggered the debate anew. On the surface, at least, all is obvious. Household debt, for instance, climbed by an annual 11.6% rate in the third quarter, the fastest pace since 1987. The Federal government's penchant for digging itself deeper paled by comparison, rising by a relatively modest 5.1%
For some, such trends are the latest smoking guns for expecting economic and financial turmoil. Joe can't keep racking up debt forever, goes such thinking. When he finally decides to save, the resulting parsimony will take its toll on the economy, thanks to the fact that the GDP relies on consumer spending to the tune of around 70%.
Of course, such warnings have long fallen on deaf ears, starting with the consumer, who shows a persistent inclination to spend now and pay off debt later. The piper never seems to get paid. But might that soon change?
If any of this talk is designed to conjure images of financial Armageddon, some dismal scientists aren't biting. Consider, for instance, William Conerly of Conerly Consulting. This economist recently penned an essay titled "What National Savings Crisis?" As he proclaimed in the piece, which he emailed to CS last month, "There is no national savings crisis in America."
A provocative statement in this day and age, to say the least, and all the more so in light of the updated Flow of Funds data. Wondering if perhaps Conerly's changed his mind, we called him up with an inquiring agenda. But this consultant wasn't budging, pointing out that consumer credit debt is actually rising at its slowest pace since 1993, according to another data series tracked by the Fed. "The 12-month growth rate for consumer credit is the lowest since 1993," Conerly told CS.
So, what accounts for the surge in household debt generally, as reported by the Flow of Funds report? The numbers reveal that mortgages account for the bulk of the ascending red ink among households. Whereas overall household debt jumped at an annual 11.6% rate in the third quarter, mortgage debt rose by 14%. Consumer credit, by contrast, rose by a relatively mild 5.4%. Real estate, in short, is driving the lion's share of the red ink. That's different than buy depreciating cars and TVs, of course. But servicing debt, any debt, gets harder if interest rates rise, which they seem to be doing of late.
What are we to make of all this? "We're paying off our car loans and doing more mortgage debt," Conerly observed, speaking on behalf of Joe Sixpack and his counterparts.
Conerly concludes that all the talk of crisis is overblown, specifically when it comes to the so-called savings crisis. The government, he asserts, has a less-than-perfect methodology for tracking savings. As he recently wrote in his essay,
The government does not count savings. The statisticians count income earned, and then they compute savings as whatever is left over after taxes and consumer spending. The theory is excellent, so long as income is accurately measured. In practice, however, income is woefully underestimated. We actually have more income than the official statistics show, so we have more savings as well.
Still, he conceded in today's interview that there's a "deterioration" in savings, even if it's miscalculated. But the deterioration isn't so great as to court disaster, he emphasized.
Conerly's not alone with that view. Susan Sterne, chief economist of Economic Analysis Associates, wrote an article for Business Economics in the summer that came to a similar conclusion. "Anomalies in the measurement of savings and growing wealth suggest that measured savings rates are not as big a problem as they appear to be," she opined.
Nonetheless, even an optimist can be excused for being a little wary these days. Conerly suggested to us that if the housing boom bursts, there could be trouble. He also said that businesses need to do more contingency planning in case of future short-term energy-price spikes. In addition, he added that Ben Bernanke, who'll take over the Fed next year, may not be as deft as Greenspan. "Bernanke's a good choice, but I don't expect him to be quite as good on judgment calls," he predicted, noting that Greenspan had experience in real-world economic consulting whereas Bernanke is a creature of academia. "That raises the risk of money policy errors."
Nonetheless, Conerly expects economic growth will stay above 3% in 2006. Still, the risk of recession will rise next year, he added, a forecast that probably doesn't surprise all that many people.
December 8, 2005
VIVE LA DIFFERENCE!
When we last discussed the pending demise of the M3 series of money supply, as per the Fed's announcement last month, there was suspicion swirling that a devious plot was underway to censor a monetary smoking gun. Several weeks hence, conspiracy theorists will find no reason to abandon the fear that the central bank's trying to pull a fast one on matters of money supply data.
