Falling gasoline prices - $4 becoming a memory

The AAA Daily Fuel Guage Report continues to register a steep pullback in retail gasoline prices over the past two weeks. The national average retail price for a gallon of regular unleaded gasoline hit a peak of $4.114 on July 17, 2008. In only twelve days the price has fallen 17.3 cents to $3.941 per gallon. I am sure there are plenty of consumers glad to see that "3" handle in prices again, although the media still cannot resist referring to "near $4" gasoline. More declines are on the way, and they will be fairly dramatic.

The wholesale price (August 2008 Gasoline RBOB futures contract) closed Tuesday at $3.0015 per gallon. Add 60 to 65 cents to the wholesale price to get to target retail price, which would be $3.60 to $3.65. That means we could see declines of up to 29 to 34 cents over the next week or two. That would certainly be a welcome relief to consumers.

OTOH, the sharp declines in crude oil and gasoline and other commodities could simply be part of a short-term trading move by speculators which could reverse at any moment and reclaim all of the recent declines and then some in a matter of weeks if not days. Hard to say for sure.

The three big wildcards are that we do not know: 1) what the hedge funds are thinking in terms of their asset allocation plans for commodities over the short and medium term, 2) what the invesment banks are recommending to their institutional clients as far as asset allocations for commodities, and 3) what the in-house proprietary trading desks at financial firms are planning as far as their asset allocations. These are the three key variables which will drive commodities price swings until we get to a stage where all three groups finally lose interest in commodities and drive their commodities allocations to zero and we return to a normal commodities market with garden-variety "mom and pop" traders and speculators rather than an environment in which commodities are (misguidely) treated as an "investment class."

-- Jack Krupansky

Q2 GDP report due out Thursday morning

Oops... last week I wrote this post saying that the Q2 GDP report would be out on Tuesday (today), but obviously that is not the case... it is due out on Thursday morning. Sorry about that. As per the BEA (Bureau of Economic Analysis):

Next release--July 31, 2008, at 8:30 A.M. EDT for:
Advance estimate of gross domestic product for
the second quarter of 2008 and annual revision
(first quarter 2005 through first quarter 2008).

----

The "advance" report for Q2 GDP will be out Thursday morning. Although there is a very hearty chorus of people who fervantly and passionately believe that the U.S. economy is already in a recession, even the Q2 report is still likley to show real GDP as being at least slightly positive. In fact, Macroeconomic Advisers, who publishes their own estimates of monthly GDP is forecasting real Q2 GDP growth of +2.6%.

Although the NBER Business Cycle Dating Committee, the people who definitively mark the precise month that each recession begins and ends does use monthly GDP data such as from Macroeconomic Advisers, it is only one of five indicators that they examine. Still, it is rather unlikley that a deep recession could occur without showing a big hit to GDP.

Macroeconomic Advisers has released their estimates for April and May GDP (+0.5% and +0.1%), but they won't have a data-based estimate for June and a complete estimate for Q2 until the middle of August. You might ask how the government is going to release Q2 GDP next week then. The answer is that the government is simply extrapolating from April and May and other historical data and trends to contrive temporary numbers for June to get a full quarter of GDP. That is why this is called the "advance" report, since it is in advance of the real data. The government will have the preliminary June numbers in a few weeks and issue the "preliminary" Q2 GDP report at the end of August. Macroeconomic Advisers will have that same June data in a couple of weeks and turn it around more quickly to give us both the June monthly data and a more accurate estimate for Q2 GDP.

Macroeconomic Advisers had forecast 2.9% real GDP growth for Q2 in their last public report, but as of today their web site says that Q2 real GDP growth is "tracking" at 2.6%. In addition, they are saying that Q3 is tracking at 1.4%, which will further disappoint and frustrate the doomsayers. Some of them are already "refining" their recession forecasts out to Q4.

-- Jack Krupansky

Is it a recession or not?

There is a fairly decent article in The Wall Street Journal by Sudeep Reddy entitled "Economists Weigh Possibility of a Recession Amid Economic Growth" which discusses a number of the factors facing economists who are trying to figure out whether the U.S. economy is in recession or not.

One interesting aspect is the divergence of employment and output. Because of productivity gains, we see greater output with fewer workers, which means that GDP can rise even if employment declines. Maybe the real point should be that a recession requires that the decline in economic activity be significant enough to drag down both employment and output.

Another interesting aspect is whether the stimulus checks should be subtracted from personal income since they are really just a "transfer" (for which no work was performed) and NBER looks at real income "minus transfers." The stimulus is technically a "rebate" against taxes, so it is not actually a "transfer" per se. But, for people who have not paid enough in taxes, the stimulus would classify at least partially as a transfer (or "government social benefit payment".) This was not explicitly discussed in the article, but it appears that they used a modified version of the data that had at least some of the stimulus removed, but there is not enough information given in the article to be sure. The government BLS report has this to say:

In the NIPAs [National Income and Product Accounts], rebates for residents of the 50 states and the District of Columbia will be recorded as either an offset to personal current taxes or as a social benefit payment to persons. Rebates for individuals with tax liabilities that exceed the rebate amount will be treated as an offset to personal current taxes in the NIPAs. Rebates for individuals who pay no income taxes (or for whom the rebate would exceed the amount of the income taxes they do pay)will be treated as a government social benefit payment to persons in the NIPAs. 

Ultimately, what really matters is whether the stimulus has a real impact on "getting the economy going again", which will show up months after the stimulus is over. The last rebate payment should have gone out in the middle of July, so we should now be clear of the immediate impacts of the payments and be starting to look at the real economy again. Unfortunately, there will be a number of economic reports over the next two months which still cover the stimulus period. We need to look at the short-cycle data such as weekly unemployment claims, weekly mortgage applications for purchase, and weekly chain-store sales to get an idea how the economy is trending in real-time.

The safe thing to do is to wait a few months and then ignore the numbers for the period when stimulus was occurring (May, June, July.)

Back to real income minus transfers, or what in the BLS report calls "disposable personal income, chained (2000) dollars", the WSJ chart shows real personal income at about $8.5 trillion over the past 9 months or so, but the BLS data is at about the $8.75 trillion level and did not peak in February as the WSJ chart suggests, but had an all-time high in April immediately before we see the huge spike for the stimulus "income" in May. We may in fact see declines for June and July as the actual stimulus payments decline. The June data comes out next Monday, August 4, 2008.

