Commentary from David Kelly, Chief Market Strategist at JP Morgan Funds
Fear and the Economy
In the week leading up to Halloween, numbers should both highlight the economic fears of many Americans and feature many of the causes for them.
The housing market is clearly one of the problems, with high levels of inventories and a slow pace of sales. Existing home sales data on Monday and new home sales data on Wednesday should show some modest improvement on both scores. However, while the average price for an existing home hit its trough back in the spring of 2009, it is still down about 20% from its peak, reinforcing a loss in value for the single biggest asset of most American households.
Jobless claims, due out on Thursday, may show a further marginal improvement but will still reflect the stark reality that almost half a million people each week are losing their jobs, a pace of layoffs which is only just been exceeded by new hires in the economy of 2010, leaving the unemployment rate at a very high level.
The Employment Cost Index, due out on Friday, should show one of the consequences of that labor market slack, with only very modest gains in either wages or benefits. And third-quarter GDP, while likely to be better than the 1.7% annualized gain seen in the second quarter, should still show an economy in a very slow convalescence from the recession of 2008/2009.
Other numbers will include Durable Goods Orders, which should be boosted by strong orders for aircraft, and the Chicago ISM Index, which could fall from a level which has seemed more elevated than other regional surveys in recent months. However, these are unlikely to move markets or sentiment much.
Earnings reports could elicit a better reaction. As of last Thursday, with 151 S&P500 firms reporting, 74% of firms had beaten earnings estimates and 68% had beaten revenue estimates. A similar performance from the 179 S&P500 companies slated to report this week could boost the aggregate estimate for third-quarter earnings above $21.25.
In the midst of all this, and in the throes of a deeply negative election campaign, consumer confidence on Tuesday and consumer sentiment on Friday should still show a deeply pessimistic American consumer. Indeed, the preliminary October University of Michigan Consumer Sentiment number of 67.9 was lower than 87% of the months since monthly survey data were compiled back in 1978 and lower than 95% of the non-recessionary months since then.
These attitudes are unlikely to brighten soon. However, over the next few months, uncertainty over monetary and fiscal policy may disappate. In addition, still-rising earnings could boost the stock market while pent-up demand and low mortgage rates many finally spark meaningful improvement in the housing market. There is some hope that as we move into 2011, America can move beyond its worst economic fears, a transition which would help the economy and financial markets alike.
Commentary from Jeffrey D. Saut of Raymond James
Cautious But Not Bearish
The call for this week: Eight of the S&P 500's macro sectors are currently overbought. The two that are not, Financials and Telecom, are a neutral value by my pencil. Meanwhile, 88% of the SPX's stocks are above their respective 50-day moving averages, leaving the index well overbought. Further, the SPX is at the top of its Bollinger Band, a chart configuration that occurred right before the January—February and the April—July declines of this year. Moreover, the Dow Jones Industrial Average has traveled into formidable overhead resistance as it tested the April "highs" last week. And, today is session 37 in my day-count sequence without anything more than the perfunctory one- to three-day pause/pullback in the upside skein (read: pretty extended).
Accordingly I am cautious, but not bearish, believing the equity markets are going to make some kind of trading top over the next few weeks. I also believe any pullback is a buying opportunity. Therefore, instead of randomly "buying" right here, I prefer to wait and see which stocks resist the envisioned decline. As for where to "park" cash, in addition to the often mentioned Putnam Diversified Income Trust (PDINX/$8.09), over the past few months I have had numerous fixed income PMs suggest that bank loans are the most undervalued "space" in the fixed income arena. Typically, bank loan maturities are five years or less, ameliorating much of the interest rate risk. Further, corporate cash flows are at all-time highs, suggesting the best credits out there are corporations. Drilling down into this strategy, I had lunch with a PM from Pioneer Funds recently (Ken Taubes) who agreed that Bank Loans are the place to be in fixed income. Unsurprisingly, the fund he recommended was the 4.8%-yielding Pioneer Floating Rate Fund (FLYRX/$6.87). Another such fund, for your consideration, was recently recommended by Raymond James' mutual fund research department, namely Mainstay's Floating Rate Fund (MXFAX/$9.40). I continue to invest, and trade, accordingly.Commentary from Stephen J. Huxley, Ph.D. Chief Investment Strategist, Asset Dedication, LLC Professor of Business Analytics, University of San Francisco
Are Interest Rates Always Positive?
One of the current topics of debate is the direction interest rates are headed. But curious clients may ask more fundamental questions, such as: "Are interest rates always positive?" It pays for financial planners to be prepared with an answer that demonstrates a depth of understanding the general public does not have.
In this case, the answer is yes. Interest rates have always been positive and probably always will be.
There may be a few circumstances where real interest rates, adjusted for inflation, are negative, but it would be very strange indeed if nominal rates turned negative because an investor can always refuse to invest in anything and get zero return.
Interest rates have been with mankind for a very long time (it is mentioned in Exodus, the second book of the Bible). There are a number of explanations, including inflation, government policies, and perhaps the expectation of rising standards of living. But theoreticians believe there are also deeper "root" causes that stem from our nature as human beings and from the dynamic nature of time.
The first root cause is compensation for deferred gratification. The theory is that we all have "positive time preferences," meaning we want what we want when we want it - now, not later. The default preference is for immediate gratification, but we will wait if there is some reward for doing so. That is why young children prefer to eat dessert first and have to be taught to wait until they get some nutrition. By the same token, we will pay interest on a credit card to buy things to enjoy now to avoid the pain of waiting.
The second explanation for interest rates being positive has to do with risk. Positive time preference isn't just the result of childish impatience. It is a rational response to what physicists call the "dynamic irreversibility of time" and the risk it creates. Once a dollar leaves my direct control, there is always some probability that I won't ever enjoy the gratification it could have provided me with. The investment may go bad, the record of the deposit may be lost, or something may happen to me (I die in an automobile accident before getting repaid). In such cases, my gratification wasn't deferred; it was lost forever. I therefore must be compensated for taking that risk. I want more than my dollar if and when it comes back - I want interest.
Will these underlying reasons for positive interest rates ever change? I doubt it.
Existing Home Sales
Federal Reserve Chairman Ben Bernanke makes speech before the Federal Reserve System and Federal Deposit Insurance Corporation Conference on Mortgage Foreclosures and the Future of Housing
ICSC-Goldman Store Sales
This weekly measure of comparable store sales at major retail chains, published by the International Council of Shopping Centers.
S&P Case-Shiller Home Price Index (tracks monthly changes in the value of residential real estate in 20 metropolitan regions across the U.S)
Durable Goods Orders
New Home Sales
Fed Balance Sheet
Employment Cost Index
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