Title: I’m Mad As Hell: Conclusion

Morris Segall      economic, economy, government, investment, NASDQ, recession, recovery, stocks

In a recent article published March 23 for SPGTrend.com subscribers, we examined the social and political toll of the current recession and their longer term impacts on the U.S and overseas economies.  Over the course of several blog posts, we will take you through the content of this piece and put what we’re going through into context.

In part one, we outlined an introduction for this series.  Part two discussed the first four trends and developments.  Part three discussed public anger.  Part four discussed the declining economy causes spiraling stress.  Part five discussed the long-term implications for the recession.  And now we will wrap up this series with some concluding thoughts:

We expect the U.S. recession to end later this year and gradually begin recovery next year and accelerate through 2011, 2012 and 2013. The U.S. recovery will stimulate the export dependent economies overseas and they will recover accordingly.

After a strong cyclical recovery, the U.S. will settle into a stagflationary economic cycle characterized by a secular high level of unemployment, lower worker productivity, a resumption of higher energy, food and commodity inflation and slower consumer income growth and spending.

High deficits, increased entitlement spending, increased interest rates and a depreciated currency will deteriorate U.S. government finances.

Emerging markets overseas in Eastern Europe, Asia and Latin America will again pace future long-term economic growth.

Americans will shift politically to the left as they become more dependent on government spending for basic needs and income.

Populations in mature industrialized economies will shift politically to the right as they become more nationalistic to protect jobs, companies and existing social welfare programs. They will also be less inclined to pursue free trade in the future.

Free trade will still be important to emerging industrialized economies as they continue to pursue export oriented economic growth and employment. This will increase tensions between the mature economies such as Western Europe, Japan and the U.S. and the emerging economies of Asia, Latin America and Eastern Europe.

From a capital markets standpoint, we remain defensive in the short term as we look for evidence of an economic bottoming. However, we would prepare to emphasize common stocks, particularly large cap and NASDAQ U.S. stocks to participate in a bottoming in the recession and subsequent economic recoveries here and abroad. We would also increase our positions in gold and other commodities as the world economies reflate and commodity prices increase. Concomitantly, we would avoid bonds as they will see a shift in cash to stocks and an increase in interest rates in an economic recovery.  Please contact us with any questions regarding this article and for specific recommendations on your investment program.

I’m Mad As Hell (Part 5): Long Term Implications Of The Recession

Morris Segall      economics, economy, fears, politics, recession, social implications

In a recent article published March 23 for SPGTrend.com subscribers, we examined the social and political toll of the current recession and their longer term impacts on the U.S and overseas economies.  Over the course of several blog posts, we will take you through the content of this piece and put what we’re going through into context.

In part one, we outlined an introduction for this series.  Part two discussed the first four trends and developments.  Part three discussed public anger.  Part four discussed the declining economy causes spiraling stress.  Today’s entry discusses the long-term implications for the recession:

We believe the current trends and developments have longer-term significance and implications for the U.S. and overseas countries, politically, socially and economically.  From an intermediate term economic outlook perspective, we believe the current recession will “bottom out” in the second or third quarters of this year. We believe the worst of the recession is now being experienced in the first quarter. We do not expect an economic recovery to be measurable until the fourth quarter of this year, at the earliest, and possibly the first half of next year.

Assuming a recovery from the current recession gets underway next year and builds through 2011, 2012 and 2013, we expect such a recovery to be cyclical and quite robust given the pent-up demand that is accruing from consumers and businesses over the past 5 quarters. The economic recovery will be led by the U.S and extend overseas late in 2010 and more pronounced in 2011, 2012 and 2013.

However, longer term, we see the following resulting implications from this recession:

1.       Americans will be more circumspect in assuming risk going forward. They will not embrace the unbridled use of credit as they have in the past. First, the availability and cost of credit in the future will restrict credit to consumers. Second, many consumers will eschew the use of credit to maintain lifestyle given the difficulty they have faced in meeting debt obligations.

2.       Americans will be more conservative in their investment programs after the cyclical rebound expected over the next 2-3 years in worldwide equity markets. For one thing, Americans will be older and less inclined to take risk with their remaining and/or rebuilt capital, particularly in retirement plans. Second, Americans’ faith in the equity markets has been shaken by two market declines of 50% in the past 9 years plus the scandals also attendant with these declines. We believe Americans will retreat to a more basic and conservative investment profile that emphasizes intrinsic and transparent value and predictable future prospects. In addition, we expect a more highly regulated environment for financial firms and capital markets which should result in less leveraged and speculative investment products and strategies.

3.       Americans will have to work longer before retiring as a result of the huge losses in savings, net worth and retirement accounts. However, many of the current generation of middle aged and senior workers will be suffering deteriorated health as a result of the current emotional and physical stress they are currently experiencing. These workers will have aged faster than otherwise due to the emotional and physical stresses of this recession. This will result in many workers having to retire earlier than planned which will add to the cost of Medicare, Medicaid, Social Security and private pension costs. These increased costs will be in addition to the enormous increase in Federal entitlement program costs from the retirement of the “Baby Boomer” generation of workers who begin to turn 65 in 2011 and will reach age 70 in 2016.