To be clear, real personal income minus transfers has not yet shown any significant decline. There has been nothing on the order of what one would traditionally expect in a "deep" recession such as a lot of people talk about us being in.

The real test is to see if there is a decline in August, September, and October. The pundits and cynics will insist that declines are virtually certain, but I would note simply that to-date, they have been wrong in over-anticipating declines in both GDP and real personal incomes.

I still do not see a true, full-blown recession. I believe that there is a 40% to 70% chance that we could see a recession, but the simple truth is that "we aren't there yet."

Sure, you could argue that if the dollar was stronger and exports were weaker and there was no stimulus that we would certainly be in a recession, and that may be true, but I would argue that for each of those factors to occur, who knows how that would impact all of the other factors that influence the overall economy. Besides, we have to deal with the economy that we have, not some hypothetical economy that "could have happened", but didn't.

Oh, and do not make the mistake of presuming that there will not be any further stimulus if the economy weakens further.

Put simply, be prepared for a rapidly evolving economy and take nothing for granted.

-- Jack Krupansky

What's going on with the dollar?

There is an interesting article by Jeff Cox on the CNBC.com web site entitled "The Dollar Stages a Comeback the Hard Way." It does not give us any definitive answers about exactly where the dollar and commodities prices will head next, but is does present some good background material. The article does in fact argue for the U.S. dollar getting stronger in the near future, but it also recognizes a significant level of uncertainty. The article tells us:

... the dollar still has managed to stabilize and is hinting at a comeback.

"I think the prospect for improvement in the value for the dollar is getting better everyday," said David Resler, chief economist at Nomura Securities International in New York.

And:

"One of the things we noticed is there were some real high-level people sent to the Middle east in March up until June," said Weiss Research currency analyst Jack Crooks, referring to several White House figures including Treasury Secretary Henry Paulson. "Our guess is maybe the oil producers in that area are just not reallocating back out of the dollar as fast as they were in the past."

At the same time, there continues to be strong sentiment that the commodity trade as a whole is unwinding, and the increase in value for the dollar will only exacerbate that.

...

One of the big beneficiaries of a dollar uptick, even a minor one, could be simple market psychology, which has been a critical factor in a time when emotions have ruled trading to a higher degree than usual.

...

"It's psychology and confidence," he said. "A strong dollar provides that and it flows directly into equities, too."

In short, there appear to be hints that the U.S. dollar will strengthen and that this will help to push stock prices higher. And commodities prices will probably bounce all over the map.

-- Jack Krupansky

The alleged perception problem of Microsoft

There is an interesting PC World article by Nancy Gohring entitled "Microsoft: Stodgy or Innovative? It's All About Perception" which repeats the common belief that Microsoft has a "perception" problem. Overall it is a decent article and does highlight that Microsoft is doing a lot of good work, but it repeats the somewhat-untrue but common belief that:

... Microsoft needs to address the perception problem, which runs deep and could have repercussions on sales of future products if the company doesn't manage to fix it.

The article also claims that:

The perception problem stretches into the online services market, where Microsoft has struggled to attract users.

While it is true that Microsoft is working very hard to drive deeper into the online services market, have they really done that badly? If we consult the Alexa ranking for the Top 100 Web sites we find that Yahoo is #1, Google has #2 (Google.com) and #3 (YouTube.com), but then Microsoft has #4 (Live.com) and #5 (MSN.com) and #14 (Microsoft.com). That is actually not that bad at all, being the #3 player in the online space and having two of the Top 5 sites. Sure Microsoft wants to be better (witness their recent interest it acquiring Yahoo), but to label the #3 player as suffering from a perception problem is rather misleading and outright ingenuous.

The problem Microsoft has is twofold: 1) An army of naysayers and opponents of the company in Silicon Valley, and 2) An army of biased critics in the media and on Wall Street. These are hard-core bias issues, not "perception" per se. No amount of effort by the company is going to reduce the incessant naysaying of company opponents in Silicon Valley. Ditto for bias in the media and on Wall Street.

What is the source of all of this bias? Simple: Microsoft has been too successful and does not owe any of its success to the chattering classes in Silicon Valley, the media, or on Wall Street. Microsoft has focused on producing economical and "good enough" products for "the masses", bypassing the need to be "blessed" by "The Elite" in Silicon Valley, the media, and on Wall Street. Microsoft has been successful at commoditizing its image. Almost everybody, even those who shop at Wal-Mart out of economic necessity, can now afford to have a PC in their home and office. Sure, the PC hardware vendors and software developers and other members of the "PC ecosystem" have helped in that effort, but it is Microsoft that led the way on the operating system and office productivity software fronts. A lot of people in Silicon Valley and the media and Wall Street are intensely jealous of that success, and show it. That is the root cause of the so-called "perception" problem, the elephant standing in the middle of the room that the media and company critics refuse to acknowledge. That is an issue that Microsoft has to cope with on a daily basis, but it is certainly not the kind of "image" or "perception" problem that Microsoft can do anything about other than to quietly tolerate it and keep on pumping out economical and "good enough" products for "the masses."

Sure, Apple and Google and many other companies are very successful, and even more successful than Microsoft in some niches, but Microsoft is still wildly successful overall by any measure.

How successful? For the fiscal year that ended June 30, 2008, Microsoft recorded revenue of $60.4 billion and net income of $17.7 billion. Google? Net income of $4.2 billion. Apple? Net income of $3.5 billion. Nobody is even close to Microsoft.

And just how bad is the "perception" problem on "drag" from Vista and Microsoft's online investments? A year ago, revenue was $51.1 billion and net income was $14.1 billion. That is a revenue increase of 18% and a net income gain of 26% on the back of so-called "disasters" on the Vista and online services fronts. So much for "disasters." Given its size, Microsoft's growth is absolutely phenomenal.

For the record, the trailing P/E ratio for Microsoft is 14.0, well below the rate that net income grew over the past year even with the perceived "disasters" of Vista and Microsoft's online services efforts (with their #4 and #5 Web sites.)

