June 30, 2011
The Road To Nowhere?
Today’s update on weekly jobless claims doesn’t tell us much. New filings for unemployment benefits inched lower last week by 1,000 to a seasonally adjusted 428,000, but that’s effectively no change. As a result, there’s still plenty of mystery about what the crucial July 8 employment report for June will reveal. There was some hope that today’s jobless number would offer some perspective, but the veil of uncertainty remains tightly drawn.
For roughly a month now, jobless claims have been treading water. That’s not good, since we’re riding well north of the 400k level. As such, today's report is a disappointment. At best, the current pace of new claims is a sign that the labor market remains in some distress. On the positive side, claims have pulled back from the April surge, but without further declines it’s starting to look like we’re stuck in an elevated range. Until, or if, some catalyst can bring the claims levels under 400k, the macro risk is uncomfortably high, or so claims are telling us.
There’s a bit more optimism in the unadjusted raw numbers when viewed on a year-over-year basis, which strips out a lot of the short-term noise in this volatile series. As the second chart below shows, claims on this basis are still falling vs. the year-earlier period. That’s encouraging because it implies that the threat of recession is still low, at least for the immediate future. It would surely be a dark sign, however, if the annual pace of unadjusted jobless claims started trending consistently higher—or worse, rising vs. the same date from a year ago. Fortunately, there’s still some distance between that ominous signal and the current trend. But the margin of comfort has thinned recently.
Turning back to the bright side, it doesn’t hurt that the last full month of economic reports suggest that the economy continues to lean toward growth, as I discussed yesterday. But without a sign that job creation has rebounded after May’s troubling report, the optimism runs only so far. The strongest case you can make at this point is that the broad trend has pulled back from the brink, but that's about as far as it goes.
For the moment, we’re still drifting in terms of data from the labor market. It’s not getting worse, but it’s not getting better either. Are we due for an attitude adjustment? We’ll know more by the end of next week, after the June employment update. Meantime, it looks like we’re stuck with a neutral-to-modestly positive outlook and awaiting fresh data to tell us which way the wind’s blowing for the rest of summer.
June 29, 2011
Scott Sumner returns to the debate with a piece for The Economist, and just in the nick of time.
Is The Summer Of 2011 Following A Different Script?
History isn’t repeating itself this summer. That may change, but for now the economy seems to be righting itself. Or perhaps it’s more accurate to say that the economy is finding some support. Granted, it's tenuous and precarious, but it's still better than the alternative. It was a different story a year ago, when the deterioration picked up a head of steam and trouble bubbled all the way through August. It’s still too early to rule out a repeat performance, but for the moment there’s reason to think that maybe, just maybe, the summer of 2011 will be better.
One clue is that the market’s inflation forecast is no longer falling. The implied outlook for inflation, based on the yield spread between 10-year nominal and inflation-indexed Treasuries, is higher these days. As of yesterday, the market is anticipating a 2.32% inflation rate, up from 2.18% on June 20. That’s a thin reed, of course, but beggars can’t be choosy. Consistently falling inflation expectations at this point would be a dark sign, just as it was a year ago. The good news is that the inflation outlook appears to be stabilizing after a modest fall. It’s worth noting that at this point a year ago, the inflation forecast was under 2% and it would continue dropping, reaching 1.5% by the end of August. This time around, the trend looks a bit better.
There’s also a sign of a relatively strong economy in the last full monthly profile of economic numbers, or at least relative to expectations from a few weeks ago, before all of May's reports were released. As I noted yesterday, May was a surprisingly decent month for growth. That’s also a change for the better relative to the year-earlier comparison.
There was even a bit of good news in yesterday’s update of the S&P Case-Shiller home price index, which posted a small rise in April. The ailing housing market is still far from healthy, but perhaps the broad price decline is truly behind us. “The good news is that prices aren't really falling that much more, but the bad news is that we are not seeing much of an increase in home prices yet," Celia Chen, a housing analyst for Moody's Economy.com, tells the LA Times. "Until the market has worked through more of the foreclosure inventory, then home prices are not going to be able to increase."
Even so, there’s still plenty of macro risk to worry about. The slight bit of optimism could evaporate quickly if the upcoming round of employment numbers disappoint. Recent data may compare well with the slump from a year ago, but all bets are off if the labor market doesn’t offer some positive confirmation.
Tomorrow we learn how last week’s initial jobless claims fared. The consensus forecast calls for a slight improvement, albeit at still-elevated levels that leave little room for comfort. The big number, of course, arrives on July 8, when the government releases the June employment report. If the pace of job growth continues to deteriorate after May’s dismal report, all the reasons for optimism noted above won’t mean much.
June 28, 2011
Surprisingly, May Was A Decent Month For Economic Activity Overall
The broad trend in U.S. economic data held up surprisingly well in May, considering the downgrade in expectations lately. The Capital Spectator’s Composite Economic Index (an equally weighted mix of 18 indicators) gained 0.9% last month, reversing April’s slight retreat. The portion of leading indicators in that mix fared even better, jumping 1.8% in May. Overall, May was a respectable month for growth, despite various signs of trouble in some isolated areas. We shouldn’t minimize the warnings signs. In particular, the sharp fall in job growth is disturbing, although it's still unclear if it has legs. Meantime, the overall picture is still one of forward momentum. That’s encouraging because it offers some hope that the economy could withstand a slowdown in growth in the labor market, at least for a short period.
There’s also good news when we look at rolling year-over-year change in a broad measure of the economy. The CS Composite Economic Index is higher by nearly 6% for the 12 months through May. That’s the fastest annual pace in more than a year and it suggests that the economy still has a fair amount of expansionary momentum, perhaps more so than generally recognized.
The bottom line: the fact that our broad measures of economic activity are comfortably in the black as of last month and on a 12-month basis suggests that the risk of recession is low for the immediate future.
There are limits to extrapolating recent history as a guide to the future. But compared with this point last year, when the summer slump was upon us, the general overview of economic activity is in better shape. As a result, it's not obvious that the months ahead will be a repeat of 2010. The stock market seems to agree, courtesy of an annual return that's comfortably in positive territory. As we write, the S&P 500 is up by well over 10% for the past year, a sign that the market doesn’t anticipate a recession.
Nonetheless, this is no time for complacency. It’s a precarious moment in the economic cycle. As I noted yesterday, there’s a lot riding on the next employment report. The question before the house: Is the dramatic fall in job creation in May a sign of things to come, or just a temporary stumble? The broad review of economic activity suggests a case for optimism. But until the June employment report is released on July 8, the guessing game rolls on.
What's Your Portfolio Telling You?
There’s a lot of investment advice out there, but most of it is irrelevant for you, or any one investor. The problem is that every portfolio’s different, which means that relevant advice should be customized for a specific asset mix.
Here’s an example. Let’s say you stumble across an article that makes a persuasive case that Asian equity markets are set to fall. Even if you thought this is great advice, acting on the information, or not, depends on the structure of your portfolio. If your portfolio currently holds a below-average weight in Asian equities, it may be reasonable to do nothing.
The broader point is that the current structure of your asset allocation is second to none for deciding how to change, if at all, the investment mix. Outside advice can offer perspective, of course. Ditto for shifting market valuations and changes in your personal finances. But these variables rarely change dramatically in short periods, which means that generally you should look to your asset allocation for context on adjusting the portfolio. That’s typically the best place to start before considering additional advice.
Assuming you’ve developed a reasonable asset allocation strategy that matches your investment views, financial needs, etc., the portfolio will tell you when to consider changes. To take a simple example, if a 60%/40% stock/bond mix is the target, the more this allocation drifts away from the initial setting, the stronger the case to rebalance it back to 60%/40%. Or perhaps you have new information that inspires a different allocation target. In any case, your portfolio typically suggests what to do next in managing your investments.
Ah, but shouldn’t you sell when the “experts” yell “sell,” or buy when they scream “buy”? Maybe. If one or more markets suddenly crash, or surge in a short period, there's a stronger case for letting Mr. Market influence your portfolio adjustments. But such drama is rare.
Meantime, if you have a high degree of confidence in a handful of seers, you can certainly follow their advice. But all the usual caveats apply, starting with the fact that almost no one dispenses consistently accurate forecasts. No wonder that a passive mix of all the major asset classes has a history of delivering competitive returns over time vs. the actively managed funds intent on generating superior results, as I discussed here, for instance. Keep in mind too, that generic investment advice can make for entertaining reading, but it's not obvious that it applies to any one portfolio.
The easiest way to beat a broad benchmark is by building a portfolio that looks different. For instance, my proprietary index passively holds 13 asset classes, each weighted by their respective market values. As you start to drop some of these asset classes from your portfolio and/or change the allocations, you also change the expected return/risk profile. In other words, you can engineer a different performance result but mostly by embracing a different risk profile. And since return is generally linked with risk over time, we should be cautious in thinking that it’s easy to outsmart the market in risk-adjusted terms
That doesn’t mean we shouldn’t adjust our portfolios or change the asset allocation based on changing views. A simple and naïve rebalancing strategy has an encouraging history of boosting performance by around 50 to 100 basis points, all things equal, in a broadly diversified asset allocation strategy. Disciplined, talented investors can do even better. But at some point, higher return is a direct function of assuming higher risk, a shift that's available to everyone. That may be a problem, however, if you’re not willing or able to endure materially higher levels of risk. There's still no free lunch, no matter how much confidence you have about the forecast du jour.
In any case, it all comes back to your portfolio’s mix. The world is teeming with investment advice. Some of it may actually be useful. But before you do anything, analyze your portfolio and recognize how your asset allocation has changed. If it’s more or less where you want it to be, it may be reasonable to leave your portfolio as is, even if the seers are telling you that it’s time to act.
June 27, 2011
Consumer Spending Flat In May As Income Rises Modestly
Is the sluggish economy finally inspiring consumers to implement a self-imposed round of personal austerity? It looks that way after reading today’s update of personal spending and income for May. Disposable personal income rose modestly by 0.2% last month, matching April’s gain and posting the eighth straight monthly increase. But personal consumption expenditures were virtually unchanged in May, rising by the smallest of margins and thereby delivering the weakest month for consumer spending since the slight decline in June 2010.
As usual, one month doesn’t tell us much about the trend and so we need to look at the annual pace for a clearer view of the big picture. But here too there’s reason for caution. As the chart below shows, the divergence between expenditures and income has been growing in recent months, with purchases continuing to move higher without a comparable rise in income. Something was bound to give way eventually. Either income would bounce back or consumption would fall. It appears that the rebalancing is unfolding via lower levels of consumer purchases.
Even so, it’s still debatable if the reluctance to spend last month was a one-time affair or the start of a sustained bout of higher saving. Given today’s numbers, lowering expectations is getting easier. “The quarter is going to be very slow,” Christopher Low, the chief economist at FTN Financial, tells Bloomberg. “The biggest explanation for that is gas prices, so obviously the fact that oil has fallen quite a bit in the last couple of weeks is a really good thing. Relief just in time.”
Only time will tell is lower energy prices will provide salvation. Meanwhile, keep an eye on gas prices. So far, so good. U.S. regular gasoline prices averaged $3.65 last week, down from $3.96 in early May, according to the U.S. Energy Information Administration. That’s a step in the right direction. Let’s see what the next several weeks bring.
The stakes are certainly high these days for the economic outlook. Comparing the annual pace for industrial production, private-sector wages and private nonfarm payrolls summarizes the key variables. The strong rebound in the trend for wages and industrial production (a proxy for broad economic activity) has been crucial for the revival in job growth. But the year-over-year change in industrial production and wage growth is stumbling these days. So far, there hasn’t been any material blowback on the annual pace of growth for nonfarm payrolls.
Let’s not forget, however, that the May jobs report was unusually weak. It’s still an open question if that was a one-time event or the start of something more ominous for the broad trend. For the moment, May’s sharp slowdown in job creation hasn’t affected the 12-month change in employment. That leaves us waiting for the next update on job creation: the July employment report, scheduled for release on July 8.
We’ll have quite a bit more clarity on how the economy’s faring once that we see the June data for the labor market. Indeed, this stat promises to be the single-most important release in recent memory. For now, our outlook is guarded. The economy still appears poised to muddle through this “soft patch.” Today’s numbers aren’t encouraging, but neither are they devastating. The next opportunity for reassessing this outlook arrives on July 8. Till then, we’re left wondering and waiting.
Strategic Briefing | 6.27.2011 | Debt, Austerity & Stimulus
Debt Hamstrings Recovery
The Wall Street Journal | June 27
Around the globe, the inability of governments and households to reduce their debt continues to cast a shadow over Western economies and the financial health of individuals. Today, U.S. consumers have more mortgage and credit-card debt than they did five years ago, and the U.S. budget deficit is worsening. At the same time, European governments are having to throw billions more euros at Greece to keep it afloat. The fundamental problem is that reversing the trend of piling on the debt requires some combination of cutting spending, growing income or the economy, and inflation. But wage growth is stagnant and home prices, which underpin much of the debt problem, are still falling. Meanwhile, in a vicious circle, businesses aren't hiring or investing because they know consumers are tapped out. Banks, for their part, are hoarding cash, being stingy with new loans.
BIS Annual Report
Bank for Int'l Settlements | June 26
What about the risk that aggressive austerity measures could prove counterproductive, choking off economic growth? In advanced economies, where the recovery appears now to be self-sustaining, this risk is much smaller than it was a year ago. (In most emerging market economies, it is almost nonexistent.) But more importantly, in a number of cases the long-run fiscal outlook has not improved, at least not enough. The unavoidable conclusion is that the biggest risk is “doing too little too late” rather than “doing too much too soon”.
Consumer Spending Growth in U.S. Likely Slowed in May
Bloomberg | June 27
U.S. consumer spending probably rose in May at the slowest pace in almost a year, reflecting fewer new-car purchases and dimmer employment prospects, economists said before a report today. The projected 0.1 percent gain would be the smallest since June 2010 and follow a 0.4 percent rise the prior month, according to the median estimate of 63 economists surveyed by Bloomberg News.
The 11th hour stimulus push
CNNMoney | June 27
Recovery Act money has dried up. The Fed's bond buying program will end this month. Economic growth remains anemic, and there are signs of further slowing. What's a government to do? After all, the U.S. spent trillions of dollars in the wake of the financial crisis to put its thumb in the dike and get the economy back on track. Enter Senate Democrats. Harry Reid and company are starting to talk about a basket of measures they say will stimulate the economy: a payroll tax cut, a tax holiday for corporate profits held overseas and infrastructure and green energy investments.
Bachmann: White House uses "scare tactic" on debt limit
CBS News | June 26
Rep. Michele Bachmann, R-Minn., said Sunday it was not true that the U.S. government would default on its loans if the debt limit were not raised, and accused the Obama administration of using "scare tactics" to push its agenda. In an appearance on CBS' "Face the Nation," Bachmann, who is vying for the Republican presidential nomination, said she has "no intention" of voting for a hike to the limit, and argued that lawmakers should be focused on cutting spending rather than incurring more debt. "It isn't true that the government would default on its debt," Bachmann told CBS' Bob Schieffer. "Because, very simply, the Treasury Secretary can pay the interest on the debt first, and then, from there, we have to just prioritize our spending. I have no intention of voting to raise the debt ceiling," she emphasized.
Monetary Policy in a Balance Sheet Recession (Wonkish)
Paul Krugman's Blog (NY Times) | June 26
I agree with David Beckworth that Richard Koo is wrong to insist that monetary policy can’t do anything in a balance sheet recession. But I think Beckworth introduces unnecessary complications; also, Koo isn’t entirely wrong. Koo’s argument is that interest rates and monetary policy don’t matter because everyone is debt-constrained. That can’t be right; if there are debtors, there must also be creditors, and the creditors must be influenced at the margin by interest rates, expected inflation, and all that.