For those who've just arrived to this soap opera, here's the quick update. The Fed recently decided to cease publishing M3, its broadest measure of money supply. The reason given: M2, a narrower gauge of U.S. money supply, is virtually the same, and eliminating M3 will pare redundancy.
Sounds fine, except for the fact that M2 and M3 aren't quite the twins the central bank suggests. As we earlier observed, M3's rate of increase is substantially higher than M2's, based on the rolling year-over-year change in weekly data. That was true in November, when we last wrote on the topic, and the difference has continued to grow.
Indeed, the disparity in growth rates in M3 vs. M2 has been widening. Based on the latest weekly data released by the Fed, M3 rose by 7.5% in the week ending November 21 vs. the weekly number for 52 weeks previous. That compares with a 3.6% growth rate for M2 over the same stretch. As a result, the spread in M3 over M2 is now 390 basis points, up from 280 basis points on October 31, and zero (no spread) at one point back in February 2004.
It seems reasonable to repeat the question that we posed earlier, namely: Why is the Fed killing the series of money supply that shows the fastest growth? The question is all the more pressing these days since the central bank is on a mission to convince the world that it's tightening the monetary strings by raising short-term interest rates. M3 arguably suggests something different. But M3's slated for the trash heap, and la difference is about to be snuffed out. To which we reply, Vive la difference!
December 7, 2005
GOLD OR STOCKS? HOW ABOUT BOTH?
Worker productivity rose at the fastest pace in two years in the U.S. in the third quarter while labor costs fell, the Labor Department said yesterday. For the dismal science, the trend suggests that inflationary pressures will stay contained.
The report is "great news on the inflation front," David Greenlaw, chief U.S. fixed-income economist at Morgan Stanley in New York, told Bloomberg News. "It will be very difficult for the economy to generate any sustained rise in core inflation, with unit labor costs showing such a high degree of restraint."
But the gold bugs, an ornery lot in the best of times, aren't necessarily inclined to listen. The price of the precious metal continued pushing higher in early trading on Wednesday, reaching over $513 an ounce at one point--a 24-year high--before pulling back. Inflation worries run amuck? Perhaps, although gold doesn't exist in a vacuum. Commodities generally are rising in price, gold being just one of them, and unspectacularly, as it turns out compared to, say, copper, which has climbed more than 40% this year vs. gold's 20% rise, as of yesterday.
Commodities overall, measured by the CRB Index, show a 14% year-to-date gain. Gold, which is part of the CRB and other commodity indices, may be rising as much as for traditional reasons (inflation hedging and jewelry buying) as it is for increased purchases of commodities in an expanding global economy.
Already, some are calling the run in gold prices above $500 an ounce a bubble, and one that's poised to burst. "When this sentiment-driven rally finally comes to an end, the pull-back we are going to see is going to be aggressive," Simon Weeks, director of precious metals at ScotiaMocatta, told Reuters today. "We are probably going to have a $25-$30 move on the downside when this sort of sentiment-bubble finally bursts."
Indeed, without throwing the gold market another inflationary bone to chew on it's hard to see the metal moving substantially higher from here without at least a correction. Of course, gold bugs can and do argue that inflation statistics are manipulated and so minimize the true rate of inflation, which they say is rising. Still, fresh confirmation is needed for the metal to see $600 any time soon.
What's more, with the stock market continuing its buoyant ride of late, the competition for assets remains intense, and that could put doomsday investing on the defensive in the coming days and weeks. Gold may be the ultimate store of value, but when equities are rising in a year-end rally even a dedicated gloomster can get distracted. Indeed, the S&P 500 climbed to a four-year high yesterday, and the rosy government labor report for the third quarter was no trivial factor. Higher productivity may not boost hiring, but it does wonders for corporate earnings.
