Friday, October 2, 2009

Elementary, its' a slowly deflatin', mean revertin', jobless prosperin', imaginary recovery Mr. Watson

Rosie via ZH

The Household Survey showed a massive 785,000 plunge in September which again was sequential deterioration because the decline the month before was 392,000.

Household survey actually leads the labour market at true turning points in the business cycle – and employment on this score has now slid by 1.2 million in the past two months.

The last time we came off such a two-month falloff in Household employment was back in March 2007 when the stock market was testing fresh 12-year highs.

There can be no durable recovery without net job creation and organic wage growth.

Both were lacking in today’s report – in fact, the combination of the workweek edging back down to retest the all-time low of 33.0 hours and the near-stagnation in hourly wages dragged the proxy for personal income down 0.2% (reads: in nominal terms) and the year-over-year trend is getting perilously close to deflation terrain at +0.7% from +0.8% in August and +1.2% in July.

The labour force contracted by 571,000 and has plunged now by 1.1 million since May. That again is a sign of the labour market seizing up – which is very disturbing when you consider all the government efforts to stem the tide last quarter from housing subsidies to cash-for-clunkers to mortgage modifications. Full-time employment collapsed 814,000 – and it is these jobs that ultimately drive confidence, income and spending. The number of permanent job losses jumped over 400,000 or by 5% last month as well.

If the labour force participation rate had not declined to 65.2% from 65.5%, the unemployment rate would have actually jumped to 10.3%.

The average duration of unemployment rose to 26.2 month from 24.9 months in August; the median spiked to 17.3 months from 15.4. It is so difficult now to find a job that a record 36% of the ranks of the unemployed have been searching with futility now for at least six months.

The U-6 measure of the unemployment rate, which the most inclusive definition of the labour force and takes into account the fact that we have a record 9 million people working part-time because they have been pushed off full-time payrolls, hit a new high of 17% in September from 16.8% in August. The gap between this rate and the ‘official’ rate of 9.8% is at a record of 7 percentage points. The historical norm is closer to 4 percentage points and so the concept of mean reversion – Bob Farrell’s first market rule to remember – suggests that the unemployment rate is going to be setting new highs for the post-WWII era before too long (the prior high was 10.8% in Nov-Dec 1982), so the chances that we see a 13% peak unemployment rate this cycle is far from a ludicrous proposition at this point. And just in time for the mid-term elections.

For Q3, aggregate hours worked actually contracted at a 3% annual rate so basically, what is keeping the economy afloat, is continued strong productivity gains. But productivity growth alone cannot possibly lead the economy into a sustainable recovery – labour input at some point is going to have to kick in.

Does anybody consider just how critical it is to have had the long bond yield slice below 4% to 3.95%? The yield curve is flattening big time and since mid-September the long bond has rallied more than 30 basis points.

That is amazing and it means that the bond market crowd smells a rat somewhere – as it did when it rallied like this as the stock market was making new highs in the summer of 2007. As an aside, the last time the long bond yield was at 3.95% was in late April … when the S&P 500 was sitting at 855.

We should add that real interest rates – the bond market’s proxy for real growth -- as measured by the yield on 10-year TIPS is all the way back to 1.5% after hitting a peak of just over 2% in early July and again, the last time it was where it is today, the S&P 500 was 20% lower than it is today.

We also wonder aloud how it could be that all the economists, from academia to government to the financial sector, are all so convinced that the recession is over at a time when state tax revenues are down a record 17%

This is one consensus call that in the end may be dubbed ‘The Great Embarrassment’.

Welcome to the latest new paradigm – jobless prosperity. And whether you look at operating or reported earnings, trailing or forward, the S&P 500 today is trading at multiples that are higher than they were at the market peak in October 2007. So we’re not talking about pricing the market with ‘mid-cycle’ multiples – it is trading at ‘late-cycle’ multiples.

The recovery is missing two limbs -- as was the case with the aborted post-recession turnaround in 2002. While industrial production and real sales activity appears to have carved out bottoms, it is quite apparent that the other two ingredients in the recession call -- employment and real "organic" personal income have not.

Indeed, it pays to note that real personal income excluding government transfers fell 0.3% in August to a new cycle low. As we saw in 2002, there is no V-shaped recovery that occurs without incomes rising (and a 26x trailing and 16x forward P/E ratio is discounting something that's pretty good).

Now, nominal consumer spending did rise 1.3% in August and real (inflation adjusted) expenditures rose 0.9% -- thanks to the cash-for-clunkers program which incentivizes consumers to fund their outlays by dragging their savings rate down to 3% from 4%.

This is Uncle Sam at his best trying to play around with Mother Nature -- because the natural course of events will keep the savings rate on a discernible uptrend, especially when one deploys a demographic overlay to the analysis.

The government can step in sporadically as it just did, but it can't reverse the trend -- only briefly disrupt it. When we do the calculation, if households had not run down their savings flow by 120 billion dollars as they did in August as they were lured into the auto market, we have news for you -nominal consumer spending would have barely eked out a 0.1% advance and in real terms we would have seen a 0.2% contraction.

Now put that in your pipe and smoke it!

(And pour me a glass Mr. Watson. -AM)

Finally, it looks like auto sales did beat the most feared estimates out there, but at 9.2 million (annualized) units in September, that represents a 35% slide from 14.2 million August (and 19% below July’s level). THIS IS TIED FOR THE SECOND WORST MONTH FOR AUTO SALES IN THE PAST 28 YEARS! At least we know what the U.S. consumer really looks like when it is off the medication administered by the administration.

How are we sure that the ISM has very likely peaked (as auto production crests – it does indeed now look as though motor vehicle production, which had been the primary factor boosting output and the manufacturing surveys, has now been totally realigned with sales)? Well, because the best leading indicator for the index lies in two of the components -- orders which dropped to 60.8 from 64.9, and inventories which rose to 42.5 from 34.4. In other words, the orders/inventory ration tumbled to 1.43 from 1.89 in August.

Folks, that is the largest one-month decline in the ISM orders/inventory ratio since December 1980! The ISM was 53 that month – the next month it went to 49.2 (is that in the market?) and seven months later, we were in the early stages of the famed double-dip recession (which nobody saw coming at the time). Food for thought.

As for inflation, prices-paid dipped in September to 63.5 from 66 on the same day we see a +0.1% print on the August core PCE deflator, which took the YoY trend down yet again from 1.4% to 1.3% -- the lowest it has been in eight years.

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