The "facts" about Microsoft, as a company, as an organization, its products, its services, its financial results, and even many of its future plans are readily available in the Web and well-known to many people in Silicon Valley, the media, and Wall Street. These people know exactly what is going on with Microsoft and it is not an "image" or "perception" problem. It is called bias, and a lot of it is outright malicious in nature. Microsoft is doing the right thing and simply ignoring it and pushing on and focusing on developing and delivering products and services for its customers and not catering to the chattering "elite" of Silicon Valley, the media, and Wall Street.

I would just like to see people be a bit more honest and talk about their own bias problem rather than the so-called "perception" problem.

---

Disclosure: I do own Microsoft stock and continue to purchase it, most recently two weeks ago.

-- Jack Krupansky

Falling gasoline prices - back under $4

The AAA Daily Fuel Guage Report continues to register a nice pullback in retail gasoline prices over the past week and a half. The national average retail price for a gallon of regular unleaded gasoline hit a peak of $4.114 on July 17, 2008. In only nine days the price has fallen 13.1 cents to $3.983 per gallon. I am sure there are plenty of consumers glad to see that "3" handle in prices again. More declines are on the way, and they will be fairly dramatic.

The wholesale price (August 2008 Gasoline RBOB futures contract) closed Friday at $3.0323 per gallon. Add 60 to 65 cents to the wholesale price to get to target retail price, which would be $3.63 to $3.68. That means we could see decline of 35 to 40 cents over the next week or two. That would certainly be a welcome relief to consumers.

OTOH, the sharp declines in crude oil and gasoline and other commodities could simply be part of a short-term trading move by speculators which could reverse at any moment and reclaim all of the recent declines and then some in a matter of weeks if not days. Hard to say for sure.

-- Jack Krupansky

ECRI Weekly Leading Index indicator falls sharply and remains deep in recession territory

The Weekly Leading Index (WLI) from the Economic Cycle Research Institute (ECRI) fell sharply (-1.26% vs.-0.91% last week) and the six-month smoothed growth rate fell moderately (to -6.9 from -6.5), which is well below the flat line, suggesting that the economy will be struggling in the months ahead.

According to ECRI, "The way a good leading index works is that its level always turns up months before the end of the recession. With the WLI level falling to its lowest reading in nearly five years, it is clear that a business cycle recovery is nowhere in sight."

The bottom line is that the ECRI WLI remains "flashing red." Alas, even the ECRI WLI is not a guaranteed, fool-proof economic indicator, especially when the data is mixed and there is a lot of stimulus as well as potential problems in the pipeline.

Given that the WLI has deteriorated in recent weeks, I will increase my own forecast for the probability of recession...

I am revising my personal assessment upwards to a high level confidence that there is no more than a 75% chance of recession (up from 65%) and a moderate level of confidence that there is no more than a 40% chance of recession (up from 35%) based on the fact that we are seeing some hints of moderation as well as hints of some worsening mixed in with all of the gloomy news.

I am somewhat optimistic that the U.S. economy will escape a full-blown recession, but I do have to recognize what the data itself is signaling to me, as well as ECRI's assessment and recession "call."

The bottom line is that the economy remains at "the edge" of a recession, but persists in refusing to overtly "fall" into recession.

-- Jack Krupansky

Q2 GDP report due out next Tuesday

The "advance" report for Q2 GDP will be out next Tuesday morning. Although there is a very hearty chorus of people who fervantly and passionately believe that the U.S. economy is already in a recession, even the Q2 report is still likley to show real GDP as being at least slightly positive. In fact, Macroeconomic Advisers, who publishes their own estimates of monthly GDP is forecasting real Q2 GDP growth of +2.6%.

Although the NBER Business Cycle Dating Committee, the people who definitively mark the precise month that each recession begins and ends does use monthly GDP data such as from Macroeconomic Advisers, it is only one of five indicators that they examine. Still, it is rather unlikley that a deep recession could occur without showing a big hit to GDP.

Macroeconomic Advisers has released their estimates for April and May GDP (+0.5% and +0.1%), but they won't have a data-based estimate for June and a complete estimate for Q2 until the middle of August. You might ask how the government is going to release Q2 GDP next week then. The answer is that the government is simply extrapolating from April and May and other historical data and trends to contrive temporary numbers for June to get a full quarter of GDP. That is why this is called the "advance" report, since it is in advance of the real data. The government will have the preliminary June numbers in a few weeks and issue the "preliminary" Q2 GDP report at the end of August. Macroeconomic Advisers will have that same June data in a couple of weeks and turn it around more quickly to give us both the June monthly data and a more accurate estimate for Q2 GDP.

Macroeconomic Advisers had forecast 2.9% real GDP growth for Q2 in their last public report, but as of today their web site says that Q2 real GDP growth is "tracking" at 2.6%. In addition, they are saying that Q3 is tracking at 1.4%, which will further disappoint and frustrate the doomsayers.

-- Jack Krupansky

Unemployment claims trend

It is really difficult to accurately assess what is happening with weekly unemployment insurance initial claims. The lastest report shows a moderate rise in initial claims (one strike), initial claims are above the 400K threshold typically associated with a recession (strike two), and the more reliable 4-week moving average of initial claims rose modestly (strike three). Superficially, the report strongly suggests a clear trend into recession. If only it were that simple.

There is a lot of volatility in the weekly data and the 4-week moving average is still only at 382,500, which is certainly elevated, but still not by itself indicating a recessionary rate for initial claims.

Clearly initial claims have been creeping up, but so far there is no evidence of them spiking up the way they would in a true recession.

Overall, the report suggests two things to me: 1) we could see another modest decline in the monthly employment report next Friday (maybe down another 25K to 150K), and 2) the economy remains at the edge of a recession but is still not falling off the cliff into a clear and indisputable and deep recession.

-- Jack Krupansky

Ford shift to small cars

I heartily applaud Ford's decision to shift to production  of more small cars. This may appear to be an overdue decision to do the "obvious", and the cynics will protest that it is "too little, late" and that Americans will reject Detroit small cars in favor of "foreign" cars, but I strongly suspect that the move will be far more successful than the naysayers are currently giving Ford credit for. If Ford builds a better car, people will buy it.

Now, what I really want to see is the plans for making most of those new cars hybrids and all-electric ASAP.