June 25, 2011
Book Bits For Saturday: 6.25.2011
● Investing in Energy: A Primer on the Economics of the Energy Industry
By Gianna Bern
Excerpt via publisher, Bloomberg/Wiley
The energy industry is undergoing unprecedented change as it reacts to new challenges in safety, regulation, exploration, and alternative-energy initiatives. One need only layer on the global political environment and the long-ranging repercussions of the 2010 Gulf of Mexico oil spill or the turmoil in the Middle East to realize that the energy sector is as complex as it has ever been. From this increasing complexity springs the need for this book. The following pages present a framework for understanding the basic elements of energy-industry economics. While not covering geology or refining from technical standpoints, this book provides a framework for analyzing the industry’s basics and economics, and thereby helps prepare investors and other energy-industry professionals to more confidently venture forth into this vast and complex sector. This book explores various opportunities available to investors in the energy arena and provides tools to better equip those new and not so new to investing in oil, gas, and alternatively generated energy. Time-tested analytic tools and investment criteria are utilized to provide the reader a better understanding of the economics behind the various energy sectors. Thoughtful and deliberate use of these analytic tools should enable deeper understandings of opportunities and more confident investment decisions.
● World 3.0: Global Prosperity and How to Achieve It
By Pankaj Ghemawat
Review via Andrew Smith's Blog
Although it has a few flaws, this book is excellent and should be read by anybody interested in globalization. I teach on the history of globalization, so I approached this book from a historical angle. Although some historians will be left dissatisfied with the amount of historical material Ghemawat has included, the author has does a fairly good job of situating present-day globalization in its historical context. Ghemawat’s stylized rendition of the history of globalization is a tolerably accurate generalization. Moreover, he has incorporated into his theory the key research finding of globalization historians, namely that globalization is not an irreversible process and the world economy experienced a long period of de-globalization between 1914 and 1945... Ghemawat effectively demolishes the theories of Tom Friedman, the New York Times columnist whose The World Is Flat became a bestseller and influenced countless public thinkers, from Colin Powell to Tony Blair to many business leaders. Friedman argued that we are now living in a fully globalized world in which neither distance nor national boundaries impinge on commercial activity. Friedman, who is a big fan of globalization, regards this development as welcome. Anti-globalization activists have accepted Friedman’s premise the world has indeed become flat, although for them, the emergence of McWorld is something to be condemned. Ghemawat shows that both sides of this debate are ill-informed.
● All About Investing in Gold
By John Jagerson and S. Wade Hansen
Interview with authors via Wall Street Cheat Sheet
We approach gold investing strategies differently than many other authors/managers. We are not making the case that gold is a great investment in 2011 (although personally we think it looks pretty good) and will continue to rise indefinitely. What we wrote in the book was designed to help investors understand what moves the gold market, and how they can use those principles to time a new entry into gold (NYSE:GLD) in 2011, 2015, 2025, or whatever. Using a book to “time the market” is going to be pretty tough, and we wouldn’t attempt it. Also, its important to understand that the book emphasizes the importance of gold as a component of a well-diversified portfolio not a portfolio unto itself. Long term traders interested in this subject are much less concerned with market-timing and whether its “too late” for gold in 2011. We spent a lot of time in the book discussing why gold is a benefit (regardless of timing) in a long term portfolio, and how it can improve overall performance significantly in the long run.
● Trading With Charts for Absolute Returns
By Robert Fischer
Summary via publisher, Wiley
Robert Fischer, a pioneer in developing trading strategies for Fibonacci price and time analysis, has now developed charting analysis that achieve absolute returns in bull, bear, and trendless markets. In Trading with Charts for Absolute Returns, Fischer provides traders with a shortcut from the intensive programming and data analysis work, explaining which patterns work, the best markets to trade using the strategies, and advanced trading signals. Uncovers the key chart patterns that work best in combination to provide real returns year-after-year and in all markets. Provides an augmented futures strategy for bear markets. Includes exclusive access to the Trading with Charts for Absolute Returns Web site with historical data and trading signals. While relative returns provide a means of judging performance on a comparative basis, as the saying goes, "you can't eat relative returns." Absolute returns is the only thing that matters, and Trading with Charts for Absolute Returns shows how to routinely achieve just that.
● Trend Commandments: Trading for Exceptional Returns
By Michael W. Covel
Excerpt via publisher, FT Press
This book is for those kindred spirits who grasp there is no secret to trading but rather just knowledge you have not yet discovered. It is for anyone who wants to make the most money possible—without going broke or going overboard on risk. It is for investors and traders small and large, young and old, female and male—worldwide. Trend Commandments is also for anyone fascinated by how great trend traders think and act to make a fortune. If you have other reasons for reading this book, that is fine too... My words are not a set of magic rules for becoming a wealthy trend following trader with no work on your end. To achieve the pot of gold, you will need more than that. However, to explain all the details you will need, you must know what you are up against. The well-constructed fortress of government, media, and Wall Street, all designed to bleed you dry, is “The Wall” (think Roger Waters). None of those players want you to comprehend or act on the contents of this book. If you do get it, those groups lose power and money. They do not want to lose anything. Their grip on you is stranglehold tight.
June 24, 2011
Durable Goods Orders Rise 1.9% In May
Score another point in favor of the soft patch theory vs. expecting a new recession around the next corner. New orders for durable goods rose by a seasonally 1.9% in May, reversing the previous month’s sharp 2.7% loss. If we strip out some of the volatile sectors of the report, there’s still a pop in last month’s tally. For example, ignoring transportation equipment leaves durable goods orders up by 0.6%; excluding defense translates into a 1.9% gain for the rest of new orders for durable goods.
There was also a tidy 1.6% gain for business investment, based on the proxy of non-defense capital goods ex-aircraft orders. This slice of the numbers "generate attention because they are a leading indicator for capital spending," notes economist Evelina Tainer in Using Economic Indicators to Improve Investment Analysis.
All in all, a decent report, and just in the nick of time, given the current worries about the economy. It’s only one indicator, of course, but as a closely watched leading indicator it’s encouraging that the latest number is higher vs. the previous month. More importantly, the trend for new orders continues to look solid. The annual pace for durable goods is ahead by 9%. That’s quite good, as the chart below suggests. The annual rate is likely to drift lower in the months ahead, as the post-recession period matures. But for the moment it’s hard to make a case that a recession is imminent based on the year-over-year change in new orders. That's no silver bullet, but it's one more stat in favor of the growth camp.
"We’re starting to see a little bit of bounce back from the supply chain disruptions we saw last month,” Michael Brown, an economist at Wells Fargo Securities, tells Bloomberg. "We’re going to continue to see strong gains from capital goods and business fixed investment."
There’s always a danger of leaning too heavily on one indicator, or even a handful of indicators, to evaluate the broad economy and so durable goods should be reviewed with some macro humility. The good news is that an expansive measure of May’s economic reports, most of which are in, suggests that last month represents a revival of growth vs. April’s modest retreat. More about that next week.
But let's not forget the critical challenge at this juncture. Business investment still looks vibrant and demand for durable goods is chugging along nicely, but there’s quite a bit of uncertainty about the next phase for the labor market. Today’s durable goods report provides a bit of support for remaining optimistic, but the sting from yesterday’s initial jobless claims report lingers.
There are several key economic reports scheduled for release next week, but the main concern is still the uncertainty surrounding May’s sharp slowdown in job creation. Was it a one-time event? Or is the labor market headed for a sustained period of renewed weakness? Until we find some clarity on these questions, we're in something of a state of limbo. Changing the crowd's perspective, for good or ill, is going to have to wait until the June employment report, set to hit the street on July 8. Today’s update durable goods orders, at least, offers a fresh data point for thinking positively.
The Limits Of Looking For The Perfect Index Fund
SmartMoney frets that innovation in index fund design may be going too far. "Financial firms are racing to improve the classic index fund. But are they improving it to death?" wonders Rehma Kapadia. Perhaps, although it's important to keep the indexing wars in perspective when it comes to real world money management. If you're choosing index funds, you should choose carefully, of course. Beware of new-fangled products that promise the moon. But there's a point of diminishing returns by diving ever deeper into the minutiae of fund design in an effort to identify the absolute best products, or the worst. Most of your analytical efforts should be directed at the far-more crucial aspect of investing: asset allocation design and management. That doesn't mean you can ignore individual fund analysis, but don't let it overwhelm your research efforts.
Indeed, the primary goal of evaluating funds is avoiding the egregious offenders. These dogs are easy to spot. Ignoring the plain-vanilla S&P 500 index fund that charges 50 basis points, for instance, is a no-brainer when you can buy, say, the Vanguard S&P 500 ETF (VOO) with an expense ratio of just 0.06%.
The decisions can and do get a lot tougher, however. The black-and-white choices quickly give way to a thousand shades of gray as you survey the expanding spectrum of fund possibilities. One of the more topical examples is the debate over the pros and cons of alternative weighting systems for indexing vs. the standard market-cap design. Some of these alternative benchmark efforts are, well, junk. But others are reasonable, perhaps even superior. The problem is that it's not always obvious which is which.
One of the more impressive alternatives is Research Affiliates' fundamental indexing system, which has proven to be a worthy competitor to the conventional benchmarks in recent years, as I discussed earlier this year. That's no assurance of future success, of course, but neither can superior performance be ruled out. True, fundamental indexing products generally cost more than some market-cap competitors, but not outrageously more.
Cost is important and it should be a factor for choosing index funds. The indexing strategy is no less critical. But if we're talking of reasonably priced funds that are focused on capturing a relatively broad definition of the target beta, there's a point when the debates over index design become counterproductive.
If you're focused on building and managing a globally diversified portfolio based on the major asset classes—as you should be—the indexing wars can become a distraction. By all means, do your homework before buying an index fund, particularly those with claims of building a better mousetrap vs. the default market-cap weighting system. If you're unsure of why you're paying more for an alternative design, look elsewhere. But don't spend too much time trying to solve the mystery of which design will win. Assuming that you hold low-cost products that are broadly diversified, the bigger bang for your buck resides in the asset allocation choices.
The critical variables for such portfolios are how you weight the various asset classes and how often, and when you rebalance the mix. This is where you should spend most of your time and effort. The return and risk profile of your portfolio may soar or sink, but that's not likely to be determined by your choice of index design if you stick with reasonable choices.
Numerous studies over the years, such as this gem from 2000, advise that asset allocation is where the action is. There's simply too much evidence to assume anything less. Let's put it this way: You can't afford to stumble on the design and management of the portfolio mix. By contrast, if your index fund choices--or actively managed fund choices, for that matter--aren't the absolute best products, that's far from fatal if you do reasonably well with the asset allocation.
Of course, if you'd rather avoid the complications of sorting through funds you can opt for the default choice: market-cap weighted index funds. And since these are commodity products, you can further simplify your life by picking the lowest-cost offerings. They may not be the absolute perfect design that blows away the competition each and every year, but they're likely to capture the lion's share of the target beta in the long run. Armed with that confidence, you can focus on optimizing asset allocation.
June 23, 2011
Weekly Jobless Claims Remain Elevated
Not good, not good. Initial jobless claims popped higher by 9,000 to a seasonally adjusted 429,000, the Labor Department reports. previous week’s claims were also revised up by 6,000 to 420,000. The surge in new claims in April has subsided, but the message seems to be that it's subsided to a relatively elevated level vs. the trend that had been unfolding in this year’s first quarter. The stakes are high. Hanging in the balance is deciding if the May’s sharp slowdown in job creation was a one-time event or the start of materially weaker employment numbers in the months ahead.
Today’s update on new filings for unemployment benefits suggests that the June employment report (scheduled for release on July 8) may deliver another round of disappointment. In that case, it's likely there'll be a major reassessment of the entire macro outlook. Meantime, there's still hope. It’s one thing to see job creation virtually evaporate in one month, as it did in May. But it could be statistical noise. On the other hand, two months of weakness in what is arguably the single-most important economic report would be much harder to dismiss.
Unfortunately, the recent trend in jobless claims isn’t leaving much room for optimism. As the chart below shows, the case for arguing that claims are now stuck in the low 400k-range is getting stronger with each passing week. That’s dangerously close to levels associated with recession, and by some accounts it’s already deeply in the danger zone.
There’s slightly more optimism available when reviewing unadjusted raw data for jobless claims on a rolling 12-month percentage basis, which cuts out quite a bit of the short-term variation that can be misleading. Claims by this measure are down by nearly 8% vs. a year ago. That’s encouraging. The problem is that the pace in the year-over-year decline is drifting higher, and it has been for some time. If it continues to inch closer to zero, the jig will be up at some point. But not yet. The battle of growth vs. contraction rages on, but the forces of growth still have the upper hand. It's a diminished hand, but that's still better than the alternative.
More generally, jobless claims are crucial leading indicator, but it’s still just one data series and so it can only tell us so much. That said, it’s been advising for weeks now that the economy is struggling again. That’s been clear since late-April, and it remains clear today. The immediate question is what this implies for the June employment report. Today’s update is obviously not good news, but it’s debatable just much of a negative aura this casts over the next monthly jobs report.
`In the wake of yesterday's Federal Reserve press conference, at which Fed chairman Bernanke lowered growth expectations for the U.S., the Treasury market's inflation outlook slipped to roughly the lowest level so far this year. Neither the Fed's forecast for GDP or the latest inflation outlook was radically different, but the trend is worrisome. The implication is that while a recession isn't imminent, the economy appears to be headed for a murky period of growth that's sufficient to keep us out of a new cataclysm yet too slow to offer much in the way of repair and recovery.
Yesterday we learned that the Fed thinks the U.S. economy will grow by 2.7% for all of 2011, down from the previous 2.9% estimate. That's in line with downgrades from other predictions, including the IMF's recent forecast. We also learned yesterday that there are no immediate plans to launch a new round of monetary stimulus to follow QE2, which is scheduled to expire this month. Meanwhile, Bernanke admitted he and his colleagues at the central bank were somewhat perplexed by the slowing economy of late. As he explained,
We don’t have a precise read on why this slower pace of growth is persisting. Some of the headwinds that have been concerning us, like the weakness in the financial sector, problems in the housing sector, balance sheet and deleveraging issues, may be stronger and more persistent than we thought.
The sight of the slow but steady decline in the market's implied inflation outlook isn't helping. It's premature to draw any hard and fast conclusions here, but the slow drip downward over the last two months implies more trouble ahead, if only on the margins. Using the yield spread between the 10-year nominal and inflation indexed Treasuries as rough guide, the market's inflation prediction touched 2.19% yesterday, as the chart below shows. The optimistic view is that this is merely a rate that's unchanged from levels in late-2010. Fair enough. But it's the trend that's distressing. Falling inflation expectations are not helpful at this point, especially at these levels under current macro conditions. Some hard line inflation hawks argue otherwise, but the numbers aren't on their side.
For an economy that appears to be struggling anew, a slow but sustained decline in the inflation outlook isn't healthy and it may signal even tougher days are coming. Granted, if this outlook stabilizes in the low-2% range, that would be productive. But it's not obvious that this is the case, at least not yet.
Yes, the latest consumer price inflation report was mixed, with a hint of pricing pressures on the march. But this is a backward-looking number vs. the Treasury market's forward-looking forecast. One or the other is misleading us, but we don't know which one. In due course, however, we will have clarity, and perhaps soon.