Ed Yardeni, chief investment strategist for Oak Associates, posed the topical question of the moment and then resolved it in an email note to clients: "Is productivity great or what? The answer is: It's great." He then pointed out, "The trend growth rate has been roughly 3% a year for the past 10 years. During Q3, nonfarm productivity jumped 4.7% (seasonally adjusted annual rate), and was up 3.1% year over year. For nonfinancial corporations (NFC) the quarterly increase was less at 3.2%, but the year over year was more at 4.7%. NFC unit labor costs have been virtually flat for the past three years. No wonder inflation has remained so subdued and profits have been so strong."
With virtually all of the S&P 500 companies' third-quarter reports in, Zacks reports that the news is generally one of better-than-expected earnings results. For the third quarter, Zacks said that the median S&P 500 firm reported an earnings gain of 13.8% on a year-over-year basis. Energy led the way in terms of growth (+77%), but the earnings train was in force in various sectors. In fact, of the ten S&P 500 sectors, only materials posted a loss (-2.4%) for the third quarter in terms of an earnings comparison with a year ago.
More of the same is on tap for 2006, Zacks predicts, opining that a 12.2% earnings climb will come next year, or only slightly below the 13.9% pace it expects for 2005.
None of that will comfort gold bugs. But for the moment, there's enough room for profits across the sentiment spectrum. Performance in stocks and commodities has been robust this year. Can the twin engines of light and dark last into 2006?
December 6, 2005
ALL EYES ON THE FED
Gold prices moved above $510 an ounce in Asian trading today, touching the highest price since 1980. Embedded in this ongoing bull market for the precious metal is the not-so-subtle message for the Fed at its meeting next week to keep hike rates.
By implication, the gold market would like to see additional tightening in the money supply of the world's reserve currency. Echoing the embedded counsel in the price of gold is the Shadow Open Market Committee, an informal club of monetarist-leaning economists who second-guess the Fed and otherwise issue pronouncements on monetary policy in their spare time. Nothing less than additional rate hikes are still required, the SOMC said in a statement yesterday, according to Bloomberg News. "Conditions require a more aggressive stance to ensure that inflation and inflationary expectations do not take root,'' the committee advised.
Even the bond market seems inclined to agree these days that the Fed should further constrict money supply next week. The yield on the benchmark 10-year Treasury Note continues to rise, closing yesterday's session at roughly 4.57%, the highest close since November 14.
Meanwhile, the latest trading in the December Fed funds futures assumes that the central bank will raise rates to 4.25% from the current 4.0%.
The predictions are in, and the prices have been reset; all that's needed now is for the Fed to confirm what everyone already expects. At some point, the Fed will stop raising interest rates, but not just yet. Chatter recently that the end of the rate hikes is in sight reportedly helped elevate equity prices in recent weeks. But in a sign of the moment, the S&P 500 slipped yesterday, perhaps signaling that the stock market too thinks more rate hikes are coming after all.
So, what economic and financial wallpaper might attend an end to rate hikes once it finally comes? The chairman of Atalanta/Sosnoff Capital and Forbes columnist Martin Sosnoff thinks he has the answer. Writing yesterday, he opines: "If you want to know when the Fed stops bumping the Fed funds rate, just project when the economy will show some deceleration, when oil prices will range closer to $50 per barrel than $60, and when wage inflation holds at its benign rate of 2.5%."
Good luck with that one. But Sosnoff redeems himself by offer a bit more clarity in his prognostications: "My best call is that the Fed relents by next spring after oil stabilizes around $50 a barrel. The market would experience a change of leadership. Big-cap growthies would outperform, even Wal-Mart and Microsoft. Money would come back into GE, Procter & Gamble, Philip Morris, Intel, IBM--anything with 10% top-line and bottom-line momentum."
In fact, S&P's retooled style indices already show just that in the fourth quarter. The S&P 500/Citigroup Pure Growth Index has posted a total return of 3.03% this quarter through December 5, vs. a 0.51% loss for its value counterpart. Is this evidence that value's long dominance is finally fading? If so, who could have predicted that growth would return during an extended period of Fed tightening? Higher interest rates = a boost for growth stocks? Apparently so. Any other questions?