-- Jack Krupansky

Microsoft to give online services equal billing with Windows in reorg

Although I have mixed feelings about Kevin Johnson leaving Microsoft, I am absolutely thrilled that the company will be splitting the Online Services business unit away from the Windows platform division to stand separately and report directly to Steve Ballmer. The press release did not explicitly say that Online Services would be a standalone division with its own president, but I am guessing that is where they are headed. In fact, I always assumed that Online Services would end up as a separate, top-level divsion if the Yahoo acquisition had ever come to fruition.

This is a very positive move, and shows that Online Services has grown significantly in the past few years.

I do wish that Kevin could have continued at the company, but everybody needs to move on at some point.

Knowing a little bit about how the company works, I am guessing that there was probably an extreme level of internal tension over how sloppily the whole Yahoo deal was proceeding. It was Kevin's job to make it work, and... he really didn't pull it off in a way that anyone would say is "outstanding."

This is the time of year when performance reviews, promotions, raises, and bonuses are being finalized, and I cannot imagine that the handling of the Yahoo deal was much of a feather in Kevin's cap. Personally, I wouldn't have objected if Kevin were fired for the combination of the sloppy handling of Vista and Yahoo.

That said, I really am pleased that Online Services will be getting some standalone attention rather than being stuffed away under "Windows." That never really made any sense.

-- Jack Krupansky

Falling gasoline prices

The AAA Daily Fuel Guage Report has been registering a nice pullback in retail gasoline prices over the past week. The national average retail price for a gallon of regular unleaded gasoline hit a peak of $4.114 on July 17, 2008. In only six days the price has fallen 7.2 cents to $4.042 per gallon. More declines are on the way, and they will be fairly dramatic.

Just today, the wholesale price (August 2008 Gasoline RBOB futures contract) fell very sharply by 11.3 cents to $3.034 per gallon. Add 60 to 65 cents to the wholesale price to get to target retail price, which would be $3.63 to $3.68. That means we could see decline of 36 to 41 cents over the next week or two. That would certainly be a welcome relief to consumers.

OTOH, the sharp declines in crude oil and gasoline and other commodities could simply be part of a short-term trading move by speculators which could reverse at any moment and reclaim all of the recent declines and then some in a matter of weeks if not days. Hard to say for sure.

-- Jack Krupansky

The so-called rescue of Fannie Mae and Freddie Mac

Just a quick follow-up to my post about the so-called "rescue" of Fannie Mae and Freddie Mac...

I read in an article in The New York Times by David Herszenhorn entitled "Cost of Loan Bailout, if Needed, Could Be $25 Billion" that the most likely scenario is that Fannie and Freddie will not need any bailout at all, and then even an unlikely bailout would be modest and not likely to be about the order of $25 billion, and only in the most extreme (and very unlikely) scenario would the cost be upwards of $100 billion, which is still a rather modest amount considering the scale of the overall financial system. As The Times reports about comment from the Congressional Budget Office:

The budget office said there was a better than even chance that the rescue package would not be needed before the end of 2009 and would not cost taxpayers any money.

The article continues:

But the office also estimated a 5 percent chance that the mortgage companies, Fannie Mae and Freddie Mac, could lose $100 billion, which would cost taxpayers far more than $25 billion.

Sure, all sorts of people on Wall Street will gleefully trumpet the great risk of a 1-in-20 event, but that is a rather low-probability event compared to a lot of risks we in the real world take in stride.

The article also says:

According to the estimate, which was delivered in the form of a letter to the House Budget Committee chairman, Representative John M. Spratt Jr., Democrat of South Carolina, the director of the budget office, Peter R. Orszag, predicted that "a significant chance, probably better than 50 percent, that the proposed new Treasury authority would not be used before it expired at the end of December 2009."

Mr. Orszag, at a briefing with reporters, acknowledged that pinpointing the eventual cost of the package was impossible. "There is very significant uncertainty involved here," he said.

The uncertainty runs in both directions, with some government officials and market analysts suggesting that Fannie Mae and Freddie Mac are fundamentally sound and will perform well over the long-term. Others, including some private equity managers, are pessimistic and predict heavy losses.

Ahhh... so-called "private equity managers"... otherwise known as hedge fund speculators, the kind who are shorting the stock of Fannie and Freddie. Sure, they're going to give you an "objective" appraisal of the outlook for Fannie and Freddie... NOT!

The bottom line here is that there is no actual financial "rescue" going to be taking place in the near future. The whole package being pushed and dragged through Congress is simply a contingency backup plan and a tool to try to frighten off the Wall Street "private equity managers" and others who: a) are opposed to the existence to the GSEs at all, and b) are actively and maliciously attempting to push down and talk down the stock price of Fannie and Freddie in order to profit from short positions or to get a lower price when Fannie and Freddie seek to raise equity capital in the near future.

The real bottom line here is the the U.S. Treasury and Congress are signalling the grossly irresponsible scumbags on Wall Street very loudly and very clearly to back off and cease and desist from maliciously attacking Fannie and Freddie on a basis that is completely out of proportion to the actual fundamentals and actual risks of these companies and their assets. And, if the fundamentals do happen to unexpectedly deteriorate and if the risks do unexpectedly happen to rise, then YES, the U.S. government is standing by to fully back Fannie and Freddie in much the manner as investors have always presumed is the case. The idea that the U.S. government might step in and financially support Fannie and Freddie is not new or novel. I myself have known about this implied guarantee for about ten years now.

-- Jack Krupansky

Is the commodities bull market finally over?

Well, is it? Is the bull market in commodities, especially crude oil, gasoline, gold, and betting against the dollar finally over? Is $147.90 on July 11, 2008 the peak for September crude oil futures? Is $150 just one of those goals that seemed like a no-brainer only a week or two ago, never to really happen in the real world? Well, maybe it is the end, or maybe not. It really is hard to say. I would say there is at least a 1 in 3 chance that we are simply looking at a short-term trading move downwards, and then a good-size hurricane headed for the oil fields and some saber-rattling with Iran, coupled with a few dramatic short-covering rallies could well cause an upwards spike one more time or even a couple of times, at least before Congress gets into the act and effectively legislates bubble-style commodities "speculation" out of existence in advance of the November election when all politicians will seek to appear to be 100% pro-consumer.

