Chris Lau - Seeking Alpha

Thursday, May 14, 2009

Hope Springs Eternal

The words "Green Shooting" have popped up in media in recent weeks. This catch phrase is used to describe the idea that there are signs the economy is reviving. Does hope spring eternal?

The rally is two solid months old, but as I wrote numerous times, it is based on less bad news (for jobs and housing), on companies beating already lowered expectations, and on enthusiasm for a brighter future. Yesterday, consumer spending figures were released. In April, sales declined 0.4%. March sales declined by a revised 1.3%. Foreclosure notices increased 32%.

It would appear that there is a greater likelihood that the stock market will at least begin a steady decline, because the rally was based on hope and emotion instead of unchanging economic and social behavioural facts:
  1. The average svings rate in the U.S. will continue to rise
  2. Unemployment will remain steady or rise
  3. Foreclosures will likely increase (there are stories that foreclosures were stalled due to government policy, not due to economics)
  4. Commercial real estate remains a significant concern
  5. Bank-held mortgages will remain a concern (ARM's, etc.)
  6. Capacity is still in excess and will need to shrink.
Another thing to watch carefully is the price of commodity prices, especially and copper and oil. The word "de-coupling" is reaching the headlines quite often. The premise of de-coupling is that China's economy is separate from world economies, and therefore China will grow/expand/consume whilst the world does not.

I believe that this is a silly idea.

China's production of goods that consume raw materials depends on other countries making those orders. What is true, however, is that China is one of the largest savers in the world. The country has a lot of money. Its government is spending right now. This will raise the price of raw materials (this is happening now, although much of the gains is due to market enthusiasm for a global recovery as early as Q4/09).

The bigger question is not China's spending. It is what China intends to do with its holdings in US debt. Investors will need to monitor the relative currency strength of China against the US dollar. This will be an indicator for whether China is spending to reduce its position in the US, or if indeed its economy is strengthening, independent of all other countries.