December 5, 2005
NIMBY AND ENERGY CLASH AGAIN
High oil and gas prices may have shocked, shocked Joe Sixpack and his compatriots, but when it comes to building new refineries and other plants a solution for increasing supplies of natural gas, well, let's not go overboard.
The NIMBY factor, in sum, is alive and well in the new new age of energy crisis. NIMBY, of course, is short for not in my backyard. Its governing philosophy is essentially: solutions are all well and good, just as long as they're nowhere near me. In theory, it seems reasonable. Oil and gas refineries are big, ugly, dirty and carry a threat of trouble if there's an explosion. Of course, such eye sores exist primarily for the convenience and comfort for the same people who oppose them. Regardless, building such facilities far, far away from population centers has immediate and wide appeal. Never mind that building a liquified natural gas facility in remote areas would insure higher costs since the fuel would have to be shipped back to demand centers. In which case, cries of price gouging might arise in no short order.
But there seems to be no risk of that particular form of abuse for the simple reason that efforts to build new refineries, near or far, are stopped before they get off the drawing board. Incentives to maintain that status quo are likely to be enhanced with crude oil and refined gasoline prices in relative retreat (for the moment).
Might there be a different verdict when it comes to natural gas, whose price continues to remain high relative to crude and gasoline? A clue might come soon via the outcome of a suit brought by Delaware in an effort to block plans by a unit of BP for building a liquified natural gas plant on the New Jersey shore of the Delaware River. The case is scheduled for a hearing today at the United States Supreme Court.
John Hughes, Delaware's environmental secretary, reasons that his state's in the right because Delaware's laws bar "heavy industry and certain manufacturing procedures inside our coastal zone," he told AP last week via Newsday.com.
The core of the dispute is that the new facility requires building a peer which extends out into the Delaware River, a project that will entail dredging a portion of the riverbed that Delaware says is under its jurisdiction. On that basis, Delaware has so far put the kibosh on giving BP a permit to proceed, arguing that the work would risk environmental damage.
But there's a legal glitch for Delaware in the form of 100-year old agreement between the state and New Jersey that gives the latter the right to ok development for the BP project. As a reporter for law firm Goldstein & Howe's blog observed last week of the inter-state dispute now awaiting resolution at the Supreme Court: "New Jersey argues that the compact gives it control over riverbank areas of the Delaware on its side, and thus contends that Delaware may not stop it from authorizing development of those areas."
Legal issues aside, New Jersey residents living near the proposed LNG facility are concerned with safety, which is to say, NIMBY rules. "If, God forbid, anything happened, there would be a domino effect up and down the river," Bob Grant, a retired truck, said in a New York Times story yesterday about the potential for trouble with BP's project.
Opposing LNG-facility developments is nothing new, of course. Back in March, CS wrote of the high-level battles in Washington as efforts to thwart plans for developing various LNG projects proceeds apace. Indeed, the NIMBY effect has been no trivial reason for the lack of new oil refineries in the U.S. over the past generation.
With that in mind, the market may be watching the outcome of today's Supreme Court skirmish over LNG as sign of things to come. But while the lawyers chatter and the Justices listen, natural gas prices continue to hover near all-time highs. In fact, the January 2006 natural gas futures contract reverted to form in the last week or so, rising 23% as we write, relative to November 28's close.
So, while the Supreme Court weighs the pros and cons of the Delaware/Jersey dispute, Mr. Market seems to have already filed his verdict. NIMBY, in sum, has an effect on the trading mentality, but in manner that digs ever deeper into Joe Sixpack's disposable income.
December 2, 2005
TIPPING EVERY WHICH WAY
Is this the long-feared wake-up call for the bond market? Maybe, but the bond ghouls don't give up so easy. But there's at least reason to sit up and take notice, if only to keep things interesting and provide a change of pace for a day or two. Indeed, this week's economic data was unmistakably positive, and in some cases far stronger than the consensus expected. The fixed-income set responded, but only modestly so far, selling the benchmark 10-year Treasury to the tune of lifting its yield to 4.52% as of yesterday's close. That's up about 10 basis points from the end of last week.