Since people are now at least seriously contemplating the end of the big run-up on at least a short-term basis, that means that a lot of people are betting on a big move down, possibly down to $100 or further for crude oil. But, if too many people make that same bet, even a moderate level of negative news could cause a big short-covering rally which would attract the bulls who are still convinced that this "rally" has years to run.

My recent thinking had been that traders and speculators would at some point simultaneously push gold back over $1,000 to a new peak and oil above $150 at the same time. That almost happened. I strongly suspect that unrepentant speculators will take another shot in the near future. Even $175 oil and $1,200 gold are not out of the question.

Ultimately, the real question is where is the money flowing? Is money continuing to flow into commodities funds or is money now flowing out? Actually, even if and when money begins to flow out of commodities funds, traders and speculators may simply reallocate from long-only positions to range-trading with short positions as well. Ultimately, that shift would cause prices to moderate, but in the short-term it could cause volatile swings and some dramatic short-covering rallies as people struggle to tell the difference between trend moves and trading moves.

The true wildcard variable is the state of the economy. In the traditional asset allocation clock, commodities remain in vogue until the economy falls off a cliff into recession. Unfortunately, there is a lot of confusion and mixed data as to the true state of the economy. For some, we are already in a recession or at least the early stages of a deep recession. For others, the weakness will likely be shallow and the economy is likely to spring back to life by next Spring. There is truly no consensus view on the state of the economy. Personally, I believe we are only seeing a slowdown and will not experience a true recession before the economic pace picks up again in the near future. That view would suggest that the bulls could have a bit more to run.

I am not betting one way of the other, but I would not be surprised at all to see $175 oil and $1,100 gold, especially if the Feds declare Fannie Mae and Freddie Mac to be off-limits to short sellers. If Jimmy Rogers is forced to cash out of his stock short positions, where do you think he will "invest" the proceeds? Commodities as a trade, especially if they are depressed on a too-sharp, short-term dip, are a prime contender.

The real answer is that the commodities bubble will continue to be susceptible to spiking upwards until all of the major Wall Street firms make a "trading call" and tell people to start reallocating out of commodities. I am not a major institutional client of Wall Street, so they won't be informing me when they make such a call or whether they may have made such a call in recent weeks. Since such calls are frequently not immediately made public, the true peak could come weeks or a month or more after the calls.

-- Jack Krupansky

What needs to be done about Fannie Mae and Freddie Mac?

There has been a lot of hand-wringing lately about the financial health of the so-called housing GSEs, Fannie Mae and Freddie Mac and the supposed "threat" they allegedly pose to the U.S. economy, but I do believe that most of the criticism and anxiety and anger is either misplaced or ingenuous. A lot of "players" on Wall Street are shorting the stock of Fannie, Freddie, and banks and financial companies in general, so a lot of their complaints are really more in the line of "talking their book" (promoting the stories that serve to benefit their own trading positions) to incite others to put further downwards pressure on the stocks of these companies.

Even before the current (quickly becoming past) housing "bubble", quite a number of Wall Street firms were opposed to the housing GSEs since Wall Street wanted a cut of the action and managed to con Congress into putting constraints on Fannie and Freddie back in the 2003 timeframe, just before the housing "bubble" really started to expand. Fannie and Freddie, by definition, have only dealt in "conforming" mortgages, which by definition are not subprime. Fannie and Freddie are not in any way responsible for the subprime mortgage crisis and do not have any significant exposure to subprime mortgages and related foreclosures.

It is in fact those Wall Street firms that lobbied for shackling Fannie and Freddie over five years ago, and it is those same Wall Street firms that over-inflated the housing bubble with a misguided focus on non-conforming (subprime) mortgages, since they yield (or, rather, once yielded) much higher fees for the Wall Street firms. In fact, one aspect of the scandal is that firms conned consumers into accepting higher-fee subprime mortgages even though those consumers could have afforded cheaper, safer conforming mortgages that Fannie and Freddie dealt in. Wall Street did not directly mislead consumers on mortgages, but they put such an extreme premium on high-risk, high-fee subprime mortgages that they became irresistible to average mortgage sales personnel. Wall Street indirectly enabled this fraud, and the resulting debacle. Wall Street is clearly to blame for the whole subprime mortgage "crisis", but not one iota of blame can be laid at the feet and Fannie and Freddie.

The "crisis" for Fannie and Freddie is simply: 1) too many people are predicting a much higher level of foreclosures of conforming mortgages than is reasonably likely, and 2) too many Wall Street firms have been actively and maliciously attacking the stock of Fannie and Freddie, making it more difficult and more expensive for them to raise capital. The situation has gotten so out of hand on Wall Street that the SEC has proposed special short-sale rules to try to deal with rampant abuse such as naked short-selling, which is already illegal, but nobody on Wall Street has the moral values to prevent it.

The combined market cap of Fannie and Freddie is now only about $19 billion. The U.S. Treasury should simply start to silently buy up the stock, effectively putting a floor on the price as well as a ceiling for buying the two GSEs should the remaining shareholders continue to lose faith and dump their shares. That would probably be the best $20 billion ever spent or invested by the U.S. government and likely achieve a spectacular rate of return, even if the rate of housing foreclosures were to rise significantly further.

Even if it were to cost $25 billion to "rescue" Fannie and Freddie (literally from the short-sellers on Wall Street and their attacks on the stock), which is one estimate I saw today, that is mere peanuts or "chump change" compared to the amount of capital that the Federal Reserve has put at risk to rescue Wall Street itself, to date. For Wall Street to "blame" Fannie and Freddie for the current "crisis" is the height of hypocrisy.

Fannie and Freddie truly are two of the strongest pillars of the U.S. financial system, second only to the U.S. Treasury and the Federal Reserve System. Even the so-called "best" firms on Wall Street are a very distant third-place. Fannie and Freddie have done nothing wrong, save that they became a target for an unscrupulous Wall Street.

At this point, I think that the Treasury should simply loan Fannie and Freddie as much cash as they need to siliently buy back their own stock from all willing sellers. If their stocks stabilize and rise significantly, that process can cease, otherwise the process should continue until the GSEs are fully privatized. Wall Street does not deserve to have these two financial companies be at the mercy of shameless short-sellers. Who knows, maybe the next generation on Wall Street will have some sense of moral decency and maybe in another five years Fannie and Freddie can once more become publically-traded companies.

