Chris Lau - Seeking Alpha

Sunday, June 21, 2009

Notes from Frontline Thoughts: The New Normal

This week, Mauldin comments on the need for the economy to supply less, most especially in the consumer sector. His macroeconomic view is described as "the new normal."

The reason is clear: consumer spending will not increase, because savings rates have permanently and necessarily increased:

To expect a normal recovery cycle, whether it is corporate profits or lending or consumer spending or capital investment or (pick a category) is just not reasonable. This is a period that is fundamentally, in so many ways, different. And the recovery (and there will be one!) will also be of a different warp and woof throughout the entire world economy.

Three of the major points mentioned to support this argument are summarized below:

  • First, we are at the end of a huge cycle of increasing private debt that ended in an overleveraged society.
  • Secondly, my premise is that the recovery is going to take longer and be much less robust than any recovery since WWII. With unemployment likely to go over 10%, and with our new normal world not needing as much production of so many things, unemployment is going to stay stubbornly higher for longer than in any previous recovery.
  • Thirdly, all this is going to affect corporate profits, especially for companies that depend on consumer spending. Those investors who expect corporate profits to rebound in 2010 are likely to be disappointed. (For the record, if you go to the S&P web site, analysts are projecting anywhere from a 40% to a 60% rebound in earnings for 2010 for the S&P 500. ...It is going to be tough to get much of a return from traditional buy-and-hold equity index investing for some time.
  • Fourthly, this is a global problem and primarily one in the "developed" world. I think we will find that much of Europe will be in a worse state of affairs than the US.
What's next? Mauldin explains that:
In 2001, I wrote about what I called the Three Amigos that I watched to give us an indication of the direction of the economy. They were capacity utilization, high-yield bonds, and the (now-renamed) ISM numbers. Watching the direction they go gives us a good idea where the economy is headed.
1) Capacity Utilization is still declining
2) Junk bond yields are now at levels associated with a "recession." They were previously priced for what Mauldin calls "Armageddon"
3) ISM (Supply in the manufacturing sector of the economy) improved but it is still indicating that the economy is still bad.

Full original article may be found here:

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Comments and Conclusions:
Not to place myself at the same level as a hedge fund manager, but Mauldin complains about the very things I complained about. The term "Green Shoots" is nothing more than hype created by Bernanke. Second, "less worse" does not mean getting better. These two ideas continue to support the market, but ultimately over time, the points brought up by Mauldin must be reflected in the stock market.

In the meantime, the stock market may have enough positive self-feeding positivity to rise. It is up to investors who have the primary goal of preserving capital not to mistake this as a bull market.