The week’s edition comes to you from New York where I am visiting for a few days. It is always a treat to look up old acquaintances in this vibrant city. But on this occasion, in the aftermath of Friday’s stock market sell-off, the vibe is downright gloomy. On a personal level, however, the weekend was saved from complete ruin by the South African Springboks’ victory in the rugby World Cup final yesterday.
Before highlighting some memorable quotes from market commentators during the past week, let’s briefly review the week’s ups and downs on the basis of economic statistics and a few performance charts.
Market movements were dominated by poor US economic reports, weaker than expected earnings announcements, and concerns that the sub-prime situation could be much worse than first feared. According to the CEO of Caterpillar the current downturn in the housing market has been the worst since World War II and is likely to weaken further next year.
The pendulum seems to be swinging again in favor of a rate cut by the FOMC at its Halloween meeting. The fed funds futures contract implied a 74% chance of a 25 basis point rate cut.
WEEK’S ECONOMIC REPORTS
Source: Gold Seeker Weekly Wrap-Up, October 19, 2007.
The forthcoming week’s economic highlights include Existing Home Sales on Wednesday, Durable Goods Orders, Initial Jobless Claims, and New Home Sales on Thursday, and Michigan Sentiment on Friday.
Global stock markets
Global stock markets celebrated the 20th anniversary of the 1987 crash by tanking on worries of declining profits (especially in the banking sector) and economic trouble ahead. No stock market escaped unscathed, but US small caps (-5.0% in the case of the Russell 2000 Index) and REITS (-6.8%) were particularly hard hit. The Dow’s decline of 367 points was the twelfth largest points decline in history.
Global fixed-interest and currency markets
US government bond yields fell on increasing confidence that the Fed would cut interest rates at the month-end meeting. The two-year US Treasury bond dropped to its lowest level since September 2005. Bonds also rallied elsewhere in the world as investors switched from stocks to what is perceived as safe-haven instruments.
The US dollar tumbled to a record low against both the euro and a basket of currencies. All eyes are now on the G7 meeting this weekend and its tolerance of further dollar depreciation. The Japanese yen had a strong week, especially against the high-yielding Australian and New Zealand currencies as the unwinding of some carry trades set in.
The star performer among commodities was oil with a gain of 4.3% for the week. Gold registered a 28-year high and platinum an all-time record. Silver, however, came under pressure on the back of profit-taking.
Industrial and agricultural commodities were mixed as investors weighed up the positive effect of a plunging dollar against the negative implications of weaker economic growth.
Now for some words (and pictures) from the investment wise to help make sense of the shenanigans of financial markets.
Richard Russell (Dow Theory Letters): The worst has not yet been discounted
“When the facts change, when the charts change – I change. If I didn’t I’d be a damn fool, something I try not to be. I continue to believe that the primary trend of the market, the world market and the US market, is bullish. But the continued deterioration in housing has thrown the timing off. Nothing’s going to be “wine and roses” until the stock market discounts the worst of the housing mess. And to me, it’s clear that the worst has not yet been discounted. You can see it in the homebuilders stocks. You can see it in the financials. You can see it in the huge losses being written off by the big banks.
“Now the Bernanke Fed is facing its baptism of fire. It’s “inflate or die.” Will Bernanke take a recession or will they sacrifice the dollar? The answer is already in. Gold is advancing almost every day. The bonds are rising as they discount lower rates on the Fed Funds.”
Source: Richard Russell, Dow Theory Letters, October 18, 2007.
The Week (Wachovia Securities): Near-term stock strength unlikely
“Estimates for third quarter S&P 500 earnings growth have fallen from 6.2% on July 1st to -0.1% last week, according to First Call, as the consequences of ill-advised lending and weak housing demand take their toll on financials and homebuilders. With the Fed’s rate cuts, stock investors began to see beyond third quarter earnings and are now focused on the next six months in our opinion. We remain concerned that profit margins, at fifty-year highs, are unsustainable and that earnings forecasts, especially in the Consumer Discretionary sector, are too optimistic. Thus, we think stocks are vulnerable to a correction until excessive optimism is worked off. There will be more visibility on earnings soon; this week marks the start of the peak earnings season, with 85 S&P 500 companies and 12 Dow 30 companies reporting. The S&P 500’s current estimated earnings growth rate for the fourth quarter is 10.8% down from 12.1% on July 1st, which still seems too optimistic to us.”