The rise of long-term rates may be warranted from current levels, given the robust upward revising in third-quarter GDP to 4.3% growth from 3.8% previously estimated. And as this morning's employment report reminds, November was the 30th consecutive month of rising nonfarm payrolls. Meanwhile, the European Central Bank has joined the interest-rate-hiking bandwagon and elevated the price of money on the Continent for the first time in five years. It may not be a trend, but it certainly smells like one.
But if an epiphany is coming in the bond market, you wouldn't know it by reading the latest missive from Pimco's Bill Gross, who runs the world's largest bond fund. Gross continues to talk of a slowing economy and lower yields. Writing in his latest Investment Outlook, he opined, "Now after 300 basis points and 17 months of tightening – which by the way is typical of prior bear cycles as well – it should only be logical to expect a slower economy in 2006, an end to Fed tightening, and the beginning of an easing cycle late in the year."
It's unclear if the bond market agrees, only because yields have tended to move sideways for some time, and that habit more or less remains intact for the moment. True, the 10-year's yield has nudged up this week. Then again, the 10-year's yield hasn't changed all that much since May 2004.
The bond ghouls may be a determined crew, but the forces of optimism are fighting back. Brian Wesbury, chief investment strategist with Claymore Advisors, skewers the pessimists today in a Wall Street Journal op-ed (subscription required). "During a quarter century of analyzing and forecasting the economy, I have never seen anything like this," he wrote. "No matter what happens, no matter what data are released, no matter which way markets move, a pall of pessimism hangs over the economy."
But the pessimists aren't likely to be moved. There are more than enough worries out there to keep the bond ghouls active and thoughts of crisis bubbling. Indeed, preceding Wesbury's chastising in today's Journal was another op-ed piece in Thursday's Journal from Michael Darda, chief economist at MKM Partners, who warns that any of the new tax hikes being discussed in Washington might take a heavy bite out of the economy at this juncture. One reason is that things might not be as rosy as they appear. Darda notes that using gold as a deflator, instead of the government's consumer price index, reveals an economic horse of a different color: "If we use gold (which is real) as a deflator instead of the Consumer Price Index (which is not), the median home price stood at $216,200 as of October 2005, compared with $334,000 (in 2005 gold-based dollars) in July 1970."
Northern Trust's Paul Kasriel is partial to such thinking, as he explained in a research note yesterday. "If we use the price of gold as the deflator rather than the Commerce Department’s deflator of chained 2000 dollars," Kasriel wrote, "it looks as though the U.S. economy still is in a recession despite the touted supply-side tax cuts we have had since 2001. Thanks for the tip, Mr. Darda!"
December 1, 2005
NOVEMBER EQUITY SCORECARD
November 2005 Performance
(Ranked in descending order)
Russell Capitalization/Style (total returns)
Russell 2000 Growth 5.66% <--Growth continues to rebound…
Russell Midcap Growth 5.43<--In midcaps too…
Russell 2000 4.85
Russell Midcap 4.44
Russell 1000 Growth 4.31<--And in large cap growth
Russell Microcap 4.31
Russell 2000 Value 4.06<--Small value looks tired…
Russell 1000 3.81
Russell Midcap Value 3.53<--Ditto for midcap value…
Russell 1000 Value 3.29<--And large cap value
Morningstar Equity Sectors (total returns)
Energy 30.81%<--Still rockin'
Utilities 12.02<--Interest-rate sensitive--Not
Business Services 11.14
Financial Services 8.36
Industrial Materials 7.39
Consumer Goods 3.24
Consumer Services 2.75
International (price change, US$)
MSCI EMERGING MARKETS 8.19%<--The global hot spots…
MSCI LATIN AMERICA 7.93<--The spicy south
MSCI CHINA 7.01<--More of the same
MSCI EASTERN EUROPE 5.75
MSCI JAPAN 4.26
MSCI WORLD 3.14
MSCI PACIFIC Ex JAPAN 3.00
MSCI EAFE 2.25
MSCI EUROPE 1.44<--Rate-hike blues?