Meantime, what is conspicious is that the economy continues to suffer from deleveraging on a number of fronts. "We can expect a continuation of deleveraging for many years to come," warns Comstock Partners. The firm goes on to explain,
The U.S. stock market will not be able to rise in a sustained manner if we are correct in believing that U.S. households will continue deleveraging for the next few years to as many as 10 more years. The key is that household debt will have to decline to the levels of the 1950s, 1960s, and 1970s of 50% of GDP and 65% of PDI. That would mean the weak consumption will continue and that should lead to disappointing economic growth. The average annual growth in consumption over the last 50 years was about 3.5%, but only 0.6% over the seven quarters since the recovery started. That is the lowest growth rate since the Great Depression.
That's a pessimistic outlook, although it's not so easily dismissed, even after two years of a formal post-recession recovery. Apparently the Treasury market isn't inclined to disagree that the glass is half empty. The demand for money, in other words, is still quite strong. In fact, it's strong enough to inspire purchasing Treasuries at unusually low yields despite recent signs that headline inflation is inching higher. Normally, a CPI report showing inflation moving higher would inspire selling bonds, which would raise yields. But these still aren't normal times. The fact that money is still flowing into Treasuries, despite the approaching end of QE2, is a reminder that the macro outlook is muddled, at best.
The hope is that the current slowdown is temporary, triggered by various blowbacks of late. Bernanke offered some support for that view in his comments yesterday. But no one's really sure how this all plays out, particularly over the next few months. But with hefty deleveraging still unfolding, the implications for what's coming don't look particularly mysterious. Or is it different this time with the painful work of deleveraging? Don't count on it, as Reinhart and Rogoff warn.
In any case, the future will continue to arrive one data point at a time. The next clue, which is a critical one, appears later this morning via the weekly update on initial jobless claims. At issue is whether the recent surge in claims was a one-time event or the start of something more ominous. Last week's report offers reason for cautious optimism. Let's see what today's number brings.
June 22, 2011
Strategic Briefing | 6.22.2011 | The End of QE2
Economy's 'training wheels' to come off
CNNMoney | June 22
The Federal Reserve's latest round of stimulus ends on June 30, but economists think it's no big deal. The policy, known as the second round of quantitative easing, or QE2 for short, is likely to have little effect on financial markets or the pace of the recovery, they say. "I don't think the end of QE2 will have any significant immediate impact on interest rates, stock prices, jobs or the broader economy," said Mark Zandi, chief economist with Moody's Analytics.
Bernanke May Try to Spur U.S. Economic Growth by Extending Record Stimulus
Bloomberg | June 21
Federal Reserve Chairman Ben S. Bernanke will probably delay the central bank’s exit from record stimulus, economists said in a survey, giving the flagging economy a boost without resorting to additional asset purchases. Seventy-nine percent of 58 economists expect Bernanke to sustain the Fed balance sheet at current levels until October or later, compared with 52 percent who held that view before the Fed’s last policy meeting in April, according to a Bloomberg News survey conducted last week. Ninety percent of those surveyed predict the Fed will wait until the fourth quarter before dropping its pledge to hold interest rates low for an “extended period.”
The U.S. Federal Reserve Plan For QE3 – And Why It's a Done Deal
MoneyMorning | June 22
When U.S. central bank policymakers conclude their two-day meeting today (Wednesday), there's really only one question investors want an answer to: What's the U.S. Federal Reserve plan for QE3? Let me answer that for you: QE3 is a done deal - although Fed Chairman Ben Bernanke & Co. might well give it another name... Here's what I see: Instead of printing more money, the Fed is likely to start reinvesting the proceeds of maturing debt. Ultimately, that won't reduce our government's bloated, toxic balance sheet. But it will change the makeup of that balance sheet - and not for the better. I believe the Fed will also attempt a freeze of some sorts that effectively removes pressure from the U.S. Treasury markets that would otherwise crater it. At the same time, I can easily envision continued demand for U.S. Treasuries from abroad that will confound such well-known Treasury bears as Pacific Investment Management Co. LLC (PIMCO) star Bill Gross, who has been wrong on Treasuries before.
FOMC meet may disappoint investors , says AMP Capital
MoneyControl | June 22
All eyes are on the Federal Reserve today. According to Shane Oliver, Head Investment Strategy & Chief Economist, AMP Capital Investors, the Federal Open Market Committee (FOMC) meeting could disappointment investors. “On the one hand, there will be a downgrade to growth expectation, but Ben Bernanke is unlikely to signal any shift, any move anytime soon towards quantitative easing 3,” he added.
Treasury Note Yields Stay Below 3% for a Sixth Day Before Fed's Decision
Bloomberg | June 22
Bernanke and his fellow policy makers have given no indication they’ll tighten policy anytime soon. With manufacturing slowing and unemployment increasing during May to 9.1 percent, the Fed chief said this month growth is “frustratingly slow.” The unemployment rate in the U.S. unexpectedly climbed to 9.1 percent in May and payrolls grew at the slowest pace in eight months, according to Labor Department figures on June 4. “If we see the same jobs numbers next month, market expectations for QE3 will increase,” said Tsutomu Komiya, who helps oversee the equivalent of $115.4 billion as an investor in Tokyo at Daiwa Asset Management Co., a unit of Japan’s second- biggest brokerage by market value. Yields will probably fall below 2.88 percent, 2011’s low set last week, he said.
Fed’s 3-Year Rescue Plan Falling Short of Promise
The New York Times | June 22
The Federal Reserve hoped that its three-year-old economic rescue campaign would reach a climax at the end of June. It hoped that consumers and businesses by now would be spending more and more, and the central bank could start doing less and less. That peak now looks like a long plateau. The Fed still is expected to announce Wednesday that it will halt the expansion of its aid programs at the end of June, as scheduled, when it completes the purchase of $600 billion in Treasury securities. But growth is sputtering, and economists now expect that the Fed will leave its $2 trillion of bandages, props and crutches untouched until next year.
Global economic slowdown just a ‘lull’
CBC News | June 21
With the end of QE2 looming in the United States and concerns about a sovereign debt default in Greece reaching a fevered pitch, the global economy looks to be firmly mired in a rough patch at the moment. However, there is still hope, with Nariman Behravesh, chief economist with IHS Global Insight, calling the current problems a “temporary lull in the global expansion” that can still be reversed. “There is no need to panic — yet,” Nariman Behravesh, chief economist with IHS Global Insight, said in a report Tuesday. “This is unlikely to be the precursor of another recession. While the balance of risks has shifted a little to the downside, IHS Global Insight still assesses the probability of a more robust scenario at 20%, compared with 25% for a return to recession.”
June 21, 2011
Defending MPT... Again
Modern portfolio theory (MPT) has become the whipping boy in recent years, and rightly so. Too many investors and financial advisors put it on a pedestal and assumed it had powers it could never achieve. Couple that with a global financial crisis and you have the groundwork for disappointment.
Like every theory, MPT is flawed and makes simplifying assumptions about the real world. That's the nature of theories. But while it’s easy to pick apart MPT, assumption by assumption, at its core is a simple but effective foundation for investing. The fact that the historical record offers support for MPT-inspired real-world portfolios sweetens the deal. That's not always obvious in a world that favors looking at one market at a time, or emphasizing the short term. But a careful look at how MPT performs over time suggests there's value here.
Don’t misunderstand: we shouldn’t dismiss the limitations that come with MPT’s simplifying assumptions. We need to understand the glitches and make plans for dealing with them. But neither should we dismiss MPT’s reasonable suggestions for portfolio design. Nonetheless, some MPT critics are quick to draw lines in the sand. A recent example comes via Green River Asset Management’s Scott Vincent, who recently put MPT in the crosshairs in an extended critique: “Is Portfolio Theory Harming Your Portfolio?" Yes, he effectively responds. As he explains,
It turns out that the portfolio theories which inspired the creation and popularity of index funds and top-down, quantitatively-driven index-like strategies, are both flawed and impractical. There’s compelling evidence, moreover, that a subset of active managers do persistently outperform indexes. However, this important fact has been lost because we allow MPT to define the debate in its own misleading terms, tilting the field in its favor and hiding the reality about active manager performance in a complex game of circular arguments.
I can't speak for "quantitatively-driven index-like strategies," which can include virtually any type of strategy. But when it comes to using index funds and their ETF equivalents for asset allocation, the record as well as the theory is worth studying. Sure, you can do a lot better than an MPT-inspired index-based portfolio, but you can also do a lot worse. The fact that many suffer the latter is one reason for using MPT as a tool for building better portfolios. This isn’t some blind faith on my part. Rather, by meticulously creating MPT-inspired portfolio benchmarks, including a real-world version built with ETFs, I monitor return and risk and compare it with the actively managed universe. Each month on these pages, I update the results (you can find the latest review here).
The bottom-line result is that an MPT-inspired portfolio performs roughly in line with what theory predicts, delivering average to moderately above-average return with something comparable in terms of risk over time. In fact, there are fairly compelling reasons to expect that these results will prevail, for reasons I explain in detail in my book, Dynamic Asset Allocation: Modern Portfolio Theory Updated for the Smart Investor.
Does this mean that we should become strict MPT investors, following theory to the nth degree? Of course not. For one thing, there are lots of capital market anomalies to consider for tweaking the passive asset allocation inspired by MPT. And as Vincent correctly points out, there’s also a growing body of literature that says there’s evidence in support of identifying talented active managers in advance after all. This is encouraging, and it’s worthy of careful review, although it’s no silver bullet. I dive into the finer points of why the new generation of research on active management is intriguing but problematic in an upcoming article in Financial Advisor magazine (I’ll post a link once it’s published—stay tuned).
Meantime, it’s reasonable to start with the facts. Building a multi-asset class portfolio and weighting all the pieces by market value, a la MPT, performs competitively over time. For example, as I discussed earlier this year, my MPT-inspired benchmark, the Global Market Index (GMI), fared quite well over the last decade vs. 1,000-plus mutual funds invested in several asset classes using various types of active strategies. Yes, a handful of funds delivered stellar outperformance, and a few suffered dismal results. The majority, however, posted middling returns. GMI’s results were average, of course, but it was a high average, settling in at roughly the 80th percentile.
Not bad for a forecast-free, know-nothing portfolio that accepts Mr. Market's asset allocation and runs with it. MPT is hardly a short cut to easy riches, but it provides a default strategy that comes with a high-degree of confidence for expecting that it will capture the general risk premium embedded in the capital and commodity markets at minimal cost. But that's just a beginning.
There are many possibilities for adjusting Mr. Market's asset allocation, and some of these adjustments are worthwhile. Simply rebalancing the mix, for instance, has a history of boosting performance by 50 to 100 basis points a year with little or no additional risk. Finance theory also tells us that if we overweight small cap and value stocks, the portfolio's expected return rises. We can also change Mr. Market's portfolio weights, perhaps radically so, depending on our expectations and skill set. And, yes, it may even be reasonable to use actively managed funds instead of, or perhaps to compliment index funds when filling out the asset allocation.
And on and on. There are countless things we can do to customize the market's asset allocation. But as a first step, we should begin with the default portfolio, which is available to everyone and has a moderate level of expected return and risk. It requires no skills or forecasting prowess and it can be implemented with ETFs for as little as 50 basis points. It's a no-brainer investment strategy that's competitive with a broad sampling of the various efforts intent on beating it. At the very least, we should understand it, monitor it, and look for opportunities for rebalancing it.
That's hardly the last word on money management, but neither is it chopped liver. A strict interpretation of MPT is probably going too far. The theory's not perfect—nothing is. But it's equally radical to argue that there's no value here. At the very least, MPT is a useful guideline for building portfolios, managing risk, and putting the various choices in perspective. Theory tells us so, as does the historical record. That's a powerful combination, even if some analysts are eager to suggest otherwise.
June 20, 2011
Tactical ETF Review: 6.20.2011
With the last days of spring dwindling, the equity market is playing defense and bonds are again taking wing. The proximate causes include fresh worries that a rough patch or worse has descended on the economy and that the debt crisis in Greece threatens wider trouble. One sign of distress is the S&P 500, which is trading just above its 200-day moving average as of Friday. A thin 1% buffer now prevails, the smallest margin since last September. "If you feel you’ve seen this before, well, you have," Laszlo Birinyi of Birinyi Associates tells The New York Times. "The market is in a correction — but so what? We’ve had about five corrections of one kind or another in this bull market. It’s not the end of the world." Survival, however, is getting complicated. The Economist warns that's it's still premature to underestimate politicians' capacity for turning "a temporary softening of the global recovery into something worse." Meantime, here's a broad summary of how the major asset classes are faring recently amid all the uncertainty via proxy ETFs through Friday's close:
US STOCKS • Vanguard Total Market (VTI) • Benchmark: MSCI US Broad Market Index
US stocks have fallen to just above a major support line, the 200-day moving average...
FOREIGN DEVELOPED MARKET STOCKS • Vanguard Europe Pacific (VEA) • Benchmark: MSCI EAFE
Stocks in foreign developed markets are equally battered and bruised...
EMERGING MARKET STOCKS • Vanguard Emerging Markets (VWO) • Benchmark: MSCI Emerging Market
The 200-day moving average has given way for emerging market stocks...
US BONDS • Vanguard Total Bond Market (BND) • Benchmark: Barclays US Aggregate
U.S. bonds, in sharp contrast, are riding high...
INFLATION-INDEXED US TREASURIES • iShares Barclays TIPS Bond (TIP) • Benchmark: Barclays US TIPS
TIPS are chugging along nicely too...
HIGH YIELD BONDS • SPDR Barclays High Yield Bond (JNK) • Benchmark: Barclays High Yield Very Liquid
Investors are in no mood for speculative-grade fixed-income securities these days...
COMMODITIES • iPath Dow Jones-UBS Commodity (DJP) • Benchmark: DJ-UBS Commodity
Commodities are set to test lows set previously this year...
REAL ESTATE INVESTMENT TRUSTS • Vanguard REIT (VNQ) • Benchmark: MSCI US REIT
REITs have pulled back recently, but the selling has been relatively mild so far...
FOREIGN DEVLOPED MARKET GOVERNMENT BONDS • SPDR Barclays Int’l Treasury (BWX) •
Benchmark: Barclays Global Treasury ex-US Capped
Foreign fixed income has staged a comeback as the global appetite for risk has waned...
EMERGING MARKET GOVERNMENT BONDS • Van Eck Market Vectors Emg Mkt Local Currency Bond (EMLC) •
Benchmark: J.P. Morgan GBI-EMG Core
There's also a tentative rally in emerging market bonds issued by governments...
FOREIGN GOVERNMENT INFLATION-LINKED BONDS • SPDR DB International Inflation-Protected Bond (WIP) •
Benchmark: DB Global Government ex-US Inflation-Linked Bond Capped
Are bulls rethinking the case for foreign inflation-indexed government bonds?
FOREIGN CORPORATE BONDS • PowerShares International Corporate Bond (PICB) •
Benchmark: S&P International Corporate Bond
Foreign corporate debt is holding tough, but the rise isn't particularly convincing...
Charts courtesy of StockCharts.com
June 18, 2011
Book Bits For Saturday: 6.18.2011
● America's Ticking Bankruptcy Bomb: How the Looming Debt Crisis Threatens the American Dream-and How We Can Turn the Tide Before It's Too Late
By Peter Ferrara
Summary via publisher, HarperCollins
In America’s Ticking Bankruptcy Bomb, conservative policy expert Peter Ferrara explores the issue that will be THE hot-button topic from now until the 2012 presidential election: the looming bankruptcy of the federal government of the United States of America. Providing indisputable evidence that the American welfare state, aggressively expanded by Barack Obama and the Democrats in Congress, is on the verge of rapid and total collapse, Ferrara offers concrete proposals for reforming entitlement programs along free market lines that will shift responsibility from centralized bureaucracies to individual Americans. For every concerned citizen, America’s Ticking Bankruptcy Bomb is a must-read—a blueprint for avoiding the impending catastrophe before it’s too late.
