August 13, 2009
DOWN BUT NO LONGER OUT
The Federal Reserve's FOMC meeting yesterday was a bit of a yawn, although the boys at the bank did tell us that "economic activity is leveling out." But they also recognized that the leveling isn't likely to lead to growth any time soon and so the central bank announced that it would keep the target rate for Fed funds at an extraordinarily low 0-0.25% range, as widely expected.
Nonetheless, it's clear that Bernanke and company have turned optimistic, if only marginally and relative to the deep pessimism of the recent past. That's no surprise considering that the supporting clues have been bubbling for some time. We've been arguing for months that the recession was near a technical end, in part due to the encouraging signs from the declining trend in initial jobless claims. This data series tends to peak at or just ahead of business cycle troughs, as we discussed in some detail back in March, which so far remains the high point for new jobless claims. Much of the credit can go to the Fed, which has been aggressively pumping liquidity into the system to slow and ultimately halt the downturn. The jury's still out on how the central bank plays its cards from here on out--i.e., the so-called exit strategy. But for the moment, there's reason for mild optimisim.
On that note, this morning's weekly update on jobless claims is a bit of a yawn too, advising that new claims rose a statistically insignificant 4,000 for the week through August 8. Still, the broader trend remains biased toward descent, if only marginally, as the chart below shows.
There are, of course, a number of other reasons behind our claim that the recession is at or near a technical end. From housing to credit spreads and beyond, the statistical evidence is mounting that the economic contraction has hit bottom. The Fed's FOMC statement yesterday constitutes formal recognition of what's been obvious to economic observers for some time.
But our standard caveat still applies: the end of the recession won't lead to growth any time soon in this cycle. What's more, we're still not sure that the crowd recognizes that the job of repairing the U.S. economy is going to be one hell of a long, tough slog. The big prize--employment growth—is still a ways off, and even when it does come it'll arrive meekly.
That doesn't necessarily mean that the stock market is set for dramatically lower levels. But the news cycle in the dismal science for the rest of the year into 2010 is likely to keep a lid on rallies. Having rebounded from apocalyptic pricing earlier in the year, equities are bouncing around at roughly fair value these days on a general basis. Elevating the market to sustainably higher altitudes is going to take more fundamental signs of economic recovery as opposed to what we've been getting lately, namely, indications that the economy is no longer contracting.
As we discuss in the August issue of The Beta Investment Report, strategic-minded investors should remain moderately exposed to risk to take advantage of the ensuing rebound. But they should also keep some amount of cash on hand as well to exploit the inevitable volatility that will arrive during the coming recovery, which threatens to arrive in fits and starts over an extended multi-year period. Our outlook for risk premia is still encouraging, although generally the expectations have fallen from this year's first quarter. The margin for error, in other words, is wearing a bit thin at the moment. Given the still precarious background, we're not yet convinced it's time to go cashless.
Indeed, there are more dark days ahead when the endurance and depth of the recovery will be questioned, perhaps rightly so. But today, the long-term outlook for risk still looks quite favorable for a multi-asset class portfolio, but the gains won't come easy to those who are impatient or easily frightened at the coming uptick in volatility. Then again, that spells opportunity for everyone else. But at a price, always at a price.
Posted by jp at August 13, 2009 9:21 AM