Economic Report from the Onion

The greatest news source on Earth has decided to do a report on the economy. It is very insightful. http://www.theonion.com/articles/something-about-tax-cuts-or-earnings-or-money-or-s,18169/

Just how volatile are global politics right now?

Very, it turns out.

Labour now polls even or possibly ahead of the Tories in the UK just four months or so after the most recent election. http://itn.co.uk/6ec09e8f6e13a874aa91c427f4437806.html

Normally I would say ignore politics, but I think what you may be seeing in a number of countries is a move by many democracies toward being ungovernable. That is a risk that we have to keep in mind as the economies of the developed world remain languid. Germany's government is precariously positioned and that is unlikely to improve. The same goes for Australia's. One basic rule of history that I remind myself of when there are situations like this one is that it doesn't necessarily have to end well.

We still haven't seen any headlong plunges toward protectionism by any major parties around the world in order to garner votes, but that's certainly a possibility. It would be a big vote getter in countries that are convinced that all they have to do is improve their trade balance to grow their economies. However, given that all countries seem to be trying to collectively devalue their currencies, it is a possibility trade protections will start popping up. One serious aggravating factor there is that China operates behind somewhat of a trade wall while most of its trade partners are as open as any economies have ever been.

If we do see parties start to flap their gums about protectionism, suddenly even low yielding bonds would look attractive. We aren't there yet, but we could be before long.

Opposing Views on Gold and GOOG

I have recently been critical of both gold and Google (GOOG). In the interest of presenting multiple views, here are a couple of articles disagreeing with what I have been saying lately.

Gold: http://money.uk.msn.com/investing/articles.aspx?cp-documentid=154762364

The basic premise here is that since we are still at a time when central banks seem to be focused on devaluing their currencies in order to boost exports. I would agree that in the short run this provides some support to gold. Still, I don't buy the win-win scenario for gold because if gold is truly an asset class for all seasons, even a marginally efficient market would have already priced it as such. The risk to gold is that if stable economic growth is restored without an major outbreak of inflation it will suffer horribly. A restoration of 2-3% inflation is not bullish for gold. However, this author makes his case and it helps to have opposing views.

Google: http://blogs.marketwatch.com/cody/2010/09/23/googles-headed-to-2000-heres-why/

Now, there the author says that Google is going to $2000 a share by 2020, which would be about a 4x increase. I actually don't doubt that as a possibility, but I would be inclined to take the under on that one. There is plenty of upside for Google and it is true that the major trends are with them, but a decade is a long time in information technology and Google seems somewhat undisciplined in terms of achieving good operating results. I do think that Google makes a great deal of sense as a long term holding as I have a hard time figuring how it doesn't outperform the overall market over the next several years. Google just frustrates me because they could be more profitable than they are if it was a more professionally managed company.

A (Very) Brief Digression on Economic History

I normally wouldn't want to venture into this territory, but there are certain facts which have been distorted somewhat due to the fact that this is a political season and somewhat due to the fact that some people want to push certain narratives. I just wanted to provide some simple facts that I think have gotten distorted.

One is that the 1970s were an absolutely hellish decade while the 1980s were wall to wall prosperity. This is true when it comes to the performance of financial markets where stocks had a wretched decade in the 1970s, largely due to the fact that they entered the decade with elevated valuations due to the run ups in the 1950s and 1960s, but also because interest rates rose throughout the decade due to inflation from the Federal Reserve's incompetent management of monetary policy (and due to certain oil producing countries behaving badly).

However, in terms of income growth it certainly wasn't horrible. Here are the CAGR numbers for inflation adjusted personal income by decade.

1950s: 4.06%
1960s: 4.62%
1970s: 3.50%
1980s: 3.13%
1990s: 3.07%
2000s: 2.48%

The same holds reasonably close with GDP, which shouldn't be a surprise since income growth and GDP should be closely related.

Part of the reason the stock market was so nicely positioned for a good decade in the 1980s was that nominal earnings had risen substantially during the 1970s while nominal stock prices remained practically constant, even down somewhat. As a result, stocks in the first few years of the 1980s were badly undervalued. The PE ratio of stocks in April of 1980 was about 7x trailing earnings. Once interest rates began to fall to more reasonable levels, stocks appeared badly undervalued.

If there's a lesson from this it is probably that you should always look up data yourself rather than believe it wholesale from someone who is trying to make an ideological point or create some kind of narrative of the financial markets.

August Home Sales and July House Prices

Over from Calculated Risk, we have a preview of existing home sales: http://www.calculatedriskblog.com/2010/09/existing-home-sales-preview.html?utm_source=feedburner&utm_medium=feed&utm_campaign=Feed:+CalculatedRisk+(Calculated+Risk)

Given that the weekly MBA purchase index has basically not moved in a while and the current levels of pending home sales, the 4.1 million SAAR makes sense.

In terms of what this means for prices, generally inventories over an eight months supply imply moderately to steeply falling prices though the relationship is not ironclad. We did see out of the FHFA today that home prices in July fell 0.5% from June. Given that there is a bit of a lag between when inventory to sales ratios surge and prices drop, we should expect fairly steady small to moderate price declines for many months to come. Currently, a number of forecasts are calling for about a 5-7% decline. Based on some regression work I've done, that seems reasonable.

