Weekly Dent Digest
The U.S. Economy Created 151,000 Jobs in August. The number fell shy of the consensus estimate of 180,000 hires. Unemployment remained steady at 4.9%, and the labor force participation rate held at 62.8%.
What it means - The number isn’t strong enough to guarantee a Fed hike in a couple of weeks, and it’s not weak enough to push the rate hike to December. So we’re still in limbo. Equities and bonds should go sideways on the news next week as we wait for decisions from other central banks. The birth/death adjustment, where the Bureau of Labor Statistics guesses at gains made by small businesses, added 106,000 jobs this month. Why don’t they just “guess” at one million jobs and be done with it?
S&P/Case-Shiller 20-City Home Price Index Down 0.1% in June, Up 5.1% Over Same Period Last Year. The index dipped for the third month in a row, with prices falling in nine out of 20 cities.
What it means – This report confirms the pricing information we got last week on new and existing home sales. But the results weren’t uniform across the country. Prices remained strong in the Pacific Northwest, but fell in Chicago and the Northeast. Still, it appears that the long, positive run in real estate prices from the bottom in 2012 is fading. Sellers that want to get out should strongly consider moving to the exit.
China Issues $700 Million of Bonds Denominated in IMF Strategic Drawing Rights (SDRs) Through the International Bank for Reconstruction and Development. Even though the bonds are denominated in SDRs, they must be paid for, and redeemed, in renminbi.
What it means – All over America, people who have been screaming about the demise of the U.S. dollar are waving this bond issue as proof. Clearly SDRs will become the new world reserve currency, and clearly, the greenback is on the way out. Not so fast. This bond issue has more to do with the problem in China than any concern over the dollar. The Chinese yuan has been on shaky ground since the government devalued last year. With their weak economy, the currency is under pressure. Capital has fled the country. This bond issue allows the Chinese government to give its domestic population exposure to foreign currencies without moving their funds overseas, since the SDR is comprised of dollars, yen, euros, pounds, and will soon include yuan.
So when someone points out this Chinese bond issue in SDRs, remind them that the only place it was sold was on the mainland, which means the Chinese were exchanging their yuan for a chance to hold bonds represented by other currencies. That’s hardly a knock on the buck.
Japanese Household Spending and Industrial Production Both Down 0.5% for the Year. Government and central bank policies aiming to turn the economy around have failed.
What it means – The Japanese government and Bank of Japan (BoJ) have their work cut out for them. The economy can’t grow because consumers refuse to spend with abandon and businesses won’t invest in the face of slow demand. The only thing saving Japan from collapse is its export machine. The country still brings in massive amounts of foreign capital. These central bank programs of printing money to buy bonds and stocks can’t last forever. Eventually the BoJ will own all the government bonds possible, and control many companies. What then? No one knows, which is the scary part.
Germany’s Largest Safe Manufacturer Posted a 25% Gain in Sales of Home Safes in the First Half of 2016. Burg-Wäechter KG reported much higher demand for home safes by consumers.
What it means – There’s a confluence of events that makes this perfectly reasonable. German banks are finally giving in by passing on some of the negative interest rates imposed by the ECB to depositors. Now it costs money for some ordinary citizens to keep cash at their bank. At the same time, the ECB announced it will phase out the 500-euro bill, making it more difficult to keep large amounts of currency in a small stack of bills. If you have more physical money in the house to avoid pesky negative rates, you need a place to store it. This story echoes a similar theme in Japan earlier this year, where citizens also bought many safes as the government imposed negative interest rates.
Unfortunately for central bankers, the decision to withdraw cash is contrary to their economic theory. Instead of withdrawing their funds, those pesky savers were supposed to rush to spend what they’d accumulated. Forget planning for the future. We’re supposed to leave that to our enlightened policymakers. As for using the bills, Germans complete roughly 80% of retail transactions in cash, almost twice the 46% rate in the U.S. Apparently anonymity is a big deal in Deutschland.
Ford Announced 72-Month, No-Interest Financing Across All Products. The automaker included its popular truck and SUV models in the promotion.
What it means – Six years is a long time for a car loan. This program is only available through Ford Motor Credit, and comes with significant risks for the company. Cars depreciate fairly quickly in the first four years, which would leave most owners under water for most of the repayment period. Now that the default rate on sub-prime auto loans has climbed above 12%, it’s possible that a good chunk of these long-term, no-interest loans could default.
Another risk is the interest rate environment. I don’t see rates moving up too much in the next year or two, but after 2018, the situation could change. As rates move up, the value of these loans declines. Since the earliest these loans could end is 2022, there’s a lot of time for their value to fall.
Deutsche Bank Estimates that 92% of Stock Market Gain Since 2012 is Due to Equity Risk Premium Compression. Bank analysts contributed gains to three components — earnings growth, P/E ratio changes, and the equity risk premium over bonds.
What it means – This is a bit of a wonky analysis, but the upshot is that with interest rates in the basement, stock buyers are willing to overlook a lot of risk to earn returns.
With P/Es up slightly since 2012, and earnings actually down 9% over that timeframe, the risk premium equity buyers used to demand for owning stocks has virtually disappeared. And we have central bankers to thank. They’ve used interest rates as a (ineffective) tool for steering the economies of the world, and have only succeeded in driving investors into the minefield of equities because they can’t achieve their financial goals with bonds. Thanks for nothing.
Deutsche Bank goes on to point out that this means central banks are responsible for roughly 40% of current equity market levels. If the equity risk premium corrects to its long-term trend average, the S&P could drop 700 points.