● Making the Progressive Case: Towards A Stronger U.S. Economy
By David Coates
Summary via publisher, Continuum Books
At a time of tea parties and rallies to restore sanity, the political debate in America has become nothing more than a shouting match of various soundbites. This book offers a refreshing change by introducing both conservative arguments and liberal responses in a dispassionate and clear manner. Focusing on the issues that ail the economy under the Obama administration and their possible remedies, the book offers substantiated facts and rational arguments on each side, to promote true debate. Chapters on Obama’s response to the financial crisis, regulated market, green economy, need for reform and more offer a true assessment of the problems at hand and propose a progressive alternative to each of the key issues, from foreclosures to entitlement reform. In addition, two appendices provide additional, in-depth information on the roots of the crisis and an economics primer accessible to the lay person.
● The Essence of Adam Smith's Wealth of Nations
Edited with an Introduction by Hunter Lewis
Summary via publisher, Axio Press
Axios Press’s Essence of . . . series takes the greatest works ever written in the field of practical philosophy and pares them down to their essence. We select the best passages—the ones that are immediately relevant to us today, full of timeless wisdom and advice about the world and how best to live our lives—and leave behind the more obscure or less important bits. Our selections are not isolated: they flow together to create a seamless work that will capture your interest and attention from page one. And we provide useful notes and a solid introduction to the work.
Adam Smith’s Wealth of Nations is widely regarded as the first modern work of economics and a bible of free market capitalism, although both claims are vigorously disputed. What cannot be disputed is that it offers a stinging indictment of what we today call “crony capitalism,” along with a masterful explanation of why such a system impoverishes the whole world. Originally published in 1776 as An Inquiry into the Nature and Causes of the Wealth of Nations, it continues to be enormously influential. Currents of Smith’s thought run through the works of writers as diverse as Karl Marx, John Maynard Keynes, Noam Chomsky, and Milton Friedman.
● The Origins of Business, Money, and Markets
By Keith Roberts
Summary via publisher, Columbia University Press
Understanding the origins of business is fundamental to grasping modern life, yet most historians look no further than the nineteenth century for their narratives. While the industrial revolution profoundly shaped business practice and much of the corporate organization we recognize today, the full sweep of business history actually begins much earlier, with the initial cities of Mesopotamia. In the first book to describe and explain those origins, Roberts travels back to the society of ancient traders and consumers, recasting the rise of modern business and underscoring the parallels between early and modern business practice.
● The Risk Controllers: Central Counterparty Clearing in Globalised Financial Markets
By Peter Norman
Summary via publisher, Wiley
Clearing houses, or CCPs, were among the very few organisations to emerge from the global financial crisis with their standing enhanced. In the chaotic aftermath of the bankruptcy of Lehman Brothers, they successfully completed trades worth trillions of dollars in a multitude of financial instruments across listed and over-the-counter markets, and so helped avert financial Armageddon. That success transformed the business of clearing. Governments and regulators around the world gave CCPs and the clearing services they provide a front-line role in protecting the global economy from future excesses of finance. CCPs, which mitigate risk in financial markets, responded by greatly expanding their activities, notably in markets for over-the-counter derivatives, and often in fierce competition with one another. In The Risk Controllers, journalist and author Peter Norman describes how CCPs operate, how they handled the Lehman default, and the challenges they now face. Because central counterparty clearing is a complex business with a long history that continues to influence decisions and structures even in today’s fast changing world, The Risk Controllers explores the development of CCPs and clearing from the earliest times to the present.
June 17, 2011
IMF’s Revised GDP Forecast: Down, But Not Out
The IMF cut its forecast for global economic growth today, albeit slightly. The organization expects global GDP to rise this year by 4.3%, down from its previous 4.4% estimate. “The global economy, hit by slowdowns in Japan and the United States, is expected to reaccelerate in the second half of the year, but growth remains unbalanced and concerted policy action by major economies is needed to avoid lurking dangers,” the IMF advises.
For the U.S., the new prediction calls for a 2.5% rise, down from a 2.8% forecast in April. That's more or less what I've been expecting, which is to say growth of some degree. Not great, but enough to keep the macro demons at bay. Next week's economic data updates may change my view, but as I've been discussing this week, the numbers for the U.S. still fall short of risking a new recession. The argument that's it's soft patch still look more compelling, if only moderately. Apparently the IMF agrees.
But there may be a joker in this deck, the IMF notes. As The Telegraph reports:
The IMF added that a lack of political leadership in dealing with the debt crisis and the budget showdown in the United States could create major financial volatility in coming months.
"You cannot afford to have a world economy where these important decisions are postponed because you're really playing with fire," said Jose Vinals, director of the IMF's monetary and capital markets department.
Strategic Briefing | 6.17.2011 | The Greek Debt Crisis
Worries Grow About Breadth of Debt Crisis
The New York Times | June 17
Two Deutsche Bank strategists, Jim Reid and Colin Tan, warned in a report on Thursday that this Greek crisis had echoes of the collapse of the Lehman Brothers investment bank in September 2008, an event that plunged the financial system into chaos and required the commitment of trillions of dollars in government support to stave off another Great Depression. “Everyone in every corner of global financial markets should be keeping a very close eye on upcoming Greek events,” they wrote. “The period is resembling the buildup to the Lehman collapse where, although markets were increasingly nervous, virtually everyone expected a last-minute buyer.” One ugly scene that some analysts are imagining involves a default by Greece leading to losses inflicted on banks in other European countries that own large amounts of Greek debt. The European Central Bank, too, is a big holder of debt, and analysts said in the event of a default it might need to be recapitalized, another blow to confidence.Those losses could then cascade to the United States because the American and European banking systems are so interlocked, lending billions of dollars to each other every day.
Europe's Greek Stress Test
J. Cochrane and A. Kashyap (Wall Street Journal | June 17
Greek debt is in trouble—again. After a month of dickering, it seems likely that the International Monetary Fund and the European Union will agree to roll over Greece's debt so bondholders will be paid in full. Why is Europe so terrified of letting bondholders bear some of the risk that comes with high yields? The answer is that most of those bondholders are banks. If Greece defaults, then important French and German banks will be in deep trouble. Even a small rescheduling would force the banks to admit their losses. If Greece is allowed to default, reschedule or abandon its restructuring, Ireland, Portugal, Spain and Italy may soon follow. This scenario is beyond the EU's bailout capability. And it would leave the European financial system in shambles, because, again, the banks are holding that debt.
Dollar gains vs. euro on Greece’s debt woes
MarketWatch | June 17
The dollar retook ground against the euro Friday, with the market focusing on Greece’s sovereign-debt woes... See real-time currency quotes and tools...
Greece replaces finance minister
FT | June 17
George Papandreou, prime minister of Greece, has replaced his finance minister in a broad cabinet reshuffle to counter widespread anger over tough new austerity measures essential to prevent Greece from a disastrous default. Former defence minister Evangelos Venizelos, who challenged Mr Papandreou for the party leadership four years ago, will become finance minister, replacing George Papaconstantinou, who takes over the energy portfolio.
Oil heads for biggest weekly drop since May on Greece
Reuters | June 17
Brent crude was steady near $114 on Friday as investors assessed the impact of the Greek debt crisis on risk aversion, which has taken almost 4 percent off prices this week in the biggest drop since early May. The euro slipped, with markets still unconvinced that Greece could dodge a default even after appearing to secure a round of near-term funding.
Emerging Stocks Head for Three-Month Low on Greece Debt Crisis Concerns
Bloomberg | June 17
Emerging-market stocks fell for a third day, sending the benchmark index to a three-month low, on concern that Europe’s debt crisis won’t be resolved as leaders meet today to discuss a rescue package for Greece. The MSCI Emerging Markets Index slid 0.3 percent to 1,104.04 at 2:40 p.m. in Singapore, set for the lowest close since March 18. The gauge is heading for a second week of losses.
Will the IMF pay the next tranche to Greece?
Danske Bank | June 17
There are now two issues that could stop the IMF from paying the next tranche to Greece:
(1) if funding is not in place for 2012, and (2) if a no confidence vote results in new austerity measures including privatisation plans not being agreed.
1. With regard to the funding issue, the IMF now seems prepared to release the next tranche if it just gets a promise of future European funding rather than concrete commitments as it has previously demanded. We think that the IMF will receive such a promise on Monday when the Eurogroup is expected to reach a tentative deal for Greece. It will be difficult to reach a deal that all governments and the ECB can live with and it might well be that Greece is not in a position to deliver many promises on austerity measures. Nevertheless, we believe that the EU will find the money. The alternative is simply too scary.
2. If he wins a vote of confidence, Papandreou can go ahead with a vote on the austerity measures including the privatisation plans, which are a precondition for funding from the EU and the IMF. However, if he does not win the vote of confidence, there will probably be a general election, and austerity measures will not be agreed this month. It is uncertain whether Greece could then receive the next tranche from the IMF. But as emphasised by a senior IMF official, it is important not only for Greece, but for Europe and the world, that Greece gets its next trance, so unless it is really evident that a new Greek government would not deliver sufficiently on austerity measures, the IMF would probably go ahead and pay the next tranche. If the IMF decides not to pay the next trance, the EU could step in with more money. But in this situation,
uncertainty is really high.
The most likely outcome is that the EU and the IMF will go ahead and pay the next tranche for Greece even though they now realise that it is increasingly likely that a hard restructuring will eventually be necessary.
Greece – Domestic divisions deepen
Decision Economics | June 16
The Greek political developments over the last day makes the details and timing of a bail-out almost irrelevant and could very well make the IMF change it mind once again. Indeed, it could be argued that the Greek debt crisis is no longer in the hands of Eurozone policy-makers, instead lying purely with Greece. In this regard, the appetite of Greece to stomach further budget cuts looks uncertain at best...More immediately, the risk is of contagion, with peripheral market debt already reacting more adversely, with markets not just pricing in a Greek default but now looking to the possibility of such a default being disorderly and thereby spreading throughout the Eurozone mainly via financial channels.
June 16, 2011
Jobless Claims Fall To 4-Week Low
With each new data point on weekly jobless claims, the theory that the recent jump in filings is temporary grows stronger. Last week’s claims fell 16,000 to a seasonally adjusted 414,000, the lowest in a month and well below the recent peak of 478,000. That’s still too high to inspire much confidence about economic growth or the future of job creation, but it’s getting tougher to argue that a new recession is here based solely on this data series. True, this is just one number, but it’s an important leading indicator. If the economy is contracting, or set to contract, it’s likely that there’d be a clear sign in jobless claims. For now, the worst you can say is that the numbers in new claims are ambiguous.
Despite April’s surge in jobless claims, the broader message is that new filings are basically unchanged since the year started. That's discouraging since the level is still elevated. A kind interpretation of what’s happened over the last two months is that jobless claims dropped an early clue that the economy is facing a fresh round of headwinds, as revealed by the late-April spike (black line in the chart below). The warning was more than subtle, as we noted at the time. With the benefit of two additional months of jobless claims data, however, the case for seeing a rough patch rather than a recession is still a viable perspective.
Another view of jobless claims is looking at the trend in unadjusted terms on a year-over-year basis, which cuts out the short-term noise. Here too the numbers have pulled back from the brink. Unadjusted claims last week were nearly 12% lower vs. a year ago. This is one metric, at least, that’s a long way from screaming another recession is ready to pounce.
As noted earlier today, there’s still room to debate the near-term future for the business cycle based on other indicators as well. Consider, too, that the Philly Fed’s Aruoba-Diebold-Scotti Business Conditions Index suggests that while the trend has weakened recently, it seems to have stabilized.
Nonetheless, there’s still a big distinction between a) finding it difficult to locate clear and authoritative quantitative evidence that an economic contraction is imminent and b) seeing a rosy future. Macroeconomic Advisors lowered its forecast of U.S. GDP to an annualized 1.9% for the second quarter, down sharply from its earlier 3.5% prediction, according to a story in today’s New York Times.
In the same article, an economist at another firm worries that the fallout from the deteriorating conditions in the crisis in Greece has global repercussions. "The concern is that a default by Greece would not only hurt European banks but could also spread to U.S. banks," says Bernard Baumohl, an economist at the Economic Outlook Group and author of The Secrets of Economic Indicators. "Should there be a default, it can only have a delaying effect on the recovery, hurting American exports and the banks’ ability to lend."
It’s been clear for more than a month that the U.S. economy is under a new round of stress, and recent events don't offer much hope for changing that view. What’s been debatable all along is whether the stress will kill the recovery. It remains an open question. Still, we can’t dismiss the threat. The fact that job creation—perhaps the single-most important economic number these days—took a sharp dive last month is reason enough to take this threat seriously. If the next employment update shows an equally weak or worse report for June, that would weigh heavily on expectations for what happens next.
Meantime, this is an evolving situation, as they say, and so far the numbers we have to date reflect trouble but it’s not obvious that it’s enough trouble to do more than slow the recovery. The case for modest optimism may take a hit in the weeks ahead, of course, but not yet.
A Recession Or A Rough Patch?
Chatter about a new recession ticked up yesterday after the Greek debt crisis took another turn for the worse. Yale economist Robert Shiller, author of Irrational Exuberance, says there’s a “substantial” risk that the U.S. faces another downturn. There’s certainly plenty of support from the man on the street. Close to half of Americans think the U.S. is headed for a new recession, according to a freshly minted NBC News/Wall Street Journal poll. Perhaps, but the numbers suggest that this future isn't fate at this point. If we’re looking at the economic and financial numbers, there’s still plenty of room for debate on the next phase for the business cycle.
There are dozens of reports to consider, of course, but one that’s been timely in dropping clues about new trouble in the pace of economic growth is sending mixed messages at the moment. Indeed, nearly a month ago the yield spread between nominal and inflation-indexed Treasuries was flashing a warning, as we noted. A similar round of caution was dispensed by this metric a year ago, ahead of the summer slowdown in 2010. And in anticipation of the subsequent revival in the economy in recent months, this yield spread was ahead of the curve once again, as suggested by the rising trend from late-August onward. What's this indicator telling us now? It seems to be in a holding pattern after it's recent drop.
As the chart below shows, the yield spread in Treasuries remains in the 2.25% range. Although it was falling consistently in the recent weeks, the decline appears to have taken a breather. The descent may resume, of course, which would be a discouraging sign of the market's expectations on inflation, and by extension the outlook for economic growth. But for now, at least, the crowd seems to be waiting for more data.
There are other market metrics that suggest the jury's still out on the odds for a new recession. The 12-month percentage change in the S&P 500, for instance, which tends to go negative concurrently if not in advance of a new recession, is still comfortably positive. Credit spreads also remain relatively low. And U.S. industrial production's 12-month change is still comfortably in the black as well. Several other economic and financial indicators remain positive too.
The problem is that there's deterioration in the general trend. Deciding when the deterioration becomes a bonafide sign that a recession is upon us is tricky. No one really knows for sure when economic growth turns into contraction. But history suggests we'll have a number of indicators telling us that the danger levels are in the red zone. We're not there yet, although it's certainly conceivable at this point that we're on our way.
Meantime, we'll be watching each new data point carefully. Next up: Today's update on weekly jobless claims, scheduled for release this morning at 8:30 eastern.
June 15, 2011
Mixed News On Inflation
Today’s inflation update for May was ripe with conflicting signals. There’s enough here for inflation hawks as well as doves to keep the debate bubbling until the next round of numbers. Headline inflation slowed last month to a 0.2% rise on a seasonally adjusted basis, down from 0.4% in April. But core inflation, which excludes food and energy, accelerated, rising 0.3% in May—the fastest monthly pace in nearly three years. That's still well within the Fed's 1%-to-2% target range, but the fact that core's rate delivered a rare increase above headline's pace raises warning flags by some accounts.