Source: Rod Smythe, The Week, Wachovia Securities, October 15, 2007.
Paul Kasriel (Northern Trust): Housing market worst since World War II
“Total housing starts plunged 10.3% in September to an annualized rate of 1.191 million units – the lowest level of starts since March 1993. Given the expectations of weak housing demand as far as the eye can see and given the glut of empty condos around the country, my bet is that the September weakness in multi-family starts will become the norm over the next 12 months.
“Today the National Association of Home Builders reported their index of housing demand conditions sank to its lowest level in the history of the series. To put an exclamation point on Home Builders report, the CEO of Caterpillar said the current downturn in the housing market was the worst since World War II and was likely to weaken further next year.”
Source: Paul Kasriel, Northern Trust’s Daily Global Commentary, October 16 & 17, 2007.
The Week (Wachovia Securities): Housing bad for consumer spending
Source: Rod Smythe, The Week, Wachovia Securities, October 15, 2007.
MarketWatch: Paulson – housing decline most significant risk to economy
“The US housing crunch appears likely to continue to impact the economy and capital markets ‘for some time yet,’ Treasury Secretary Henry Paulson said Tuesday. Calling the housing decline ‘the most significant current risk to our economy,’ Paulson outlined several steps to prop up the market going forward, including loan modifications and an overhaul of the mortgage regulatory system. Such an overhaul would include a one-page mortgage disclosure document to be signed by borrowers at a home closing, and uniform national standards for mortgage brokers. Paulson made the remarks in a speech prepared for delivery at Georgetown University.”
Source: Robert Schroeder, MarketWatch, October 16, 2007.
Bloomberg: Bernanke – housing to remain ‘drag’ on US growth into 2008
“Federal Reserve Chairman Ben Bernanke said the housing industry’s contraction will be a ‘significant drag’ on US growth into next year, though evidence of a broader impact on spending is limited. ‘It remains too early to assess the extent to which household and business spending will be affected,’ Bernanke said in a speech to the Economic Club of New York late yesterday. The Fed ‘will continue to watch the situation closely and will act as needed to support efficient market functioning and to foster sustainable economic growth and price stability,’ he added.”
Source: Craig Torres and Scott Lanman, Bloomberg.com, October 16, 2007.
Chris Mullen (Gold Seeker): Lower IMF global growth forecast
“The IMF lowered its global growth forecast in part due to the housing slowdown in the US and that started to really concern some as most have held that a US housing slowdown would not greatly impact world economic growth. This rings especially true after housing warnings out of Paulson and Bernanke hit the market yesterday as they were among the many that previously held the opposite view that a poor housing market would not have a significant adverse impact on other sectors. Stagflation was a word heard more than once from several analysts today.”
Source: Chris Mullen, Gold Seeker Closing Report, October 17, 2007.
Economy.com: Survey of business confidence for world
“Global business confidence has stabilized at a low level consistent with a slowly expanding economy. Confidence is weakest in the US, followed by Europe. Asian and South American confidence are notably stronger. Sentiment is weakest among those in housing and financial services, and strongest among high-tech firms.”
Source: Moody’s Economy.com, October 15, 2007.
GaveKal: Slowing growth in Euroland
“… the difference between the (German) IFO survey and its 24-month moving average is becoming negative again. And in the past, every time this occurred, the 12-month rate of growth of Euroland industrial production dropped to zero or below. It remains to be seen whether history will prove to be an accurate guide.”
Source: GaveKal Five Corners, GaveKal Research, October 18, 2007.
Asha Bangalore (Northern Trust): Monetary policy outcome of October 31
“A lack of economic momentum going into the fourth quarter and sharp declines in profit growth gleaned from third quarter earnings reports, particularly in the financial sector, are factors supporting expectations of a lower federal funds rate at the October 31 meeting. There is a large degree of skepticism about the Master-Liquidity Enhancement Conduit that is being explored. Doubts about the viability of this venture raise the probability of the Fed having to lower the federal funds rate to ensure smooth functioning of financial markets. On the other side of the coin, the coast is not clear on the inflation front as the Fed is uncomfortable because a continued weakness of the dollar and higher energy prices.
