Tuesday, July 09, 2013 - What's It All About?

What's It All About?

by Sinclair Noe

DOW + 75 = 15,300
SPX + 11 = 1652
NAS + 19 = 3504

10 YR YLD -.01 = 2.63%
OIL + 1.38 = 104.52
GOLD + 13.40 = 1251.70
SILV + .18 = 19.36

It's earnings reporting season. The stock market is feeling happy for the moment. Second quarter earnings are expected to be soft, but expectations have been ratcheted down, so there is potential for upside surprises. That's the game that's played on Wall Street to siphon a little bit of trading profit. Anywhere else, they'd call it price fixing.

But this game of diminished expectations may have some basis in reality. The top line numbers more than likely suck. Analysts expect the 30 companies in the Dow Industrial Average to see revenue growth of just 0.7%; that number could be ratcheted down into negative territory; that follows a 0.6% drop in revenue in the first quarter.

What do you call it when there are two consecutive quarters of economic contraction? Recession. That's a bit of a non sequitur, but the logical conclusion is not too far removed from the premise. After all, we're talking about 30 of the biggest, most powerful companies in the world and they are struggling to grow sales. They're still reporting profits, but that comes from cost cutting, which tends to fall on the labor force. There are limits to cost cutting as a business strategy for growing profits.

No worries. The S&P 500 closed above 1650 and looks poised to make a run at those record highs of May; remember the days of milk and cookies, before Bernanke started talking about taper. Well tomorrow the minutes of last month's FOMC meeting will be released, and we'll see if they're still talking taper, and we'll see if the markets can remain exuberant if the Fed is still talking taper.

Of course the Fed looks at more than just the headline unemployment rate, even if they have set a target of 6.5% based upon that rate. They also look at broader views of the labor markets. After all, the Fed will make its decision based on the outlook for labor markets, not what happened a month ago. One such report, know as “Jolts” looks at job openings and labor turnover. In May, businesses posted more job openings and gross hiring also picked up. But the rates remain well below those seen before the most recent recession.

May also saw a small increase in job separations. A sizeable part of the gain in separations came from people quitting their jobs. That’s a positive for the labor market outlook since workers tend to give notice only when they are confident they will quickly land another job.

Before you think that is overly optimistic, the Conference Board employment trend index, a compilation of job indicators designed to foreshadow changes in nonfarm payrolls, edged up a mere 0.05% in June. Its growth rate for the second quarter moderated. The report said that suggests “acceleration in the employment growth is unlikely in the near future.”

Part of the problem is that for every job opening, there are 3 people looking for a job, and since people aren't really leaving their current jobs, because of the tight labor market, that means people aren't moving up; they aren't leaving a job for a better job. The ratio of unemployed workers to job openings is the highest in the 13 years the BLS has been collecting the data. Not coincidentally, most of the industries with the highest numbers of job openings in May, according to the JOLTS data, were lower-paying sectors, including health-care services, retail sales and restaurants.

Another consideration in the jobs market is that one of the most consequential effects of the sequester began just this week: weekly unpaid furlough days for more than 650,000 civilian workers at the Defense Department, who will effectively see their pay cut by 20 percent for the  final 11 weeks of this budget year. A little back-of-napkin math shows 20% of 650,000 jobs is kind of like losing 130,000 jobs.

All the commissaries at domestic military installations will be closed every Monday through the end of September. (Most agencies within the department have decided to salve the economic sting a tiny bit by setting the furloughs on Mondays and Fridays, so that workers might at least enjoy a series of long weekends.)

But the visuals of closed cafeterias, equipment maintenance sheds, supply warehouses, payroll offices and the like will have absolutely no effect on the pace of congressional effort toward untangling the budget morass. Whatever work is taking place on that score is totally out of view. And none of the congressional leadership is suggesting this will change before Congress returns from its August recess a full week after Labor Day, when there will be 23 days left before this fiscal year gives way to the next.

Some agreement on spending will need to get done by then to forestall a partial government shutdown, which is in neither party’s political interest to permit. Odds are that the first month or so, at a minimum, will be covered by a temporary patch in the form of a continuing resolution that keeps agencies spending at their across-the-board budget cut levels.

But any longer-term agreement already seems destined to be delayed until the end of the year, by which time the debt ceiling will also be nearing. And if they can't find agreement, then the budget would require layoffs – probably a mix of civilian, active-duty military, National Guard and Reserves.

As expected, the IMF cut its forecast for world economic growth for the third time this year. The IMF now expects global output to expand by 3.1%, down from 3.3% forecast in April, and down from 3.5% forecast growth back in January. The revision means the global economy will have failed to pick up pace over the past two years, although the IMF expects a slight acceleration in growth in 2014 to 3.8%, subject to revisions, of course.

The IMF said: "While old risks remain, new risks have emerged, including the possibility of a longer growth slowdown in emerging market economies." They pointed to the slowdown in China which is also affecting emerging markets such as Brazil and South Africa; also, the ongoing slowdown in the Euro-zone. One country that is expected to show growth – Japan, which should see growth of 2%, up from earlier forecasts of 1.6%, due to the success of Abenomics.

The FDIC, the Federal Reserve and the Office of the Comptroller of the Currency are proposing raising the leverage ratios on the largest US banks to 5% from the 3% agreed upon by international regulators as part of Basel III. The insured bank subsidiaries of those firms would be subject to a 6% leverage ratio to be considered well-capitalized. That basically means the banks would have to hold a little more in the way of reserves.

While the proposed changes would not take effect until 2018 if finalized, the rules as proposed represent the latest attempt by regulators to address lingering concerns that certain large, complex banks remain too big to fail. Of course, that still leaves a 5 year window, and considering the extreme leverage, it is doubtful that a 5% cushion could save us from a bank crash, but it's a start I suppose.

FDIC staff said market perceptions that certain banks would be protected by the government poses a threat to the financial system, allowing these firms to obtain cheaper funding and eliminating checks on excessive risk taking by the banks. The banks don't want to be forced to hold more reserves, even if it would mean they are a bit safer. And the reality is that it would not make them much safer. If we really have concerns about too big to fail, we could start by regulating derivatives trading and reinstating Glass-Steagall.

Yesterday, Fortune released its list of the world's 500 largest corporations, ranking them by revenue for the fiscal year ended on or before March 31. In total, the 500 largest global corporations reported $30.3 trillion in 2012 revenue, nearly a 3 percent increase from the year before, with profits of $1.5 trillion. There are 132 US companies on the Global 500 list; China had the second most with 89 companies. Seven of the top ten companies by revenue were in the energy business. Royal Dutch Shell topped the revenue list with $481 billion, followed by Walmart with $469 billion and Exxon Mobil with revenue of $449 billion. Exxon Mobil was the most profitable at $44.9 billion, followed by Apple at $41.7 billion.

Oil closed at $104.52. Fill up the gas tank now.

Thousands of people gathered in Prescott Arizona today to honor the 19 members of the Granite Mountain Hotshot squad who died fighting the Yarnell fire. Vice president Biden lead a list of dignitaries on hand. Biden referred to an old saying: “All men are created equal - then a few became firefighters.”

Over the years I've raised a question from time to time on this program: “What's the economy for?” Why do we get up each day and do the work we do? What is the purpose of our labors? Well, for the Yarnell 19 their mission was to save lives and protect property, and their jobs weren't jobs, but a duty to their fellow citizens. Sometimes I wonder about the purpose of our labors, but I'm quite certain the Yarnell 19 had figured out the right answer.