"The indexes for apparel, shelter, new vehicles, and recreation all contributed to the acceleration [in core inflation], rising more in May than in April," the Labor Department explains in a press release. "These increases more than offset declines in the indexes for airline fare, tobacco, and personal care."
As for inflation’s annual pace, both headline and core CPI measures are rising, and at higher rates. As the chart below shows, headline inflation rose by 3.4% last month vs. a year ago, the fastest since late-2008. Core inflation’s year-over-year rate moved up in May as well, reaching a 1.5% increase vs, the same period in 2010.
Does this mean we have an inflation problem? Perhaps, or so the numbers suggest to some analysts. But there's still room for debate. Let’s start with headline inflation. A key reason why broadly defined CPI’s pace dropped last month was due to the tumble in energy prices in May. True, oil and gas prices are still elevated and it’s not clear they’re headed materially lower any time soon. But without a sustained rise in energy prices from here on out, a key driver of headline inflation’s rise over the past year may be neutralized for the near term.
The rough patch in the economy certainly offers support for thinking energy prices may tread water in the months ahead. Today’s update on industrial production only strengthens the view that economic growth is struggling. The Federal Reserve reports that industrial production advanced a thin 0.1% last month, which translates into a 3.4% rise over the past 12 months—the slowest rate in more than a year.
It’s still tough to make the case that a new recession is brewing, but it’s equally difficult to see inflation roaring higher given the current macro malaise. Some will point to the acceleration in core inflation as a warning sign of new pricing pressures, although that’s premature. True, a 12-month rise of 1.5% in core CPI is more than double the annual pace as of last December, but that’s a good thing. Recall that core inflation was falling rather consistently for much of last year. The Fed’s QE2 monetary stimulus was designed to halt that trend. Mission accomplished. Meantime, core inflation at 1.5% is hardly extreme. If it keeps rising, that’s a problem, of course, but given the sluggish state of the economy, that risk looks minimal for the moment.
Still, there’s an opposing view, as articulated today by Barclays Capital senior economist Peter Newland. "All in all, today's report provides further evidence of building price pressures across a broad range of goods and services, consistent with our view that the degree of economic slack is not that large," he advises via The Wall Street Journal.
But Martin Schwerdtfeger, an economist at TD Economics, writes today that “a slowly declining unemployment rate will keep a lid on real wages. This will restrain unit labor costs, defusing one of the possible catalysts for higher inflation.” As a result, he forecasts that core inflation will average 1.5%, this year, or roughly holding steady at the current pace. Next year, he expects core CPI will rise to 2.1%.
Unless you’re expecting a sudden and powerful surge in the economy, Schwerdtfeger’s outlook sounds reasonable. Even so, today’s numbers will keep the market wondering: What happens next?
"The core reading of 0.3 percent is surprising and somewhat disturbing,” admits Josh Feinman, chief global economist at DB Advisors. “I remain pretty sanguine about inflation, but this month certainly doesn't help."
Strategic Briefing | 6.15.2011 | U.S. Inflation
Consumer Prices in U.S. Probably Rose in May at Slowest Pace in Six Months
Bloomberg | June 15
The cost of living in the U.S. probably rose in May at the slowest pace in six months as fuel costs waned, economists said before a report today. The consumer-price index increased 0.1 percent after a 0.4 percent gain in April, according to the median forecast of 79 economists surveyed by Bloomberg News. The so-called core measure, which excludes more volatile food and energy costs, may have increased 0.2 percent for the fourth time in five months.
Inflation Outlook Has Treasury Bulls Snorting
The Wall Street Journal | June 15
Investors sense that inflation gauges look set to peak and start rolling over by early next year. Certainly, a rebound in oil and other commodity prices could draw out that process. But with global growth throttling back, that prospect has dimmed. Prices on goods further back in the production pipeline, for example, already are down sharply. Prices for finished wholesale goods rose just 0.2% month on month during May, and crude-material prices slumped 4.1%. "The idea that there is significant inflationary pressure in the U.S. economy over the medium term is looking challenged," says BTIG chief global economist Dan Greenhaus.
FC Market Squawk | June 15
4CAST sees May consumer prices in the US unchanged from April. The impact from food and energy will likely turn negative for the 1st time since June 2010. This will be driven primarily by a sharp decrease in energy prices, while gasoline prices seem likely to see downward pressure from seasonal adjustments. Meanwhile, we see food prices staying positive, but moderating to a 0.3% gain as the trend stabilises. Ex food and energy looks set to maintain a stable trend with a 0.2% increase after rounding effects, in-line with the trend of 0.1-0.2%, while being contained by subdued wage growth and uneven performance among the components. On a yearly basis, CPI looks set to rise further to 3.3%, with core drifting higher as well to 1.4% from 1.3%. The Reuters consensus for CPI is 0.1% MoM, 3.4% YoY on a headline basis. The Reuters consensus for Core CPI is 0.2% MoM and 1.4% YoY.
Wholesale prices rise at slower pace in May
MarketWatch | June 14
U.S. wholesale prices rose in May at the slowest pace in 10 months as the cost of food fell and energy prices moderated, the government reported Tuesday.
Complete Pass-Through of Core Wholesale Prices to Consumer Prices is Not Here Yet
Northern Trust | June 14
The Producer Price Index (PPI) of Finished Goods increased 0.2% in May, following larger gains in each of the past five months. A 1.5% jump in energy prices was offset partly by a 1.4% drop in food prices during May. The BLS indicated that energy prices accounted for a large part of the increase in the wholesale price index. Energy prices have risen for eight straight months... At the earlier stages of production, the intermediate goods price index and core intermediate goods price measure advanced 0.9% in May. The latter has risen for ten consecutive months and the increase in May is traced to higher prices of industrial chemicals. Despite the sustained upward of core intermediate goods prices and the core finished goods prices, core consumer prices show a mild upward trend, implying that a complete pass-through of higher wholesale prices to consumer prices is not visible, as yet.
Producer Price Food Inflation: Crude vs. Consumer
Carpe Diem (Prof. Mark Perry) | June 14
Double-digit inflation (or deflation) rates in crude food items (like we've had for the last 11 months now starting last July) never translate into double-digit inflation (deflation) rates for finished consumer food products.
U.S. Wholesale Prices Rise 0.2% on Plastics, Fuel, Textiles
Bloomberg | June 14
“Consumers don’t have the income to sustain the higher food and energy prices, so they’re going to cut back on spending elsewhere,” said economist Neil Dutta at Bank of America Merrill Lynch in New York after the report. “When you have five people competing for every job, wages are going to remain very weak, and that’s what ultimately drives inflation.”
June 14, 2011
Retail Sales Slip In May
Retail sales fell a modest 0.2% last month on a seasonally adjusted basis, the Census Bureau reports. That’s the first monthly decline in nearly a year. Given the recent weakness in several economic reports, no one needs an excuse to see today's retail sales news as a sign of trouble ahead. Fair enough, although there's still room for debate. As troubling as the number du jour is, the broader context for retail sales remains quite positive. That may or may not be decisive, but it's something.
As the chart below shows, the 12-month trend in retail sales remains robust through May, advancing nearly 8% on a seasonally adjusted basis. That's higher than during the boom years just before it all came crashing down in the Great Recession. If there's a new recession approaching, it's not obvious in the annual pace of retail sales.
There's no law that says the rolling 12-month percentage change in retail sales will offer an early sign of a downturn in the business cycle. Nonetheless, history suggests that this measure is likely to suffer a rapid decline in the early stages of a new recession. For the moment, at least, there's no sign of such stress in the annual rate of change, which filters out a fair amount of noise in the month numbers.
But parsing the data in the months ahead is going to be tricky. The retail sales growth rate on a year-over-year basis is destined to slow, falling to something approaching a "normal" level of expansion, assuming the economy muddles through the latest soft patch. The question is how much it slows, and how fast? Based on the latest data, the slowdown is gradual...so far. That may change in the months ahead, of course, but there's no sign of it yet.
Even if we look at the more sensitive measure of real (inflation-adjusted) retail sales on a year-over-year basis, the growth rate looks encouraging. We can also review various adjusted measures of retail sales for additional clues. For instance, retail sales excluding the volatile auto sector, but here too the annual pace is still strong, rising 5.4% over the past year. Another perspective is looking at retail sales less gasoline purchases, but once again there's no obvious sign of danger. By this measure, consumption ex-gasoline is up around 6% vs. the year-earlier period, or just moderately below the 7%-to-8% peak for the cycle reached a few months earlier.
“Consumers are hanging in, given the headwinds,” Omair Sharif, an economist at RBS Securities, told Bloomberg before this morning's report was released. "Some of the temporary factors will fade in the second half. Consumers are in a position to add to economic growth though at a very moderate pace."
He may or may not be right, but it's not easy to dismiss Sharif's view based solely on today's retail sales news. But one data series alone can only tell you so much, if anything. Context is important. Let's see what tomorrow's update on industrial production reveals. The consensus forecast is a slight gain of 0.2% for May industrial production, up from April's unchanged report. Stay tuned…
Strategic Briefing | 6.14.2011 | U.S. Retail Sales (May)
The update for U.S. retail sales for May arrives later this morning, offering a new data point for deciding if the economy's slowing, and if so, by how much? Retail sales for April rose 0.5% (seasonally adjusted). The consensus forecast for May calls for a drop of 0.7%, according to Briefing.com. Here's what analysts have been writing recently in anticipation of today's retail sales report:
Four Scenarios For The US Retail Sales Report
ActionForex | June 14
Tuesday's key report from the US will be the May retail sales figures. With consumer spending making up a majority of the economy, gauging US spending will give us an important read on the health of the recovery. Will May show consumers curtailing spending in May? We already know that consumers bought less cars in May, and therefore the headline retail sales number will be weak. Overall sales are expected to decline 0.3%, after a 0.5% gain in April.
Weak US retail sales would reinforce belief of soft patch, drive USD lower
FXStreet.com | June 14
Later in the day, all eyes will be on the US retail sales report which could help to confirm a weak US outlook or dispell some fears. Kathy Lien, director of currency research at GFT, explains: "If consumer spending falls more than anticipated, and that needs to be 1 percent or greater, it could drive the U.S. dollar even lower simply because of shock." Lien adds: "A contraction greater than 1 percent could lead some people to believe that not only is the recovery losing momentum but the U.S. economy could be headed for a contraction.
Sunrise Market Commentary
KBC | June 14
In May, US retail sales are forecasted to have dropped for the first time in almost one year. The consensus is looking for a decline by 0.5% M/M due to slowing rises in gasoline prices and a decline in motor vehicle sales. While the warm weather might have had a positive impact, a fall-back in some categories after the Easter Holidays is likely. Retail sales excluding gas and autos, on the contrary, are forecasted to have risen for the fifth consecutive session, but we believe that the risks might be on the downside of expectations.
Daily FX Strategist
BNP Paribas | June 13
Retail sales data out of the US tomorrow will likely echo the recent data soft patch, but with the Fed discouraging talk of further QE, the dynamic whereby weak US data means more USD liquidity, and by extension a weaker USD, is unlikely to hold. Concerns about global growth discourage investors from seeking higher yielding assets outside of the US, while uncertainty about the effects of ending of QE2 also weigh.
Retail Sales Probably Decreased in May
Bloomberg | June 12
Sales at retailers probably fell in May as Americans bought fewer cars and elevated gasoline costs restrained consumers, reports may show this week. The 0.5 percent drop in purchases, the first decline in 11 months, would follow a 0.5 percent gain in April, according to the median forecast of 62 economists surveyed by Bloomberg News ahead of Commerce Department data June 14. Other reports may show inflation eased and manufacturing expanded.
U.S. Retail Sales - May
TD Economics | June 10
The sharp 10% plunge in new motor vehicle sales in May should push the value of total retail sales lower for the first time since June last year. Weak employment growth and severe storms in the South should also temper household spending activity. During the month we expect sales
to decline by 1.0% M/M, reflecting the softening tone in personal expenditures as the economy navigate through the current soft patch.
Weekly Market & Economic Update
AMP Capital | June 10
In the US, May retail sales should show a 0.3% gain helped by a fall in gasoline prices over the last month. Business surveys for the New York and Philadelphia regions are likely to show that manufacturing growth remains subdued and May housing starts and permits data should show a modest rise after weakness in April.
June 13, 2011
Asset Allocation, Risk Premia & Sharpe Ratios | May 2011 Update
The big shift in the mix for the Global Market Index (a proprietary benchmark that uses a passive weighting of all the major asset classes) over the past year has been a drop of nearly three percentage points for U.S. bonds and the same for foreign developed-market government fixed income. Meantime, the leading increase in relative terms for the 12 months through this past May has been a rise in the weighting for foreign-developed market stocks. As the table below shows, equities in mature markets added more than two percentage points to their collective allocation in GMI for the year through last month.
In close second for the biggest relative increase in GMI’s asset mix: foreign corporate bonds, which also gained over two percentage points in their asset allocation. (You can find the proxy indices for all the major asset classes and recent total return performance here.)
Meanwhile, the second table below updates risk premiums for the major asset classes and GMI through the end of May. Remember, the risk premiums below are defined as the annualized total return less 3-month T-bills, which are used as a “risk-free” benchmark. In a future post (hopefully within a week or so), I’ll post my estimates for long-run risk premia.
Finally, here’s a look at how trailing Sharpe ratios (risk premium divided by return volatility) stack up for the trailing 3- and 10-year periods through May 31, 2011. Higher Sharpe ratios reflect higher realized risk premiums relative to volatility (annualized standard deviation of return). For example, the best-performing asset class over the past decade in terms of its return-to-risk ratio: emerging-market debt, which boasts a Sharpe ratio of 0.93. By comparison, U.S. equities suffered an extraordinarily low Sharpe ratio of just 0.08. Yes, here's one more piece of statistical support for saying that it’s been a very tough decade for stocks. Ouch!
Macro & Markets Roundtable Discussion...
I'm one of three panelists for tomorrow's teleconference on using economic data to make informed investment decisions (4-4:45pm eastern, hosted by Focus). You can find the details for this event here. All are welcome to listen in and post questions.
Strategic Briefing | 6.13.2011 | U.S. GDP Forecasts
Sluggish Hiring Seen as a Threat to Recovery
The Wall Street Journal | June 13
The potential for a persistent slowdown in hiring is the biggest threat to the U.S. recovery, according to economists in the latest Wall Street Journal economic forecasting survey, as they sharply cut the number of jobs they projected the economy would create in coming months... In the latest survey, the economists lowered their forecasts for second-quarter growth in gross domestic product to 2.3% at a seasonally adjusted annual rate—down from last month's forecast of 3.2%. However, they see growth perking up to 3.3% in the second half of 2011.
Second Half 2011 U.S. Growth Rebound Intact, Economists Say
Bloomberg | June 10
Slowdowns in consumer spending and employment will prove temporary, giving way to a U.S. growth rebound in the second half of 2011, economists surveyed by Bloomberg News said. After growing at a 2.3 percent annual pace this quarter, the world’s largest economy will expand at a 3.2 percent rate from July through December, according to the median forecast of 67 economists polled from June 1 to June 8.
Cleveland Fed's Top Economist Sees US '11 GDP Below 3%
Dow Jones | June 10
The U.S. economy's slowdown should prove temporary as supply disruptions stemming from Japan's earthquake are solved earlier than anticipated and gasoline prices remain tame, a top economist at the Federal Reserve Bank of Cleveland said Friday. However, Cleveland Fed Research Director Mark Schweitzer cautioned that the U.S. economy is unlikely to grow at a very strong pace for some time as continued troubles in housing weigh on consumer confidence and spending. U.S. gross domestic product, the broadest measure of economic activity, should expand by less than 3.0% in 2011 after high energy prices weighed on consumer spending and Japan's disaster hit auto sales in the first half of the year, the central bank economist said.