“The October 31 call for federal funds rate is close. The futures market is expecting a lower federal funds rate at this meeting. In sum, if the FOMC sees a recession as imminent, a lower federal funds rate is assured on October 31.”
Source: Asha Bangalore, Northern Trust’s Daily Global Commentary, October 19, 2007.
Richard Russell (Dow Theory Letters): Sooner or later gold will be moving up in earnest
“Gold continues to creep higher. I say ‘creep’ because that’s pretty much what it’s been doing. People always ask me whether I believe gold is being manipulated. My answer is that I’m not sure, but I do know that the central bankers of the world don’t like to see gold heading higher. And the reason is obvious, gold is competition for the fiat money that the central banks pump out.
“So as long as gold rises by a few dollars a week, I guess that’s all right. What the central banks don’t want to see is gold really ‘taking off’ on the upside. If gold rocketed higher, people might catch on to the fact that the central banks are creating inflation by printing too much of their lousy fiat money. However, sooner or later, I believe the dam will break, and gold will be moving up in earnest. You can’t stop the truth from leaking out, and the truth is that fiat money is junk money.”
Richard Russell, Dow Theory Letters, October 19, 2007.
Jim Sinclair (MineSet): “This is it!” – $1 650 gold
“I am sure that ‘This is it!’ When gold broke for the second time above $400 in the seventies, I put the same word in the Sinclair Group weekly newsletter. Sure there were ups and downs but the up went higher each time with higher lows. This was the point I dropped the sell 1/3 rule and just said hold. We do not know what day it will blast past every short, thereby forcing them to cover in one the smallest markets for a major item in the world, played heavily by the largest interests in the world. I do feel that event is coming much sooner than I would have been willing to say last year. That means it could well go higher than $1 650.”
“The five pillars are coalescing into a lead weight on the US dollar which will function to take gold over $1 000. This is a classic gathering of many criterions to impact each pillar, resulting in a long term generational bull market in gold. What I find interesting is that it took a long time for the key elements to begin the march to hold up the potential ceiling on gold at $1 650.”
Source: Jim Sinclair, Jim Sinclair’s MineSet, October 17, 2007.
Nicholas Hirst (Winnipeg): Food to become the next big global news story
“At the beginning of the summer, the National Farmers’ Union of Canada put out a press release that included the headline Global food crisis emerging. The release is scary reading. Based on early predictions by the United States Department of Agriculture on world grain supply and demand for the 2007 – 2008 crop year, the NFU’s director of research, Darrin Qualman, broadcasts a dire warning that ‘we are in the opening phase of an intensifying food shortage.’
“Qualman means a worldwide shortage. As the world went into the Northern Hemisphere’s summer, total grain supplies were the lowest in the 47 periods for which data exists and were quite possibly at their lowest levels in a century. This crop season would mark the seventh year out of the past eight in which global grain production fell short of demand. ‘The world is consistently failing to produce as much grain as it uses,’ Qualman said.
“ … the world, once again is in danger of not feeding itself. There are all kinds of reasons for this: population growth, climate change, a shift to feeding livestock instead of using grain directly for food, which is a less efficient way of feeding people, and growing demand for ethanol.
“Qualman of the NFU is not a scaremonger. He’s telling it as it is. So here’s a prediction: Food is the next big global news story and just like climate change it will generate huge controversy.”
Source: Nicholas Hirst, Winnipeg, October11, 2007.
Bloomberg: First baby boomer asks for Social Security benefits
“The first Baby Boomer applied today for Social Security benefits, a milestone marking the approaching retirement of a generation of Americans whose eligibility for government payouts threatens to overwhelm the federal budget. ‘This is the first drop of rain in the flood,’ said Bob Bixby, head of the Concord Coalition, a Washington-based advocacy group that promotes balanced federal budgets. ‘It’s the beginning of an era. It’s symbolic but it reminds us that we’re not doing anything to prepare for this.’
“The demands on retirement programs by the estimated 80 million Americans born between 1946 and 1964 combined with spiraling health-care costs will eventually overwhelm the federal budget unless lawmakers change government policies, Bixby said.’
Source: Brian Faler, Bloomberg.com, October 15, 2007.