In my book, Fannie and Freddie are the true angels, fighting on the side of good and economic and financial justice, while Wall Street is now nothing more than thieves without honor. Actually, even that pejorative does not convey enough negativity about the dishonorable behavior of Wall Street.

If you hear anybody saying anything negative about Fannie and Freddie, almost certainly one of three things are true: 1) they are lying, 2) they simply have not done their homework, or 3) they oppose the concept of the GSEs and are simply using the "crisis" as an excuse to promote their opinion. A lot of people actually do not know much at all about the housing GSEs and should do some homework, but so many people on Wall Street could not care less about what the truth really is.

In short, technically nothing needs to be done to "fix" Fannie and Freddie that they cannot do themselves, if only major Wall Street firms were not attacking the stocks of the companies. But given the current situation, the U.S. Treasury should loan the GSEs the cash to either simply boost their stock price or to fully privatize the companies.

-- Jack Krupansky

Chain-store sales continue to hang in there

Chain-store retail sales appear to be hanging in there nicely, possibly due to the lingering effects of the fiscal stimulus. Reuters reports that the Johnson Redbook Reail Sales Index is up +1.1% so far in July over last month, up +2.6% for last week over a year ago, and up +2.7% for this month over a year ago.

We certainly are not out of the woods yet, especially since the effects of the fiscal stimulus could linger for another month or two, but at least the economy is not falling off a cliff as many people are falsely claiming.

-- Jack Krupansky

ECRI Weekly Leading Index indicator falls moderately sharply and remains deep in recession territory

The Weekly Leading Index (WLI) from the Economic Cycle Research Institute (ECRI) fell moderately sharply (-0.81% vs.+0.94% last week) and the six-month smoothed growth rate fell slightly (to -6.4 from -6.3), which is still well below the flat line, suggesting that the economy will be struggling in the months ahead.

According to ECRI, "The slide in the already negative WLI growth to an eight-week low affirms its recessionary standing."

The bottom line is that the ECRI WLI remains "flashing red." Alas, even the ECRI WLI is not a guaranteed, fool-proof economic indicator, especially when the data is mixed and there is a lot of stimulus as well as potential problems in the pipeline.

I will keep my personal assessment at a high level confidence that there is no more than a 65% chance of recession and a moderate level of confidence that there is no more than a 35% chance of recession based on the fact that we are seeing some hints of moderation or at least lack of significant worsening mixed in with all of the gloomy news.

I am somewhat optimistic that the U.S. economy will escape a full-blown recession, but I do have to recognize what the data itself is signaling to me, as well as ECRI's assessment and recession "call."

The bottom line is that the economy remains at "the edge" of a recession, but persists in refusing to overtly "fall" into recession.

-- Jack Krupansky

[Last week] ECRI Weekly Leading Index indicator rises moderately sharply but remains deep in recession territory

[From last week... sorry for the delay!]

The Weekly Leading Index (WLI) from the Economic Cycle Research Institute (ECRI) rose moderately sharply (+0.97% vs. -0.36% last week) and the six-month smoothed growth rate rose slightly (to -6.1 from -6.3), which is still well below the flat line, suggesting that the economy will be struggling in the months ahead.

According to ECRI, "Despite the latest uptick, WLI growth remains deep in negative territory and the economic outlook continues to be recessionary."

The bottom line is that the ECRI WLI remains "flashing red." Alas, even the ECRI WLI is not a guaranteed, fool-proof economic indicator, especially when the data is mixed and there is a lot of stimulus as well as potential problems in the pipeline.

I will keep my personal assessment at a high level confidence that there is no more than a 65% chance of recession and a moderate level of confidence that there is no more than a 35% chance of recession based on the fact that we are seeing some hints of moderation mixed in with all of the gloomy news.

I am somewhat optimistic that the U.S. economy will escape a full-blown recession, but I do have to recognize what the data itself is signaling to me, as well as ECRI's assessment and recession "call."

The bottom line is that the economy remains at "the edge" of a recession, but persists in refusing to overtly "fall" into recession.

-- Jack Krupansky

Out of T-bills, for now

Just over two years ago I started an experiment to buy 1-month (4-week) T-bills directly from the U.S. Treasury via TreasuryDirect and automatically roll them over as they matured every four weeks. Sometimes the yield was really good and sometimes it was really lame. TreasuryDirect does not allow you to place a standing order to roll T-bills, but you can place a repeated order that repeats for some period of time. In my case I chose two years. Well, the two years ended in the first week of June and I neglected to renew the orders, so TreasuryDirect transferred the cash to my bank account and that was that. The yield has been quite lame lately (1.52% this week), so I was happy to shift the money to my Fidelity money market fund that is currently yielding 2.49%.

My financial situation is semi-stable, so I could consider placing a small portion of my cash into a longer-term asset, but it would be too small an amount to be worth my trouble.

I am only working part-time right now, so my net savings rate is rather small and is not strengthening my financial situation at a fast enough pace to consider additional investment options at this time. I still have a very modest dollar-cost averaging investment plan with ShareBuilder, and my cash is compounding, and I do save a tiny bit from each paycheck, but that is about it for me at this time. Of course, even that meager savings rate may put me in the top 30% of Americans, if not higher.

I may (and probably will) consider T-bills or a ladder of T-bills and T-notes in the future, but for now I am out of T-bills.

In truth, T-bills are a bit of a hassle compared to money market funds. Sure, they do have incredible safety, but I am personally not one of those people who spends his days wringing my hands about the coming collapse of the banking system (caused by that evil conspiracy called the Federal Reserve!), so the lame yield of T-bills is a deal-killer for me.

Since my financial situation is only semi-stable, having cash "just a click away" has high "value" to me.

-- Jack Krupansky

Microsoft and AOL?