Analysts cut U.S. Q2 growth forecast to 2.5% rate
MarketWatch | June 9
Economists polled by MarketWatch lowered their estimate for second-quarter GDP to a 2.5% annualized growth rate, according to a special survey conducted this week. While this is faster than the 1.8% growth rate reported in the first quarter, it is down from earlier projections for Q2 growth of about a 3.35% rate that prevailed over the past month. Weak job growth and a sharp slowdown in the manufacturing sector in May have raised doubts about the health of the economy.
Higher Growth, Lower Unemployment Predicted for Second Half of 2011
The Livingston Survey (Philadelphia Fed) | June 9
The 35 participants in the June Livingston Survey have raised their estimates of output growth for the second half of 2011. The forecasters, who are surveyed by the Federal Reserve Bank of Philadelphia twice a year, project that the economy’s output (real GDP) will rise at an annual rate of 2.2 percent during the first half of 2011 and 3.2 percent during the second half of 2011, followed by growth of 3.0 percent (annual rate) in the first half of 2012. The projection for slower real GDP growth in the first half of 2011, which is 0.3 percentage point lower than the projection in the survey of six months ago, will be compensated with stronger growth in the second half of 2011.
Wells Fargo | June 8
Our forecast calls for real GDP to rise at a 2 percent pace during the second quarter, which is only slightly above first quarter growth. The composition, however, should be markedly improved with real final sales strengthening from the first quarter’s paltry 0.6 percent pace to a solid 3.3 percent pace in the second quarter and 2.5 percent in the second half of this year. One turnaround factor later this year is that the drag from government spending should also diminish as revenue growth slowly improves at the state and local level.
Economy Brakes Even Before Fed Takes Its Foot Off the Accelerator
Northern Trust | June 8
Consistent with our downwardly-revised real GDP growth outlook, we have revised up our forecast for the unemployment rate. In addition, we have revised down our forecast for the yield levels of the Treasury 2- and 10-year securities. (See tables at the end of this commentary containing our current and April 28 forecasts.) If we are close to the mark on our second-half GDP and unemployment rate forecasts, we could envision another round of Fed quantitative easing commencing early in 2012 with no Fed policy interest rate hikes occurring until early 2013.
Solid Economic Growth Expected in 2011 and 2012, According to Chicago Fed Automotive Outlook Symposium Participants
Chicago Fed | June 6
The eighteenth annual Automotive Outlook Symposium was held in Detroit on Thursday and Friday, June 2–3, and drew more than 90 participants from manufacturing, banking, consulting and service firms, and academia. This year, 24 individuals provided a consensus outlook—forecasts for major components of real gross domestic product (GDP), as well as several key statistics for the U.S. economy. The median forecast results are presented in the table. According to the median forecast of symposium participants, the nation’s economic growth rate in 2011 is expected to be a bit slower than in 2010, inflation is predicted to rise, and the unemployment rate is anticipated to move lower. The pace of economic growth in 2012 is expected to edge higher, with inflation easing and the unemployment rate continuing to head lower. Real GDP, after having increased 2.8% last year, is forecasted to rise by 2.6% this year and 2.9% in 2012.
June 10, 2011
Book Bits For Saturday: 6.11.2011
● Winning at Risk: Strategies to Go Beyond Basel
By Annetta Cortez
Excerpt via publisher, Wiley
Since risk plays an absolutely crucial role in a financial institution’s very existence, you would expect it would know virtually everything about risk. You would expect all of the institution’s executives, managers, and employees to possess a strong understanding of risk, and you would expect the institution to have specialists in every aspect of measuring and managing risk. You would also expect the institution to have developed a common language for discussing and evaluating risk with maximum clarity and transparency. Chances are good, however, that reality would not live up to your expectations. Not because your expectations are unreasonable; in fact, they are quite reasonable... You can’t really understand finance unless you understand risk. You can’t just skip over the risk component of finance. That would be like taking an advanced class in molecular biology without first understanding basic chemistry. It ain’t gonna happen—or if it does, watch out. And that’s why risk management must be a core competency and primary capability of every financial institution. Instead, risk management is often considered a burden, something that controls and restricts legitimate business activities without adding any real value.
● Good Strategy Bad Strategy: The Difference and Why It Matters
By Richard Rumelt
Review via Management Today
John Maynard Keynes famously observed: 'Practical men, who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist.' Such a fate, of quietly informing future generations of pragmatic business leaders, may well fall, in time, to Richard Rumelt. Although for now he and his ideas are far from defunct. His book represents the latest thinking in strategy and is peppered with many current real world examples. Good Strategy/Bad Strategy has much to offer and has every chance of becoming a business classic. The overblown language of many management books makes them hard going. Good Strategy/Bad Strategy is an enjoyable exception. The book is easy to read and one of the best ways to convey its flavour is to let it speak for itself with a few quotes. The book argues that the notion of strategy has become much misunderstood: Simply being ambitious is not a strategy ... 'for many people in business, education and government the word "strategy" has become a verbal tic. A word that can mean anything has lost its bite.' In terms of what strategy actually is, Professor Rumelt offers a simple definition. A good strategy does more than just urge us forward ... it honestly acknowledges the challenges being faced and provides an approach to overcoming them.
● Human Action
By Ludwig von Mises
References via The Wall Street Journal
"If I'm in, I'll be all in," says Rep. Michele Bachmann of Minnesota, artfully dodging my question of whether she's running for president. Given that she just hired campaign strategist Ed Rollins, whose past clients include Ross Perot and Mike Huckabee, rumors abound. "We're getting close," she says, "and if I do run, like all my races, I will work like a maniac."... Ms. Bachmann is best known for her conservative activism on issues like abortion, but what I want to talk about today is economics. When I ask who she reads on the subject, she responds that she admires the late Milton Friedman as well as Thomas Sowell and Walter Williams. "I'm also an Art Laffer fiend—we're very close," she adds. "And [Ludwig] von Mises. I love von Mises," getting excited and rattling off some of his classics like "Human Action" and "Bureaucracy." "When I go on vacation and I lay on the beach, I bring von Mises."
● World Wide Mind: The Coming Integration of Humanity, Machines, and the Internet
By Michael Chorost
Review via Web Teacher
The title of this book is a good summary of what it’s about. It’s not about web design or web education, it’s about how the human brain could connect with other human minds through the Internet. Chorost describes the book as a thought experiment about things that are conceptually plausible, though not yet in practice. He gives many examples of how his ideas about the future are based in technology that is already in use. There are chapters on the technology that is used to detect brain activity, chapters on nanowires and optogenetics – both mechanisms that can read and write brain activity, chapters on communications protocols for sending perceptions and memories from one brain to another, chapters on examples of what might result from linking humans to the Internet, and chapters on a possible future collective mind. The writing style is accessible and clear. In an age when people talk about neural pathways over the dinner table, the science discussions in the book are open and written for the average informed person.
● The Filter Bubble: What the Internet Is Hiding from You
By Eli Pariser
Interview with author, via Democracy Now
The internet is increasingly becoming an echo chamber in which websites tailor information according to the preferences they detect in each viewer. When some users search the word “Egypt,” they may get the latest news about the revolution, others might only see search results about Egyptian vacations. The top 50 websites collect an average of 64 bits of personal information each time we visit—and then custom-design their sites to conform to our perceived preferences. What impact will this online filtering have on the future of democracy? We speak to Eli Pariser, author of The Filter Bubble: What the Internet Is Hiding from You. "Take news about the war in Afghanistan. When you talk to people who run news websites, they’ll tell you stories about the war in Afghanistan don’t perform very well. They don’t get a lot of clicks. People don’t flock to them. And yet, this is arguably one of the most important issues facing the country," says Pariser. "But it will never make it through these filters. And especially on Facebook this is a problem, because the way that information is transmitted on Facebook is with the 'like' button. And the 'like' button, it has a very particular valence. It’s easy to click 'like' on 'I just ran a marathon' or 'I baked a really awesome cake.' It’s very hard to click 'like' on 'war in Afghanistan enters its 10th year.'"
A New Survey On The Economy Offers A Bit Of Optimism
The economic news in recent weeks suggests that the recovery has hit a rough patch, but at least one forward-looking review of the macro trend says the rearview mirror may be misleading. The 35 economists in yesterday’s update of the biannual Livingston Survey—the longest-running continuous set of predictions by dismal scientists—see moderately improving conditions in the second half of this year.
U.S. real (inflation-adjusted) GDP will rise at an annual rate of 3.2% in the six months through December 2011, according to the forecasters, who are surveyed twice a year by the Federal Reserve Bank of Philadelphia. That compares with an expected rise of 2.2% in this year’s first six months. The survey participants also predicted that unemployment rate will slip in the months ahead, albeit slightly, falling to 8.6% by the end of this year, down from the reported 9.1% rate as of last month.
Inflation, by contrast, will rise moderately in the months ahead. The Livingston Survey forecasters anticipate consumer prices will increase by 3.1% for all of 2011, up from the previous estimate of 1.6%, as per the forecast in the December survey.
The Livingston data provides a bit of optimism about the next phase of the economy at a time when optimism suddenly seems to be in short supply. But as of yet, the optimism, whether in the Livingston survey or elsewhere, doesn’t reflect the actual numbers reported in recent weeks.
For example, the Aruoba-Diebold-Scotti (ADS) Business Conditions Index, which is also maintained by the Philly Fed, continues to issue warnings, albeit mildly so. This index is continuously updated with mixed-frequency data:
Industrial Production (monthly)
Personal Income Less Transfer Payments (monthly)
Manufacturing & Trade Sales (monthly)
Initial Jobless Claims (weekly)
As new data for each of these series arrives, the ADS Index is updated, with the latest numbers as of June 4. The ADS Index and comparable benchmarks have shown some evidence of providing “timely statistical evidence of turning points,” according to one economic briefing. The question is whether that will remain true in the months ahead. Or should we put more weight in the relative optimism of the Livingston Survey?
Perhaps it’ll be easier to answer confidently, one way or another, after digesting next week’s busy round of scheduled data revisions: retail sales (Tues), consumer price inflation and industrial production (Wed), jobless claims and housing starts (Thursday), and the Conference Board’s Leading Indicators Index and the University of Michigan's Consumer Sentiment Index (Fri).
Back here in real time, the debate about what comes next rolls on. That’s good news to a degree if you consider that if the near-term outlook for the economy isn’t an open-and-shut case, there’s still hope. Of course, there’s a flip side to that reasoning. But given the recent numbers, you have to grab whatever points of light are offered.
June 9, 2011
Jobless Claims Inched Higher Last Week
If you’re inclined to optimism, you can argue that today’s update on initial jobless claims isn’t signaling a new recession after all. True, new filings for jobless benefits rose slightly last week by 1,000 to a seasonally adjusted 427,000. That’s still too high to encourage forecasts of robust growth in either the labor market or the economy overall. But for the moment, the number du jour doesn’t provide much support for arguing that the recent stumble in the economy is getting worse. The trend isn’t necessarily getting better either, unfortunately, which leaves us betwixt and between and waiting for the next update.
As the chart below reminds, recent history for this seasonally adjusted series appears to headed for another round of treading water. Oh, dear—been there, done that, and the result was a long hot summer last year and plenty of anxiety about how to resolve the macro stumble. For roughly the first half of 2010, initial claims went nowhere, offering an early clue of the new headwinds that would eventually force the Federal Reserve to launch a new batch of quantitative easing (QE2). With that monetary stimulus program set to expire this month, it’s only natural that chatter has shifted to the prospects for QE3. The odds don’t look particularly high these days for a third installment, but that may change, depending on where the data goes.
Meantime, it’s useful to watch initial claims on a rolling 12-month basis in unadjusted terms to monitor the raw trend. This cuts out quite a bit of the short-term noise, which is quite high for this series. On that score, direct your eyes to the second graph below and note the discouraging upward bias. Yes, the annual pace of jobless claims was destined to rise somewhat as the recovery matured. But at some point, this statistical frog may jump out of the pot. It’s debatable when this trend, should it continue to rise, will signal a new recession. The good news is that there’s still a comfortable margin for moving higher and keeping an open mind.
But as the latest spike from several weeks ago reminds, conditions can change quickly. Meanwhile, the economic trend generally has become fragile over the past month or so, as initial claims predicted as early as this past April. But now what? The data so far is inconclusive, in jobless claims and elsewhere, even through some alarm bells are ringing. The next several weeks of data will be crucial—more so than usual. We may (or may not) find ourselves on the cusp of a new phase for the economy. In any case, it’s still not clear what exactly awaits over the next hill, but it’s getting easier to guess.
Kansas City Fed: Financial Stress Fell In May
Economic growth appears to be slowing, as recent indicators suggest, but the financial markets are keeping a stiff upper lip. Credit markets don’t look particularly anxious, at least not yet, and the same can be said for the stock market, despite its recent wobbles. Additional support for the bright side via markets arrived with yesterday’s update of the Kansas City Fed’s Financial Stress Index (KCFSI).
KCFSI, a monthly index of 11 variables measuring the level of “stress” in the U.S. financial system, fell to -0.52 last month, its lowest level since the Great Recession ended. The index measures a variety of credit spreads and other metrics, such as the correlation of performance between the stock market and Treasury securities. A negative reading for the index indicates that financial stress is below the long-run average. The lower the number, the lower the stress, or so this index advises. By that standard, there was slightly less stress in the financial markets in May vs. April.
Reading through economic reports in recent weeks might suggest otherwise. The sharp slowdown in job creation in May, in particular, raises warning flags. But the markets don’t necessarily agree. The question is whether the markets or the economic numbers are dispensing misleading clues about the future?
Sooner or later, one side is going to surrender its position and recognize the wisdom of the opposing view. The next installment on figuring out which side’s likely to cry “uncle” first arrives shortly with this morning's update of weekly jobless claims in the U.S.
June 8, 2011
Credit Market Optimism
Economic growth is slowing, Fed chairman Ben Bernanke noted in a speech yesterday, but he predicted that “growth seems likely to pick up somewhat in the second half.” He blamed the recent stumble, including last month's
Talk is cheap, of course, and there are enough economists in the world so that you can find any prediction you want. The question, as always, is whether there’s any support in the latest data for a given outlook? On Monday, I noted that it looked like the stock market was still giving growth the benefit of the doubt. Can we say the same for the credit markets?
Before we take a look at the numbers, a quick review for deciding if we should even be looking to credit trends for clues about macro. One of the empirical "facts" in using markets to anticipate the business cycle is relating credit spreads to expected changes in GDP. As Antti Ilmanen reminds in his new book Expected Returns: An Investor's Guide to Harvesting Market Rewards: differences in yields between corporate bonds and risk-free Treasuries are countercyclical so that spreads tend to fall during expansions and rise in recessions (Chapter 26).
Numerous studies over the years make similar observations. A 2001 review by the IMF, for instance, finds that "the yield spread of investment-grade bonds relative to Treasuries, a proxy of default risk, predicts marginal changes in industrial production in the United States up to 12 months in the future…" A more recent paper ("The cyclical component of US asset returns" by David Backus, et al.) notes that "decades of research has found that steep yield curves (and large term spreads) are associated with above-average future economic growth." Another recent working paper ("Credit Spreads and Real Activity" by Philippe Muellery of the London School of Economics and Political Science) reports that "credit spreads over the whole spectrum of rating classes are suited to predict future GDP growth up to a horizon of three years." Muellery adds that "the credit factor is highly correlated with the index of tighter loan standards, thus lending support to the existence of a transmission channel from borrowing conditions to the economy."
