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The emerging consensus on the street is that the November mid term elections will be just the thing to set the bulls to running as newly resurgent Republicans and a chastened President…..what? Work together to pass much needed structural reforms of Social Security and Medicare? Enact sweeping tax reform? Repeal the recently passed health care reform and replace it with something better? Reform or abolish the Federal Reserve? Cut government spending and balance the budget? Okay none of that seems very likely so can someone please tell me again why the election is supposed to be such a good thing for the market?
Oh, right, it’s the return of sweet gridlock where both political factions are stymied and nothing gets done that will usher in the next bull market just like it did after the 1994 Republican sweep. I suppose that could be true - I rarely think politicians doing more is the answer to anything - but I have a sneaky suspicion that those hoping for a standoff between President Obama and a Republican Congressional majority should be careful what they wish for. Gridlock was a fine thing back in the 90s when the baby boomer retirements were still a decade or more away but the years have ticked by in remarkably swift fashion and last I checked Social Security was running a deficit. This may be one of the few times in history when we actually need the politicians to do something.
Even if the assumption is that the Republicans will gain enough of a majority to reverse the President’s entire agenda - a highly dubious assumption - it should be remembered that the policies in place before his arrival weren’t exactly a raging success. It also shouldn’t be forgotten that gridlock doesn’t return policy to a pre-Obama state since the Bush administration had the foresight to schedule a tax increase for 2011. The President seems unlikely to sign legislation extending the deadline if it includes an extension of the current top rates and even the most optimistic Republican pollster doesn’t foresee gains large enough to over ride a veto so real gridlock means a pretty steep tax increase. Unlike President Obama and most Democrats I do not believe the Bush tax cuts are the source of all evil or even our current economic difficulties so I find it hard to believe that repealing them will return us to a Clintonesque nirvana. President Obama seems intent on finding out.
Improving the economy right now is not just a matter of doing nothing although it is a much more robust, self healing system than almost anyone believes at present. Despite this natural resilience, I find it hard to believe that current economic policy is sufficient to return the economy to full employment any time soon. Obviously, there are large disagreements, even among economists, as to how we should go about improving the performance of the economy but you would be hard pressed to find anyone who believes doing nothing is the best course of action. The election is not the catalyst the bulls are seeking.
The economic data was light last week and what was released provided little new information. The market was closed Monday for Labor Day and the first new data wasn’t released until Wednesday. Mortgage applications for purchase rose a smart 6.3% and have now reached the level of merely awful rather than the previous dreadful. Refi applications fell on the week but the trend is still up as low rates - and now the prospect of higher ones in the near future - are pushing anyone with equity down to the bank to apply. How many of them actually qualify is another story but you can’t blame them for trying to lock in historically low rates.
The retail reports from Goldman and Redbook were a bit contradictory - Goldman down and Redbook flat - but neither is predicting a boom anytime soon. And no wonder with consumer credit continuing to contract, by $3.6 billion in July and for the sixth straight month. Unlike most people I don’t lament the drop in credit; the sooner we pay down our debts the sooner the economy can commence a real recovery. The trade deficit contracted last month by a sizable $7 billion with exports rising and imports dropping. That reverses what we saw last month and only reinforces my belief that something was fishy about last month’s data. Changes of this size are unusual to say the least and it can’t be blamed on a big change in oil prices. Most of the changes were in the non petroleum portion. I’m not sure what happened but don’t be surprised if there is a big revision somewhere down the road.
Jobless claims fell last week to 451k or maybe I should say estimated claims fell. Because of the Labor Day holiday, several states did not report and several others provided estimates. Revisions next week could be interesting. I don’t usually pay much attention to non seasonally adjusted data but considering all the seasonal adjustment problems this year it should be noted that non seasonally adjusted claims just hit a two year low. What does that mean? I have no idea but I would not be surprised in the least if somewhere down the road we discover the job market was actually quite a bit better than we think right now.
The prize for worst report of the week goes to the Wholesale trade report released Friday. We’ve seen several indications of rising inventories recently - in the ISM data for instance - and this report confirmed that inventories are rising faster than sales. Inventories rose 1.3% in July while sales were only up 0.6% and the inventory to sales ratio ticked up to 1.16. That is still quite low and isn’t cause for alarm - yet. But businesses will not be anxious to hire if inventories are rising. Sales need to pick up soon.
The US stock market was a non event last week with the S&P 500 rising just less than 0.5%. The small cap Russell 2000 actually fell a bit over 1%. As has been the case for a while now, the best action was in foreign markets. The big winners of the week were also mostly the big winners of the year. Sweden, Chile, the Phillipines, Malaysia, Indonesia, Turkey, Denmark, Thailand and Peru are all up double digits - some well over 20% - this year and were up strongly last week as well. I would point out though that many of these markets and economies are dependent at least to some degree on the state of the US economy so if we relapse, I don’t think you will be able to hide. On the other hand it doesn’t seem that we need to be doing much more than treading water for these markets to outperform ours by a wide margin. One note of caution though is that these markets are all up a lot already and chasing them could be dangerous to one’s fiscal health.
One last note about market sentiment. The recent AAII polls had shown a fall in the bulls to levels in the low 20s that in the past indicated some kind of bottom. Well, indeed we did have some kind of bottom at the end of August and the market has rallied smartly since the turn of the calendar. Unfortunately, the poll respondents moved right along with the market. Bulls jumped right back to the mid 40s after the rally. Until we get a market rally and the crowd stays bearish, we likely haven’t found a real bottom. I’m looking for at least a short term correction soon. The trading range continues.
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