An interesting consequence of that is that it makes the home-buying decision a little more complicated. The old argument that you want to own instead of rent so that you can build equity doesn't exactly work when your monthly principal payments are going to offset a decline in prices. Just some food for thought.

Hong Kong Property Prices

We have previously discussed the property price bubble in mainland China as well as a similar bubble in Australia. Hong Kong, too, not surprisingly has been a center of quite a lot of speculative activity. There's a good post here about it: http://www.favstocks.com/hong-kong-bubble-hong-kong-residential-property-prices-july-2010/2024975/

I read a Bloomberg article today discussing whether or not it will be as bad as 1997. I really rather doubt that because while prices are approaching similar levels, incomes have grown notably in Hong Kong since then. However, there is little doubt that even with that income growth prices have still outstripped people's ability to afford them. This is all despite admirable attempts by the government to stop the bubble from building. 

On a related topic, the mainland Chinese government is rumored to be introducing a property tax in the fall. http://www.bloomberg.com/news/2010-09-21/china-may-unveil-property-tax-in-october-to-reign-home-prices-report-says.html A property tax similar to that in the U.S. does serve as a buffering mechanism to restrain house price bubbles for two reasons. One is that it adds a significant annual carrying cost so that you are dissuaded from sitting on property waiting for the right price. The other is that it cuts down on your expected rate of return and the tax is immediately capitalized into the house price. 

I will point out that states with high property taxes generally were spared from the housing bubble in this country, at least the most direct effects of it anyway. California and its peculiar property tax system actually encourage bubbles because house values are capped for property tax purposes at artificially low rates until they are sold. Depending on the rates China introduces, this will have a major effect on the housing market in China. Those sitting on investment properties that presently have no tenants will find the costs too great and be forced to sell while prices generally will take a hit. I think this is an interesting experiment on China's part to try to rein in a bubble before it reaches unmanageable proportions. However, it may be too late.

DRIPs: Where to go for them

I've been a pretty big fan of Dividend Reinvestment Plans (DRIPs) over the years and something close to half of my invested assets are in them. For those who want to invest small amounts without having to deal with a broker, I really think these are a very good option because you can put in money in dollar rather than share denominations.

In terms of where to go for them, here are a few different websites of providers:

Shareowner Online (Wells Fargo): 

http://www.shareowneronline.com/

Investor Service Direct (BNY Mellon):

https://isd.bnymellon.com/isd/faces/jsp/enroll/enrollInterface.jsp

ADR.com (JP Morgan):

http://www.adr.com/ShareholderServices/ShareholderServices.aspx?L1=DirectPurchase&L2=About

Computershare:


https://www-us.computershare.com/Investor/Plans/buyshares.asp

There are a few others out there, but these are the ones I would start with. There are some companies that seem to do it directly such as Procter and Gamble (PG): http://www.pg.com/en_US/investors/investing_in_pg/sip.shtml

I think these are fantastic programs, but keep an eye on the fee schedules when choosing how to do your automatic investments. If the plans charge a dollar per transaction and you put $25 in a month, that doesn't make much sense. You are paying 4% transaction costs then.

Funny Blast from the Past

So, I was going through some books of mine, and I found this one sitting in a bin from my move from my old apartment:

I think this was one my brother picked up around 2003 or so at a rummage sale for about $0.50. In truth, it's probably worth less than that, but it may surprise you to know that this book is not devoid of data and rational argumentation. It actually made a somewhat persuasive case and not all of it was nonsense (though most was). Rather, I think it was a case of where the author had already made up his mind of what he thought the markets were going to do and built his evidence around his prejudices.

Incidentally, this same author is projecting another Great Depression in the near future. Take that for what you will.

So how are those "exploring new frontiers" stocks doing anyway?

I asked myself this question when I was walking home today, so I decided to take a look. For a reference, here is the link to the previous post: http://fmonitor.blogspot.com/2010/08/exploring-new-frontiers-five-stocks-ive.html On balance, I think fairly well. We discussed them here on August 8th, so here is the chart since then.

Of these, PVD is clearly the star, but XRTX has done well and SBS has beaten the S&P 500 marginally. PNR and NUS are lagging, though not severely. If you put equal weights into these five, you would be easily beating the market. Of course, that's only over the course of just over a month so who's to say this will continue, but there you have it.

All of these have been somewhat difficult to keep up on because they don't typically get financial news coverage and it is often hard to discern from press releases whether news surrounding a company is good or bad. That's a risk you take with the obscure names.

Early Indications of September Consumer Spending

I've gotten in the habit of looking at the advance indicators of consumer spending as it helps to get a picture anywhere between half a month and a full month before the actual data comes out.

In September so far things aren't looking that good. Auto sales are on pace to drop from August, which was down a little bit compared with July. http://www.dailyfinance.com/story/autos/after-strong-start-u-s-auto-sales-slow-in-september/19637006/

On store front, it looks like sales are flattish from August so far, but they aren't down either. There's enough of the month yet in play to decide the matter.

From the MBA purchase index it seems that home sales will be at these heavily reduced levels for a little while yet. With high inventory levels, another 5-7% drop in home prices nationally seems quite likely over the next year or two. Most of the professional forecasts (Moody's, Global Insight, etc) are calling for something in that range now after being more bullish in the earlier part of this year. Evidently they were distracted by some of the tax credit induced price supports.

This activity suggests tepid consumer spending for Q3, though it was actually a little better than many were fearing and the data do not suggest a double-dip recession.