With that in mind, let's consider recent history on several credit fronts, beginning with the daily yield spread between corporate bonds rated Baa, which are considered "medium-grade" credits, and the benchmark 10-year Treasury Note. This spread remains near the lowest levels reached after the Great Recession ended in mid-2009. Nonetheless, the spread has inched higher recently. If it continues to rise in the weeks ahead, that may be an early warning that the market is become incresingly skeptical of Bernanke's forecast of stronger growth in this year's second half.
The second chart below is another measure of the credit spread, this time using "junk" bonds, based on credits rated CCC or below via the Bank of America Merrill Lynch US High Yield Master II Index. The recent trend corroborates the sentiment in the chart above, perhaps more so, given that the junk spread is near its lowest level reached since the recession ended.
A third piece of evidence is the Treasury yield curve, which remains firmly positive. Indeed, the 10-year's Treasury yield is roughly 3% at the moment, a near-300-basis point premium over the virtually zero-yielding 3-month Treasury bill. As J. Anthony Boeckh notes in The Great Reflation, "the yield curve is an exceptionally powerful indicator of liquidity changes and the state of the economy over the course of the business cycle."
Finally, let's review the trend in lending, which has been known to drop clues about the future path of the economy. "If lending picks up," writes Anthony Crescenzi in Investing From the Top Down: A Macro Approach to Capital Markets, "you can bet that corporate spending will too. This indicator therefore is a good guage of business confidence...."
Based on the latest weekly numbers from the Federal Reserve, the dollar amount of commercial and industrial at large commercial banks continues to rise, as the next chart below indicates. It's hardly a roaring surge, but the fact that the value of new loans are rising offers another data point in support of the optimism suggested by credit spreads of late.
The trend also appears favorable by way of the Fed's quarterly survey of demand for new commercial loans, although these numbers arrive with a lag. That said, as the latest survey reports,the demand for commercial and industrial loans (C&I) and for commercial mortgages increased.
It appears that the credit markets are in agreement with the stock market's forecast that growth will prevail. Market's can be wrong, of course. No less is true for predictions by Fed chairmen. And market conditions change as well, and so we should closely monitor spreads for any shifts. But for the moment, at least, it seems that there's still a case for keeping an open mind about the next phase for the economic cycle.
Update: An earlier version of this post failed to post all the charts. The oversight has subsequently been corrected. Sorry.
June 7, 2011
The More Things Change With Personal Finance Education...
Robert Powell at MarketWatch has written a good article on the challenges of education in personal finance. The impetus for his story is last month’s Life-Cycle Saving & Investing Conference at Boston University. Powell’s takeaway from the meeting: “It might be a stretch to say that Americans, in general, are failures when it comes to investing. But given the amount of time and attention spent teaching people how to be savvy about all things money, it sure seems that way. We simply haven’t moved the needle all that much.”
There are no easy shortcuts to successful investing, but there’s a sea of wrong turns and bad information. There’s also a simple antidote: start with the basics. I continue to believe that the starting point for every investor is the default portfolio a la my Global Market Index (GMI). This is simply a market-weighted mix of all the major asset classes, which can be accessed inexpensively via ETFs and index mutual funds.
GMI, or something similar, is the obvious starting point for designing and managing portfolios. Indeed, there’s a half century of theoretical and empirical research telling us as much, as I explain in my book, Dynamic Asset Allocation: Modern Portfolio Theory Updated for the Smart Investor. Every investor should ultimately customize this benchmark of the market portfolio, but you need to start with the basics before you reorder it.
The fundamental reason for using GMI or its equivalent as the first step on the thousand-mile journey of investing is that it’s an easy, forecast-free way to capture average to above-average risk/return profile of world’s beta opportunities. Theory predicts as much, as does recent history. Throw in some simple rebalancing and you can do even better with little or no additional risk. In general, this is a reasonable way to tap into moderate returns and risk over the medium- and long-term horizons.
The critical questions that are worthy of deep analysis and study are 1) how to stray from Mr. Market’s allocation, and 2) how to manage the mix through time. If you had a very long time horizon, and decided that your risk tolerance, investment skills, and expectations were more or less average, you might simply hold something akin to GMI. Otherwise, you need good reasons to rethink the default portfolio’s mix. True, most investors should rethink it. Very few of us are average. But if you understand that you can easily grab the market’s average return and risk at little cost or effort, you’ve made a crucial and productive first step on your investment journey.
Unfortunately, even this basic insight is lost in the cacophony of financial advice that spews forth daily (and hourly). You’ve a better chance of winning the lottery than finding useful investment information (unless you know where to look). Powell’s right when he reports that investment education hasn’t changed all that much. Unfortunately, it’d be foolish to expect any change for the better any time soon. The basic information about how markets work, and what that implies for managing money is getting buried under the crush of misinformation and speculative recommendations.
June 6, 2011
The Stock Market Is Still Thinking Positively
The economic news has turned mixed lately, with several indicators flashing fresh signs of stress. The sharp downshift in job creation last month is surely the most-distressing evidence that the economy has taken a turn for the worse. But it’s too soon to give up on expecting the expansion, which is two years old next month, to muddle through. True, growth has clearly slowed, but that’s not yet a guarantee that a new recession is near. Indeed, there are still some encouraging signs to review. Let’s start by stepping back and considering a broad spectrum of the economic trends.
April is the latest month with all the major economic reports published, as shown in the table below. The red ink in the year-over-year column is discouraging, but most of the weakness here is in housing. That’s not good, but it’s not new. The economy has managed to grow despite the ongoing housing crisis. There’s some question if housing is headed for a new leg down, however. If so, that would present a new challenge for the economy at a precarious moment in the business cycle. But if real estate simply manages to remain flat for the year ahead, the pressure on the macro trend will lighten. Alternatively, a new round of trouble in housing would weigh heavily on the prospects for growth. The next several months are likely to be crucial on deciding which future awaits.
Meantime, the fact that the broad economic trend is still favorable on a year-over-year basis suggests that there’s still a fair degree of forward momentum. Our broad measure of economic conditions—the CS Composite Economic Index, an equally weighted mix of 18 indicators—rose 1% for the year through April. Unfortunately, that’s the slowest pace of growth in more than a year. Even worse, our leading indicator of economic metrics is in similar straits. As of April, the trend was still positive, but we’re getting uncomfortably close to zero.
The early signs in the May economic news aren’t encouraging, and so the odds for a reprieve don’t look promising once the full boat of new numbers arrive in the weeks ahead.
On the other hand, the stock market, everyone’s favorite discounting machine, hasn’t capitulated. By that we mean that the rolling 12-month percentage change in the S&P 500 is still firmly positive. As of last week, the S&P is up roughly 20% over the past year on a price basis. That’s encouraging if you consider that every recession in the last 50 years has been accompanied, if not preceded by a year-over-year loss in the S&P 500.
But it’s also true that the crowd is rattled, and for more than trivial reasons. As we write this morning the S&P 500 is down by roughly 0.3%. True, it would take a sustained run of selling in the days ahead to turn the positive annual change for the S&P to red. If that happens, it would be a worrisome sign for sentiment and the economic outlook. But we’re not there yet, offering at least one reason for thinking positively.
Strategic Briefing | 6.2.2011 | OPEC's June 8 Meeting
Oil prices slide ahead of OPEC meeting
AFP | June 6
Oil prices fell on Monday as traders took profits and geared up for this week's key OPEC meeting in Vienna... Oil had fallen sharply on Friday after publication of dismal US jobs figures for May but recovered by the end of the day for a modest loss... The 12-nation Organisation of the Petroleum Exporting Countries (OPEC) will meet Wednesday in Vienna amid growing fears that high prices could further dent faltering world economic growth and energy demand.
OPEC Upstaged by Qaddafi in Most-Hostile Meeting Since Gulf War
Bloomberg | June 6
OPEC’s decision on production quotas this week may be complicated by hostilities in Libya as members meeting in Vienna find themselves supporting opposing camps of a military conflict for the first time in 21 years. Not since Saddam Hussein invaded Kuwait in 1990 has the producer group gathered with some nations giving financial and military support to a movement seeking to topple the government of a fellow member. While Libyan leader Muammar Qaddafi is trying to quash a rebellion in a country that holds Africa’s largest crude reserves, Qatar, Kuwait and the United Arab Emirates are backing the insurgents.
Rift Over Output at OPEC
The Wall Street Journal | June 6
Several Persian Gulf countries favor an increase in OPEC's oil output, setting the stage for a public fight with Iran when the group meets this week. The Organization of Petroleum Exporting Countries is scheduled to meet on Wednesday in Vienna. Until recently, the consensus among market participants was that the group wouldn't take any action given that crude-oil futures prices in the U.S. are hovering around $100 a barrel. However, some influential voices have shifted their views in recent days. "Saudi Arabia and Kuwait want an output increase to meet the expected demand later in the year, and the United Arab Emirates will likely follow suit," said a Gulf delegate.
Total CEO says oil market is well supplied
Reuters | June 6
OPEC will do its part to ensure there is no shortage of oil supply in the market, the chief executive of the French energy giant Total said on Monday. Gulf Arab members led by Saudi Arabia will push for an increase in supplies when OPEC ministers meet this week, in an effort to support flagging world economic growth by bringing crude prices back below $100 a barrel. "Today there is no shortage of supply. OPEC will do its job." Christophe de Margerie told reporters at an oil and gas conference in Kuala Lumpur.
Oil price 'should remain' under $80: Petronas CEO
AFP | June 6
Malaysian state energy firm Petronas said Monday that the crude oil market's current fundamentals call for lower oil prices. "Given the current state of market fundamentals and cost environment, I believe prices should remain within the range of $75 to $80 a barrel," Shamsul Azhar Abbas, the oil company's chief executive officer said at an industry gathering. Meanwhile, Ahmed Ghalehbani, Iran's deputy petroleum minister said his country was "okay" with current oil output levels. Iran is the second-largest producer in the 12-nation Organization of the Petroleum Exporting Countries (OPEC). Ghalehbani said Iran's position at the upcoming OPEC meeting Wednesday will be to hold production quotas at current levels.
Will OPEC increase, or leave oil output unchanged next week?
Live Oil Prices | June 5
An economic advisory group within OPEC on Friday presented findings showing global oil demand would increase significantly in the second half of 2011, according to a senior OPEC delegate from a Persian Gulf country. “The most likely outcome of the meeting will be an increase. The amount of the increase is yet to be decided by OPEC ministers, all the numbers in the market now are just guesswork.” according the OPEC delegate. The numbers presented at the meeting suggested OPEC will need to boost its oil production quotas beyond current output levels. The eleven member nations bound by quotas, Iraq is exempt, are already producing about 1.5 million barrels a day above allotments totaling 24.845 million barrels a day.
June 4, 2011
Book Bits For Saturday: 6.4.2011
● The New Gold Standard: Rediscovering the Power of Gold to Protect and Grow Wealth
By Paul Nathan
Summary via publisher, Wiley
All that glitters is gold and gold has never glittered so much as it has in the last decade, reaching staggering new prices in recent years. The definitive modern argument to returning to a gold standard, The New Gold Standard succinctly and clearly explains the nature of sound money, the causes and cures of inflation and deflation, the importance of fiscal responsibility within a sound monetary system, and the reasons for recessions and depressions. Little has been written beyond academic histories of the gold standard, but gold standard expert Paul Nathan fills that void for the first time. Written for beginning and professional investors, the book provides guidance on how a gold standard will strengthen the dollar, reduce debt, and help stabilize the economy, offering easily applied strategies for investing in gold now and in the future.
● Exceptional People: How Migration Shaped Our World and Will Define Our Future
By Ian Goldin, Geoffrey Cameron and Meera Balarajan
Review via The Enlightened Economist
An interesting-looking new book has arrived, Exceptional People: How Migration Shaped Our World and Will Define Our Future.... One of the 'puzzles' of economics is why, if free trade in goods and free movement of capital are seen as positive sum phenomena, the free movement of people should be seen as an exception. Yet 'economic migration' is increasingly seen as a problem, rather than an improvement. The book takes a very long perspective on migration, describing their recurrence since pre-history, and argues that the current wave of movement in this era of globalization is another of those periodic large scale population shifts. Its conclusion appears to be that this is clearly a Good Thing as the main engine of the circulation of ideas and technology. Moreover, the tide cannot be turned but should instead be managed within an international framework. It also looks at some of the problems arising from the current mish-mash of policies and the exploitation of vulnerable people, and also at the benefits of 'brain circulation'.
● The Vega Factor: Oil Volatility and the Next Global Crisis
By Kent Moors
Excerpt via publisher, Wiley
There is unprecedented volatility entering the oil market, transforming pricing and increasing instability. It will place a premium on setting prices via futures contracts without due regard for the actual market value of the underlying crude oil consignments. Increasing usage of synthetic derivatives will augment the problem in a manner reminiscent of the subprime mortgage disaster, but having an even more pronounced impact. Neither the way in which oil companies are structured or operate will temper this oncoming wave, while governmental action worldwide will only exacerbate the crisis. In short, there is a perfect storm developing in the energy sector
and it’s going to be a nasty one.
● The New Capitalist Manifesto: Building a Disruptively Better Business
By Umair Haque
Review via Strategy+Business
The crash of 2008 shook many people’s confidence in the U.S. management paradigm, and perhaps in capitalism itself. With the search on for a new synthesis, we can expect a rich crop of management books with the word manifesto in their titles. One of the first, by Umair Haque, director of the London-based Havas Media Lab and head of strategy lab Bubblegeneration, is The New Capitalist Manifesto: Building a Disruptively Better Business, which combines a severe critique of traditional (or industrial) capitalism with an outline of a new “constructive” capitalism.
● Global Financial Crisis
Edited by Paolo Savona, John J. Kirton, and Chiara Oldani
Summary via publisher, Ashgate
Out of the debate over the effectiveness of the policy responses to the 2008 global financial crisis as well as over the innovativeness of global governance comes this collection by leading academics and practitioners who explore the dynamics of economic crisis and impact. Edited by Paolo Savona, John J. Kirton, and Chiara Oldani Global Financial Crisis: Global Impact and Solutions examines the nature of the recent crisis, its consequences in major regions and countries, the innovations in the ideas, instruments and institutions that constitute national and regional policy responses, building on the G8's response at its L'Aquila Summit. Experts from Africa, North America, Asia and Europe examine the implications of those responses for international cooperation, coordination and institutional change in global economic governance, and identify ways to reform and even replace the architecture created in the mid 20th century in order to meet the global challenges of the 21st.
● Crises and Opportunities: The Shaping of Modern Finance
By Youssef Cassis
Summary via publisher, Oxford University Press
As the world's political and economic leaders struggle with the aftermath of the financial crisis of 2008, this book asks the question: have financial crises presented opportunities to rebuild the financial system? Examining eight global financial crises since the late nineteenth century, this new historical study offers insights into how the financial landscape--banks, governance, regulation, international cooperation, and balance of power--has been (or failed to be) reshaped after a systemic shock. It includes careful consideration of the Great Depression of the 1930s, the only experience of comparable moment to the recession of the early twenty-first century, yet also marked in its differences. Taking into account not only the economic and business aspects of financial crises, but also their political and socio-cultural dimensions, the book highlights both their idiosyncrasies and common features, and assesses their impact in the broader context of long-term historical development.
● The Economics of Financial Turbulence: Alternative Theories of Money and Finance
By Bill Lucarelli
Summary via publisher, Edward Elgar
This challenging book examines the origins and dynamics of financial–economic crises. Its wide theoretical scope incorporates the theories of Marx, Keynes and various other Post Keynesian scholars of endogenous money, and provides a grand synthesis of these theoretical lineages, as well as a powerful critique of prevailing neoclassical/monetarist theories of money.