I read a blog post on Fortune by Michal Lev-Ram entitled "Report: Talks between Microsoft and AOL heat up" that once again has me hoping that Microsoft will finally see the wisdom of spinning off its MSN online "content" business, possibly to be combined with other media "content" operations such as Yahoo and AOL. My ideal transaction would be a standalone company combining the content operations of MSN, Yahoo, and AOL, with Microsoft and others as significant "joint" owners and with the combined content business utilizing Microsoft's online platform infrastructure for data centers, "cloud" computing, Web services, support for mobile devices, and "search." Whether such a combination will ever come to fruition remains to be seen. I am not particularly interested in Microsoft becoming even more of a "content" business by acquiring the "content" operations of either Yahoo or AOL.

Microsoft  should focus on the platform and infrastructure aspects of the Internet. Of course, this is only my own opinion.

-- Jack Krupansky

Industrial production rose 0.5% in June, but still down -0.8% from January peak

Industrial production, one of the five primary economic indicators that the NBER Business Cycle Dating Committee uses to judge recession start and end dates, rose moderately in June (+0.5%) but is still off -0.8% from its peak in January. From an industrial perspective, the U.S. economy does in fact have one foot over the line separating recession from a growing economy. Fortunately, the U.S. economy is now primarily a service economy.

If you were to look at the U.S. economy from the perspective of strictly industrial production, you would conclude that the U.S. was in a mild recession, but the rise in June would also suggest that such a mild recession is not getting worse and may be moderating.

-- Jack Krupansky

SIPC insurance, treasuries, and mutual funds

Harry Newton writes on his In Search of the Perfect Investment web site that:

Brokerage accounts are insured by something called the SIPC.

and:

..., a reader, emailed me yesterday:

Harry Am I correct in figuring if I buy treasury bills in my brokerage account that money is safe (with the bills held in the account) as opposed to brokerage cash held in the brokerage money market?

I replied I didn't know. But I certainly would not make ANY assumptions today about the safety of ANY financial institution. I think the old rule of CHECK, CHECK, CHECK can now be safely modified to SPREAD, SPREAD, SPREAD.

To be clear, SIPC does *not* protect the dollar value of an investment, but simply assures that you can get your paper (stock certificate) back if there is a problem with your brokerage firm. Really, it is only insurance for the paper and the ink written on it, or the electronic equivalent (SIPC will recreate the "bits" of your electronic ownership of a "security" at another broker.)

 

To be crystal clear, SIPC does not protect or "insure" the market value of the covered securities. SIPC protects the number of shares or units (of stocks, bonds, or money market funds), and assures that you get back that number of shares or units, but SIPC makes no guarantees about the net asset value of each share or unit.

 

Also to be clear, your broker or brokerage firm or bank has no say or control over the NAV or market value of a mutual fund or even any say or control as to how a mutual fund is managed.

 

As far as treasuries, they are like any other security and SIPC will protect the number of units of investment (bill, note, bond), but offers *no* protection on the market value of each investment unit. Literally, all SIPC will do is assure that you get your paper (certificate or its electronic equivalent) back, independent of what the market value of that paper might be. The market value of longer-term treasury notes and bonds can fluctuate dramatically if you need to sell before maturity, but T-bills are a very safe store of dollar value as long as you hold them to maturity (4 weeks, 134 weeks, 26 weeks, or 52 weeks). They are inherently safer than a money market funds, but as a result they tend to have a significantly lower yield than the top funds. The most recent 13-week (90-day, 3-month) T-bill auction gave a yield of 1.64%. The 6-month T-bill had a yield of 2.00%.

 

Note: You can buy Treasuries directly from the U.S. Treasury without the need for a broker.
See: http://www.treasurydirect.gov/

 

Personally, I am still quite comfortable keeping my cash in Fidelity money market mutual funds.

 

-- Jack Krupansky

 

Monthly GDP for May rose by 0.1% (1.1% annualized), April revised to a 0.5% gain (5.8% annualized), Q2 tracking for a 2.9% annualized gain

Monthly real GDP, one of the five primary economic indicators that the NBER Business Cycle Dating Committee uses to judge recession start and end dates, rose very modestly in May (+0.1% or +1.1% annualized) and was revised up from no change to a 0.5% gain (+5.8% annualized) for April, according to Macroeconomic Advisers (MA). The government does not publish GDP data at a monthly level, but the NBER BCDC says that they refer to sources such as Macroeconomic Advisers (MA) and their MGDP data series. As as Macroeconomic Advisers put the report for March:

Monthly GDP rose 0.1% in May following a 0.5% increase in April.  The April increase was revised from roughly no change as initially reported.  The small increase in monthly GDP in May reflected increases in net exports and domestic final sales that were nearly offset by a sharp decline in inventory investment and a small (assumed) decline in the portion of monthly GDP not covered by the monthly source data.  The level of monthly GDP in May was 2.3% above the first-quarter average at an annual rate.  Our latest tracking estimate of 2.9% growth of GDP in the second quarter assumes a 0.6% increase in monthly GDP in June.

Real GDP is now once again at an all-time high. It had peaked in January and then fell sharply in February, but has risen for three consecutive months to establish a new peak.

If you are looking for evidence of a recession, it is not there in the GDP data. Although I do agree with "Dr. Phil" Gramm that we are in a "mental recession."

If the NBER BCDC is the definitive expert on marking of recessions, MA is the definitive expert on measuring real GDP at the monthly level with their MGDP data series.

-- Jack Krupansky

Angst and anxiety at IndyMac Bank

I'm sure you've seen the pictures and horror story of people lined up outside IndyMac Bank in California, such as the story in the LA Times by Andrea Chang and Andrew Blankstein entitled "Police show up at IndyMac Branches in Encino, Northridge as waiting customers clash", but the truth is that none of that was necessary. It is misleading to refer to the lines as a "run" on the bank. Unlike the 1920's, there are specific rules and procedures in place, such that being in front of somebody else in a line outside the building does not give you any better chance of getting "your" money than the last person in line or even relative to people who never stand in line.

The most important "modernization" is that assets and accounts at "failed" banks will have already been moved to a new bank by the time there is any public notice that the bank has failed. Those people may be standing in line outside of their "old" bank", but it fact, organizationally, it is a "new" bank. The old bank did in fact "fail", but the accounts and assets are no longer part of that old bank from a financial or organizational perspective.

