Words from the wise for the week that was (August 18 to 24, 2007)
I hope you find browsing the paragraphs as stimulating as I do in attempting to figure out the most likely direction of financial markets.
The panic of 2007
“The significance of today’s cut of the discount rate, and the willingness to look at up to 30 days of loans and high-quality asset-backed paper, is not the actual cut but more the boost to confidence. It is the Fed saying to the market, ‘Daddy’s home. Everything is going to be all right.’
“As an answer to my opening question, I think we are in for a return of the muddle through economy rather than the end of the world. Credit markets will get back to normal, as there is a lot of money that needs to find a home. It is just looking for a credible home and one that will feature higher risk premiums and spreads.”
John Mauldin, Thoughts from the Frontline, August 17, 2007.
Russell on the Fed
“The housing situation will be a problem for the government, not the Fed, to solve. My guess is that the government will step in with new guarantees or a revival of something like the FHA (Federal Housing Administration). And you can bet that Bennie and the Feds will fight any signs of recession ‘tooth and nail’.”
Source: Richard Russell, Dow Theory Letters, August 24, 2007.
US presidential election
Source: Eoin Treacy, Fullermoney, August 24, 2007.
Will financial market turmoil bring down the US economy?
Source: BCA Research, August 21, 2007.
A toolbox of useful indicators to gauge recession risk
“1) The ‘credit spread’ between corporate securities and default-free Treasury securities becomes wider than it was 6 months earlier.
“2) The ‘maturity spread’ between long-term and short-term interest rates falls to less than 2.5%, as measured by the difference between the 10-year Treasury bond yield and the 3-month Treasury bill yield.
“3) The stock market falls below where it was 6 months earlier, as measured by the S&P 500 Index.
“4) The ISM Purchasing Managers Index declines below 50, indicating a contraction in manufacturing activity.
“Presently, all of these conditions are in place except the fourth.
“The following are some additional early warning indicators of an oncoming recession:
“A sudden widening in the ‘consumer confidence spread’, with the ‘future expectations’ index falling more sharply than the ‘present situation’ index (currently in place). In general, a drop in consumer confidence by more than 20 points below its 12-month average has accompanied the beginning of recessions (not observed yet);
“Low or negative real interest rates, measured by the difference between the 3-month Treasury bill yield and the year-over-year rate of CPI inflation. Last week, T-bill yields plunged to about the same level as CPI inflation, so this indicator is now unfavorable;
“Falling factory capacity utilization from above 80% to below 80% has generally accompanied the beginning of recessions. This is not yet in place.
“Slowing growth in employment and hours worked. The unemployment rate itself rarely turns higher until well into recessions (and rarely turns down until well into economic recoveries). So while the unemployment rate is an indicator of past economic health, it should not be used as an indicator of oncoming economic changes. As for employment-related data, slowing growth in employment and hours worked tend to accompany the beginning of recessions. Specifically, when non-farm payrolls have grown by less than 1% over a 12-month period, or less than 0.5% over a 6 month period, the economy has always been at the start of a recession. Similarly, the beginning of a recession is generally marked by a quarterly decline in aggregate hours worked. All of these indicators are slowing considerably, but they have not crossed to levels typically associated with imminent recession.
“In short, the risk of recession is increasing, but we do not yet have the evidence to indicate that a recession is imminent or inevitable. Important data to monitor in the next few months will be the ISM figures, consumer confidence (especially a sharp drop), employment, hours worked, and capacity utilization.”
How strong is central bank epoxy?
Rick Ackerman quoted by Bill Bonner, The Daily Reckoning, August 24, 2007.
“More than 1.3 million borrowers took out over $389 billion worth of pay-option adjustable mortgages in 2004 and 2005. Many of these started to reset in 2006, just as the property market started to tank. Many more are set to reset this year, in 2007.
“As much, in fact, as $1 trillion in pay-option loans and other creative ARMs over the next 12 months alone – sending an atomic shockwave across the US economy between now and January 2008!”
Mish Shedlock quoted by Bill Bonner, The Daily Reckoning, August 24, 2007.
A Swiss view of the credit crisis
“The aim of central banks should not be to eliminate volatility.”
Source: Jean-Pierre Roth, Governor, Swiss National Bank, August 19, 2007.
Impact of interest rate cuts on Wall Street
Source: Standard & Poor’s, August 24, 2007
The gathering storm
“Lower US rates on the back of America’s weakening domestic economy will re-kindle a dollar slide in due course. So the current lull may offer only a brief window, in which fewer, stronger dollars buy more gold than they soon will.”
Source: Paul Tustain, BullionVault, August 24, 2007.
Russell on gold bullion
Source: Richard Russell, Dow Theory Letters, August 23 2007.
Credit crunch won’t reduce commodity demand
“However while BHP Billiton’s customers are in the emerging world, the people who buy and sell their shares are mostly in the West and are influenced by other market events. This means that miners will continue to be subject to sell-offs when contagion selling in other areas affects the resources sector, but these should be viewed as buying opportunities because their long-term potential is outstanding.”
Source: Eoin Treacy, Fullermoney, August 22, 2007.
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