Bill Lucarelli provides detailed historical analyses of the causes of the current international financial crisis, and offers alternative heterodox theories with more coherent and rigorous theoretical frameworks than existing economic orthodoxies. He illustrates that the very assumptions of neoclassical theory – informed by the efficient markets hypothesis – tend to rule out the very possibility of endogenous financial crises. Consequently, he argues, the endogenous causes of these crises are either ignored or simply treated as random, extraneous historical events. In stark contrast to these neoclassical/monetarist views, this book seeks to explain the recurrence of these financial crises as a result of the inner workings of the capitalist system.
June 3, 2011
My Latest Story For Financial Advisor...
In the June 2011 issue of Financial Advisor magazine I take a fresh look at an old question: What’s the connection between the business cycle and financial markets? In fact, I'm working on a new book about the finer points of the macro/markets linkage and how we can enhance our strategic investment outlook by analyzing this relationship. Indeed, the research on this subject has exploded in recent years. Meantime, here's a brief preview via my latest for FA.
Job Creation Slows Sharply In May
Today’s employment report for May isn’t good. It's not even close to being good. But it's not surprising. After ADP reported on Wednesday that its estimate of private payrolls suffered a big slowdown in growth last month, today’s disappointing news from the Labor Department was expected, as we discussed two days ago. The question now is deciding if the slump in job creation is temporary or something with legs. That’s not going to be easy until we see more numbers over the next few weeks. Meantime, erring on the side of caution about the macro outlook is the only game in town. It’s too soon to throw in the towel on expecting the recovery to muddle through, but make no mistake: We’re looking at the biggest threat to growth in, well, since this time last year. Yes, the prospect of another summer slowdown has returned.
Actually, the slowdown is already here, as indicated by last month’s downshift in private-sector job creation. Private nonfarm payrolls advanced by a net 83,000 in May—far below April’s 251,000 rise and the smallest gain since June 2010, according to the government's establishment survey. The main culprit in the reversal of fortunes last month is the dramatic slowing of job creation in the service sector, which minted just 80,000 new positions last month vs. 213,000 in April. Retail trade was especially sluggish, shedding more than 8,000 jobs last month after generating 64,000 previously.
No corner of the labor market was spared. The biggest loser: the nondurable goods sector, which lost 13,000 jobs in May. Meantime, the jobless rate inched higher to an elevated 9.1%.
"It is clear we have temporarily entered a soft patch," Christopher Probyn, chief economist at State Street Global Advisors, tells Reuters. "Nobody knows how soft and how long, but the best case view is that the fundamentals of the recovery remain intact and the economy will re-accelerate in the second half of the year."
The optimistic spin is that job creation has stumbled because of the temporary blowback from the Japanese crisis that threw a wrench into the global auto production machine. By this reasoning, the sluggishness will soon retreat as Japan’s economy recovers. Maybe, but we’re on thin ice if our best hope is looking to the long-struggling Japanese economy for salvation. Nonetheless, some reports predict a strong revival for Japan in the months ahead.
Even so, optimism has been defined down in recent days. For instance, Moody’s Analytics forecasts that corporate job creation will run at 200,000 a month on average for the remainder of this year, or more than double the rate in May. Even if you’re on board with that relatively bright outlook, 200k a month isn’t likely to lower the unemployment rate quickly, if at all.
Meantime, the data is what it is, and nothing less than an extraordinarily surge of confidence is necessary to counteract the dark cloud released by the latest data point. “These are pretty bleak numbers,” Julia Coronado, chief economist for North American at BNP Paribas, tells Bloomberg. “Some of the engines of hiring just went away. Combined with the slowdown in consumer spending, it raises concern that the slowing in hiring could be with us for a while.”
The New Decline In The Inflation Forecast
The Treasury market’s inflation forecast has been falling for nearly two months, sending a warning sign that the economy is headed for a slowdown. The change for the worse in this indicator first caught our attention several weeks ago and the risk is even higher now. The basic problem is that the a sharp fall in inflation expectations is a sign of trouble for an economy that’s only been growing modestly, and unevenly. As a result, economic updates in recent days seem to confirm that disinflation/deflationary forces are on the rise again.
That’s certainly the message in the implied inflation forecast based on the yield spread between the 10-year nominal and inflation-indexed Treasuries. As of yesterday, the inflation outlook on this basis was 2.26%, down sharply from the post-recession peak of 2.64% set on April 8. A low-2% inflation outlook is hardly troubling per se; rather, it’s the rapid decline that’s disturbing.
The market’s downward revision for inflation expectations is accompanied by a fresh batch of weaker-than-expected news on the economic front. That sets up the possibility of a self-reinforcing cycle for the weeks (months?) ahead. The negative factors include what some are now calling a double dip correction for the housing market.
Perhaps more worrisome is the sharp deceleration in job creation reported by ADP on Wednesday. The Labor Department’s payrolls report for May that’s scheduled for release later today will surely set the tone for the coming weeks. Meantime, the Treasury market’s telling us that the risk to growth is rising. For the moment, it's still possible to look at the market's inflation forecast and write it off as statistical noise. But if this prediction of future pricing levels continues its descent, the odds rise that there'll be a price to pay in the form of lower growth.
June 2, 2011
New Jobless Claims Post A Modest Decline Last Week
Initial jobless claims dropped last week by a modest 6,000 to a seasonally adjusted total of 422,000. That’s a sign that the labor market isn’t poised to deteriorate further, but the still-elevated pace of new applications for unemployment benefits also suggests that job growth is still struggling. In one respect, we dodged a bullet--for now. But let's be clear: nothing less than robust job growth will suffice to offset what looks to be a new summer slowdown in the offing. It's still too early to talk about a new recession, but the risk is inching higher. That threat remains small, but the change in trend isn't encouraging.
The recently stalled decline in new jobless claims is particularly worrisome in the wake of yesterday’s news from 1) ADP on the sharp slowdown in job creation last month and 2) the downshift in manufacturing activity for May. That leaves us waiting for confirmation or rejection of ADP’s estimate with tomorrow’s update on May nonfarm payrolls from the Labor Department. The consensus forecast among economists expects a sharply lower number vs. April’s 268,000 gain in private jobs, according to Briefing.com, but nothing quite so steep as the ADP reversal that was reported yesterday.
Meanwhile, Ed Yardeni of Yardeni Research writes in a note to clients today that he’s not all that surprised by the latest batch of soft economic reports. What's more, he suggests that once the statistical dust clears, the forces of growth will retain the upper hand. As he explains:
When initial unemployment claims rebounded back over 400,000 during the week of April 9, we suspected that the shortage of Japanese car parts might be a bigger problem for manufacturers, especially in the auto industry, than was widely recognized. By May 2, we were convinced. That’s when we lowered our estimates for real GDP growth to 2% for both the second and third quarters.
And on his blog Yardeni advises:
A shortage of parts made in Japan is temporarily disrupting global manufacturing, in general, and the auto industry, in particular. In the US, the purchasing managers index (PMI) for manufacturing declined from 60.4 during April to 53.5 in May. It was led by sharp drops in the New Orders Index (from 61.7 to 51.0) and in the Production Index (from 63.8 to 54.0). Interestingly, the Employment Index dropped by less (from 62.7 to 58.2), and it remained above 50. The Inventory Index dropped below 50 (from 53.6 to 48.7). That’s consistent with the view that manufacturers are drawing down their parts inventories while they wait for more supplies from Japan.
Given Japan’s crucial role in supply parts to auto manufacturers around the globe, “the soft patch has gone global,” Yardeni concedes. But he stresses that a soft patch isn’t the same thing as a new recession. He notes that severa manufacturers'l purchasing managers indices (PMIs) around the world, while falling lately, are still above 50, indicating growth. “Please notice that there is no great tragedy in any of these PMI indicators.”
In short, a bit of optimism from one analyst in a world that’s suddenly knee-deep in pessimism. Tomorrow may shed new light on whether Yardeni’s optimism is warranted.
Strategic Briefing | 6.2.2011 | U.S. Labor Market
Scary signs for jobs
CNNMoney | June 1
All eyes in the financial world are on the government's monthly labor report due Friday, hoping to see that the job market continued to grow in May. But after several indicators pointed to a recent slowdown in job growth, the glass is now looking closer to empty than full. "You could call it a soft patch, but it's the second or third soft patch we've seen in the recovery," said Paul Ashworth, chief U.S. economist with Capital Economics. "For a recovery that is less than two years old, it's troubling to say the least."
Economists rush to mark down payrolls estimates
MarketWatch.com | June 1
Wall Street economists slashed their expectations of May’s nonfarm-payrolls growth Wednesday, after two data points that typically provide hints about the strength of that number both flashed severe weakness.... “We have no choice but to revise down our payroll estimate” in light of the weak ISM and ADP reports, said the economic team at Bank of America Merrill Lynch, in a note announcing they had sliced their forecast to 125,000 nonfarm payrolls for May from the prior estimate of 165,000.
Economy, shaky eurozone push bond yields lower
USA Today | June 1
The yield on the bellwether 10-year Treasury note fell below 3% for the first time since December, reflecting weakness in the U.S. economy. The 10-year T-note fell to 2.94% Wednesday, down sharply from 3.74% Feb. 8. That's good news for mortgage rates, which track the 10-year Treasury yield. But lower rates reflect Wall Street's worries about the economy.... "The U.S. Treasury market is viewed as the ultimate safe haven, and funds flow to the U.S. market in times of turbulence," says Chris Molumphy, chief investment officer of the Franklin Templeton Fixed Income Group.
Wall St sinks as banks slash jobs outlook
Reuters | June 1
Goldman Sachs and several other big financial institutions cut estimates for non-farm payrolls growth in May after ADP Employer Services reported much lower-than-expected growth in private payrolls last month. "If we have a payrolls number with revisions that is anything like the ADP on Friday, then we are going to struggle over the next couple of months," said Jim Paulsen, chief investment officer at Wells Capital Management.
Economic Outlook Darkens
The Wall Street Journal | June 2
Economists predict some problems now hampering growth, including soaring gasoline prices and supply-chain disruptions caused by Japan's tsunami, will moderate in months ahead. But with unemployment high, the housing market moribund and ongoing financial turmoil in Europe, the slowdown could turn into something more ominous."It definitely makes me more nervous about the outlook," says Morgan Stanley economist David Greenlaw. "The economy can't withstand much more than a temporary slowing at this point."
Employment Data May Be the Key to the President’s Job
The New York Times | June 1
No American president since Franklin Delano Roosevelt has won a second term in office when the unemployment rate on Election Day topped 7.2 percent. Seventeen months before the next election, it is increasingly clear that President Obama must defy that trend to keep his job. Roughly 9 percent of Americans who want to go to work cannot find an employer.
Here we go again -- another round of global growth worries
AMP Capital | June 1
The key question is whether the long list of worries will lead to a return to recession and a new global bear market, or just another soft patch and correction in shares in the context of an ongoing recovery. This is exactly the same issue as a year ago when a ‘double dip’ became the big concern. Our view back then was that the risks had increased but ultimately the recovery will continue, and it did. The same is likely this time around, with the latest correction probably giving way to renewed strength by year end.
* Global monetary policy remains very easy and will now likely remain easy for longer. The current soft patch, if anything, will ensure that the US Federal Reserve keeps interest rates near zero for longer. If it intensifies it may also result in another round of quantitative easing (QE3). Increasing uncertainty will also help prevent or delay further tightening by the European
* It’s quite normal for business conditions indicators, or PMIs, to roll over after rising to high levels without sliding back into recession. This is part of the normal ebb and flow of economic
data. For example, after peaking in May 2004, the US ISM indicator moderated for four years, without being associated with recession.
* The strong US corporate sector is likely to continue to underpin further gains in US employment and business investment, both of which are critical in sustaining the US economic recovery.
June 1, 2011
Two More Warning Signs For The Economy
Here we go again: Another batch of economic updates and another round of disappointment. That sums up the latest numbers released this morning via the ADP Employment Report and the ISM Manufacturing Index. In both cases, the trend has taken a turn for the worse. The bad news arrives on the heels of yesterday's discouraging trio of economic reports. Stepping back and considering the latest updates suggests that we've entered a nasty pattern for macro news.
Let's take a closer look at today's data releases, starting with ADP's estimate of private payrolls for May. Although the labor market continued to expand last month, it did so by the thinnest of margins, according to ADP. May's nonfarm private payrolls rose by a net 38,000 on a seasonally adjusted basis—the smallest gain since last September and a huge drop from April's 177,000 increase.
"A deceleration in employment, while disappointing, is not entirely surprising," ADP advised in a press release. "In the first quarter, GDP grew at only a 1.8% rate and only about 2-1/4% over the last four quarters. This is below most economists’ estimate of the economy’s potential growth rate and normally would be associated with very weak growth of employment."
The dramatic slowdown in ADP's estimate of job creation strongly suggests that Friday's employment report from the U.S. Labor Department will also disappoint. Indeed, the sharp decline in the ADP number is so far below the last government payrolls estimate that it's all but certain that this gap will close. Consider the chart below, which compares the monthly net changes for the two series. The red line is the government's guesstimate of private sector's job growth through April. The blue line is ADP's number through May. The wide gap between the two suggests that the arrival of fresh data from the government on Friday will bring additional news of a weakening labor market. The only question is by how much?
Moving on to today's update of the ISM Manufacturing Index presents a similar case of expecting trouble as May's economic updates are released later this month. The ISM Manufacturing gauge is among the first out of the gate each month and this time it's signaling a new bout of weakness in the macro trend.
The second chart below compares the rolling 12-month percentage change for the ISM Manufacturing Index with the comparable data for U.S. stocks (S&P 500), industrial production and new orders for durable goods. Only the S&P 500 and ISM numbers are updated through May 31, 2011; the other two indicators run through April 2011. The point is that the ISM year-over-year trend has a fairly encouraging history of anticipating major turning points in the broad economy. For instance, the annual pace for this ISM benchmark bottomed in December 2008. The index's subsequent rebound offered an early sign that the economy's contraction had also hit a trough and that the end of the recession was near. But that was then. Unfortunately, this ISM index (black line) is now falling on an annual basis—the first 12-month decline since the recession ended. Not a good sign, folks.
On a positive note, the stock market's annual pace through the end of May is still predicting economic growth, as indicated by the S&P 500's 23.5% price gain over the past year (red line in the chart above). The question, then, is whether the ISM Manufacturing Index is the better indicator of what lies ahead? Or should we look to the stock market as a superior source of forecasting the macro trend? Judging by today's sharp selloff in stocks for the first day of June, it's a bit harder to shake off the implied message in the ISM data.
The economic weakness of late isn't a total surprise. Recall that the Treasury market's falling inflation forecast last month suggested that new trouble was brewing for the macro outlook, as we discussed here. It's still unclear if the change in the trend has legs, or even if what we currently know about May at this early date will spill over into other economic reports in the weeks ahead. For the moment, however, it's clear the economy is stumbling. The great unknown is whether the stumble will be contained.
Major Asset Classes | May 2011 Performance Update
Bonds in the U.S. and emerging markets, along with REITs posted gains last month while stocks and commodities retreated. That’s no surprise, given the renewed worries for economic growth. Meanwhile, our proprietary Global Market Index (GMI), a passively weighted mix of all the major asset classes, shed 1.1% in May.
Leading the pack last month: the fixed-income sector for emerging countries. The Citigroup ESBI-Capped Index gained 1.6% in unhedged dollar terms—the best performer among the major asset classes. At the opposite extreme: a 5.1% loss for commodities overall, as per the Dow Jones-UBS Commodity Index. That’s the biggest monthly loss in more than a year for this broadly defined commodities benchmark.
For the year so far through the end of May, the performance columns are still in the black for all the major asset classes and GMI. But risky assets have hit a rough patch and there's some anxiety about whether the YTD gains will hold.