Why is Everyone So Bearish on Credit Markets, Economy?
"Jobs data support Bernanke's optimism" read the headline from this weekend Financial Times. The article was referring to the Fed chief's hope of a "soft landing" for the U.S. economy as the job creation report recently showed employers added 132,000 new jobs to their payrolls despite a housing and auto sector slowdown.
Based on the money supply and credit creation data we've talked about in recent newsletters, the economy has already landed and should see a gradual upturn over the next several months. Based on this assessment, the incessant talk among analysts of a "hard landing" versus "soft landing" is moot.
What's really interesting is how investor pessimism refuses to recede despite a relentless rise in the benchmark stock indices over the past five months. In Friday's report we mentioned that latest AAII investor sentiment poll showed continued erosion in bullish sentiment with only 39% of respondents claiming to be bullish on the stock market while the percentage of bearish investors rose to almost 42%. Since the bears are now higher than the bulls it should lead to further improvement in the market's "Wall of Worry" and help keep the overall uptrend intact per last week's discussions. Meanwhile, the total put/call ratio is still very bullish from a contrarian psychology standpoint as it reflects that most options traders are still quite pessimistic on the market's upside prospects.
While we're on the subject of the Fed, let's examine the latest bank credit and money supply trends. As you should know, this is the single most important time of the year from a retail standpoint for a highly liquid money and credit supply. The holiday shopping season will make or break most big retailers and quite a few smaller ones for that matter. Last month I predicted that December would see healthy, vibrant consumer spending patterns and that in turn will be the springboard for the economic recovery I expect to be apparent for all to see in 2007. According to reports, "Black Monday" (the first Monday after Thanksgiving when Americans are expected to do heavy Internet shopping for Christmas) broke the previous record for Internet sales with a spending total $608 million. That's obviously a good preliminary sign of improving credit/money supply and consumer spending patterns.
When analyzing the U.S. economy it really comes down to this: one must always assume that Americans are constantly willing to spend money on consumer discretionary goods, and the only reason they don't always do so is because money supply/credit levels are too low. Period. That's really all you need to know about analyzing U.S. consumer spending habits. The American consumer is an extremely unique creature and unlike consumers of many other countries his first priority is to spend rather than to save. Consumer spending only takes a dive when the Fed severely restricts money supply and bank credit isn't readily available.
I've heard some economic analysts (mostly of the bearish persuasion) argue that the day will soon come when lowered interest rates and an increase in money supply and credit won't have the desired effect of encouraging the U.S. consumer to go out and spend and rack up debt (a la' Japan). Nonsense! Holding out easy money before the U.S. consumer is like holding out a T-bone steak before a hungry dog: the dog will instinctively go for it every single time.
The latest bank credit numbers, courtesy of the St. Louis Fed, look like this:
Oct. 25: 8138
Nov. 1: 8185
Nov. 8: 8174
Nov. 15: 8167
Nov. 22: 8191
Nov. 29: 8233
The above trend is much better than earlier this summer when the bank credit trend was actually going lower on a rate of change basis. The year-to-date bank credit chart (shown in the next MSR update this weekend) shows a nice upward trend. That contrasts with the stalled-out bank credit trend heading into December 2003 (which predicted the micro-recession and mini-bear market of the first half of 2004). It also contrasts with the stalled out bank credit trend of late 2000 and the anemic bank credit trend of the first half of 2001 (which helped produce the recession and bear market of that same year). The lesson to be learned from this cursory examination of bank credit trends is that the U.S. economy is *not* on the verge of major recession as the bearish analysts claim. And the stock market can only benefit from these healthy levels of bank credit in the weeks and months ahead.
Meanwhile, the trend of M2 money supply is even more impressive from a trend standpoint as the growth n M2 has been impressive in the past few weeks. Even from a percentage change standpoint the M2 chart looks good. Here are the latest M2 figures as reported by the St. Louis Fed:
Oct. 30: 7079
Nov. 6: 7106
Nov. 13: 7081
Nov. 20: 7108
Nov. 27: 7134
The M2 money supply trend is bullish and strongly suggests that money will continue flowing into the U.S. stock market in the coming weeks and months. A rising M2 trend is especially encouraging from a financial standpoint since it encourages investing in growth stocks, which should always be the main underpinning of a healthy bull market.
Speaking of credit, the investment bank of Dresdner Kleinwort made a rather gloomy assessment of the world credit outlook in its 2007 Credit Outlook report, claiming credit markets have turned and that company defaults are about to rise and the "'oasis of calm' among investors is to become a distant memory," according a summary of the report in the Financial Times of Dec. 7. The bank stated, "The credit markets are priced for perfection, but we do not think the world is perfect at all. A consumer-led slowdown in the U.S. will likely impact earnings growth, defaults and risk appetite."
This weekend the Financial Times reported another bearish story on the credit markets this weekend, noting that the banking group HSBC has joined Dresdner Kleinwort and Morgan Stanley in its assessment that the corporate credit cycle could turn down imminently. According to FT, the banking group "indicated that it had a reduced and selective appetite for corporate credit amid signs of froth in the market."
Right on top of this bearish article in the FT was another article with the headline, "Investors fear losses from risky debt instruments." Why is the financial press going out of its way to warn investors of a possible credit downturn? This question is especially cogent in view of the fact that the mainstream press has a decidedly bad track record at predicting turns in the financial markets.
Well it doesn't get any clearer than that from a contrarian standpoint! Indeed, the fact that Dresdner, Morgan Stanley and others have turned bearish on the credit outlook further underscores the upside potential of not only the credit markets (a leading indicator) but also of the U.S. stock market consumer economy in general. It's always good news when the investment banks and leading financial institutions openly announce a bearish outlook on the markets!