The "old" bank was "IndyMac Bank, F.S.B." The "new" bank is "IndyMac Federal Bank, F.S.B." To be clear, people were lined up outside "IndyMac Federal Bank" on Monday, not "IndyMac Bank", although the sign may still have said "IndyMac Bank." Minor ding on the FDIC for not putting up a banner and saying "Under new Owner and Management."

The key point to keep in mind is that although the old bank "failed", the successor bank is by definition in very sound condition. Your accounts under the FDIC insurance limits (typically $100K) are now there at the new bank at 100% of their value. Sure, your FDIC-excess accounts will have taken a haircut as part of the failure, but there is no additional haircut or risk by leaving your funds in the new bank.

In fact, your assets may be safer at the new IndyMac Bank than some other existing bank down the street whose financial condition your are unable to determine. No sense jumping out of the frying pan and into the fire.

As far as people anxious to get answers to questions, most of that information is already up on the bank and FDIC web sites, and was all weekend.

For FDIC-excess accounts, the FDIC has already published the fact that they have declared a 50% "advance" dividend, payable within 30 days, for the amounts in deposit accounts above the FDIC limits. This is before the FDIC sells off assets and distributes the proceeds, so depositors could get more that 50% for their FDIC-excess. The distribution of those proceeds is not based on where people were standing in line or whether you were in line at all.

So, when the article above tells us:

Worried customers with deposits in excess of insured limits flooded IndyMac Bank branches on Monday, demanding to withdraw as much money as they could or get answers about the fate of their funds.

It is not telling us or the customers of the bank the simple, obvious, known facts, such as the fact that the old bank was already completely "gone" come Monday morning, so there was absolutely no benefit to "running" to/at the bank in such a rush.

As far as the article telling us about one depositor:

Real estate appraiser Don Hinoj, 48, of Sherman Oaks, was vacationing with his wife in Salt Lake City when he heard about the takeover. The couple drove all day Monday to return to Southern California to check on their money.

"I don't know if I'll get in there today," Hinoj said outside the Encino branch. He said he had one money market account and two certificate of deposits at the bank. All told, they contained "over half a million dollars, money I worked all my life for," he said.

It would have been fairly easy for him to calculate how much of the half-million is 100% covered and how much is 50% covered. But at a minimum, he should know that $300,000 is "safe", and possibly even more. In fact, if he and his wife each had $100,000 and each had a $250,000 IRA, it could turn out that 100% of his money is protected, but that would be a best case.

Next, the article tells us:

Hinoj said he came to the branch Wednesday before leaving on his trip and was told by the manager that his money was safe.

"I regret that. Had I known that was going to happen, I would have taken my money out," he said. "My business is slow on top of everything else. . . . I'm missing work today and I'm going to miss work until I resolve this issue."

Ouch. Now, there are three questions: 1) did the manager know that the money was not 100% safe?, 2) even if the manager did know that the bank was about to fail, would he have the right or obligation to say so to the customer? and 3) since the manager did say that the money was safe, does that in some way leave managers and executives at the bank on the hook for any deliberate and malicious misrepresentation of the safety of the bank to customers? A separate question is whether the manager knew that the customer had FDIC-excess and failed to fully and properly disclose to the customer that not all of the money was FDIC-insured?

The media (not to mention my local U.S. Senator Chuck Schumer) helped to incite this panic by not giving people enough honest, obvious information in advance and during and after the failure of this bank. Personally, I knew that IndyMac Bank was shaky for over a year now (plenty of mentions in the financial media), but it was Shumer's outright and uncounscionable incitement of a run that precipitated the failure this past week. If not for Schumer jumping the gun and scaring people, more people would have more gradually withdrawn assets and fewer people would have had to take the 50% haircut.

Now, the real problem, one that Schumer, et al have refused to address is to get the FDIC limit bumped up to an even $1 million. That would cover the vast majority of middle-class Americans and small business owners would do in fact keep their money in their local bank rather than the offshore "havens" and schemes favored by the truly "wealthy."

So, if anything about the IndyMac Bank fiasco bothers you at all, please write a letter to your own congressional representatives as well as Chuck Schumer urging them to urge Chuck to work on getting the FDIC limit raised to $1 million rather than him scheming to find a next bank to incite a run on.

-- Jack Krupansky

Latest on Microsoft and Yahoo combination potential

An announcement on the Microsoft PressPass web site confirms that Microsoft is indeed open to the possibility of buying all of Yahoo or just "search", but only when and if a new board of directors is elected:

We confirm, however, that after the shareholder election Microsoft would be interested in discussing with a new board a major transaction with Yahoo!, such as either a transaction to purchase the "Search" function with large financial guarantees or, in the alternative, purchasing the whole company.

Personally, and as a Microsoft shareholder, I would rather see Microsoft pick up some pieces of Yahoo, especially "search", and then have the remains of Yahoo be combined with other media entities. In fact, my real preference would be for Microsoft to spin off MSN and have MSN merge with the Yahoo content business, with Microsoft as an investor in that business. This would allow Microsoft to re-focus on the platform aspects of the Internet. Of course, this is only my own opinion.

-- Jack Krupansky

ECRI Weekly Leading Index indicator falls modestly and remains deep in recession territory

The Weekly Leading Index (WLI) from the Economic Cycle Research Institute (ECRI) fell modestly (-0.34% vs. -0.70% last week) and the six-month smoothed growth rate fell modestly (to -6.3 from -6.0), which is well below the flat line, suggesting that the economy will be struggling in the months ahead.

According to ECRI, "The decline in WLI growth to a 23-week low underscores the reality that recession is the immediate problem at hand."

The bottom line is that the ECRI WLI remains "flashing red." Alas, even the ECRI WLI is not a guaranteed, fool-proof economic indicator, especially when the data is mixed and there is a lot of stimulus as well as potential problems in the pipeline.

I will keep my personal assessment at a high level confidence that there is no more than a 65% chance of recession and a moderate level of confidence that there is no more than a 35% chance of recession based on the fact that we are seeing some hints of moderation mixed in with all of the gloomy news.

I am somewhat optimistic that the U.S. economy will escape a full-blown recession, but I do have to recognize what the data itself is signaling to me, as well as ECRI's assessment and recession "call."

The bottom line is that the economy remains at "the edge" of a recession, but persists in refusing to overtly "fall" into recession.

-- Jack Krupansky