4.       As a result of the wealth and job destruction in this recession and the impending retirement of so many workers, the demand for increased government services to handle a burgeoning aging and retirement population will put enormous strain on the U.S. Federal budget. This will be in addition to the huge strain on Federal finances that is now being incurred from the massive “bailout” programs that are being initiated to stabilize the banking system and end the current recession. It is likely the annual Federal budget deficits will range from $500 billion to $1 trillion or more over the next 5 years.  Clearly this will put upward pressure on interest rates and price inflation in the U.S. and downward pressure on the U.S. Dollar in foreign currency markets. Indeed, we and other economists have raised the threats of these developments presently and they are already of concern to foreign governments and investors that own U.S. Treasury bonds.

5.       Unemployment in the U.S. will be historically high even with a cyclical economic recovery projected over the 2010-2013 period. There simply will be no job opportunities for many of the former Wall St. and banking managers, executives and traders and automobile and related managers and executives, particularly over the age of 50.

6.       The increasing population of aging and retired workers will not have the financial resources anticipated for this population segment at the beginning of this decade when the stock market bubble at that time had created so many retirement plan millionaires. As a result, the projected retirement population will live more frugally than earlier projected and will not be the economic stimulus many had planned on. Indeed, for the reasons stated previously, they will be more of a drain on the U.S. economy than help. In addition, they will not provide the spending for increased foreign imports or overseas travel as previously predicted.

7.       We expect international trade agreements to be less liberal here and abroad, as the infatuation with globalization becomes a casualty of the massive unemployment in the current recession.

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I’m Mad As Hell (Part 4): Declining Economy Causes Spiraling Stress

Morris Segall      declining economy, economics, future trends, public unrest, recession, stress

In a recent article published March 23 for SPGTrend.com subscribers, we examined the social and political toll of the current recession and their longer term impacts on the U.S and overseas economies.  Over the course of several blog posts, we will take you through the content of this piece and put what we’re going through into context.

In part one, we outlined an introduction for this series.  Part two discussed the first four trends and developments.  Part three discussed public anger.  Today’s entry, part four, will discuss the ramifications of an even more insidious by-product of the recession: stress.

In addition to anger, the American public is emotionally stressed and physically debilitated.

After experiencing the heady and seemingly inexorable rise in consumer net worth and incomes from the expanding economy, rising stock markets and most importantly, the outlandish increase in real estate values over the 2003-2006 periods, the American consumer has seen his world literally come crashing down since the second half of 2007. It is estimated that the declines in housing values and the stock markets together over the last 5 quarters is more than $15 trillion or an entire year’s GDP.  As a result, the American consumer that exuded great confidence and risk tolerance has become stricken with fear.

In the article, “The Fed’s Conundrum,” April 5, 2007, we commented on what we felt was an increase in the fear factor for consumers, which was going to suppress consumer spending and appetite for risk, going forward. We based this on the increase in inflation at the time and the accelerating decline in the housing cycle underway, leading to increased mortgage foreclosures. In addition, as government statistics would later prove, job creation was peaking that spring.

Fear is something the American public doesn’t exhibit very often.  The post war period has been one of economic growth and a rising standard of living for Americans. To be sure, the American economy has experienced periodic and sometimes severe recessions, but they have been surpassed by longer and stronger growth periods.

Until this decade. The current recession is the second major economic downturn since 2000 and this recession is by far the most damaging and most pervasive in financial and social terms since the Great Depression of the 1930s. The loss of homes, jobs, net worth, financial security and retirement security has caused the American consumer to doubt his ability to survive and to doubt the American capitalist economic model.

In the current economic environment, Americans are full of worry.  A March 4, 2009 article in Advertising Age noted that prescriptions for sleeping pills and anti-depressants had escalated 7% and 15%, respectively, in 2008 despite a cutback in marketing for such drugs by pharmaceutical companies.

Based on the worsening economic climate in the first half of 2009, we would expect such numbers to increase. In the same Advertising Age article a poll by the National Sleep Foundation released on March 2, 2009, found over 30% of respondents said they are “losing sleep over the economy and their own financial situation”. The National Sleep Foundation Poll found an increase in sleeplessness and anxiety is leading to an increase in depression and a decrease in efficiency and productivity on the job.

Regional and local data particularly in cities hard hit by the recession indicate a dramatic increase in suicides, suicide attempts and calls to suicide hot lines. This emotional stress is taking its toll on the overall physical health of the country. We believe doctor visits for emotional or stress related physical illnesses have increased as well as absenteeism from work. The result is a significant increase in medical care costs for doctor visits and prescriptions as well as a decrease in overall worker productivity. In such an environment, people are more nervous and short-tempered, which often leads to increased aggressive behavior including violence. Witness the increase in mass shootings in the U.S. and shockingly in Europe as overstressed individuals react to the loss of their jobs and declines in their financial conditions. In addition, consumer outlooks for the future are negative.

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I’m Mad As Hell (Part 3)

Morris Segall      2009 trends, anger, bailouts, economics, finance, future of economy, government, taxpayers

In a recent article published March 23 for SPGTrend.com subscribers, we examined the social and political toll of the current recession and their longer term impacts on the U.S and overseas economies.  Over the course of several blog posts, we will take you through the content of this piece and put what we’re going through into context.

In part one, we outlined an introduction for this series.  Part two discussed the first four trends and developments.  In part three, we will outline the next trend – public anger

5.  Public anger is also being aroused by the scandals related to the “bailouts” of many of this nation’s large, international conglomerates, particularly financial firms, and the recently disclosed large bonuses paid by both financial and non-financial firms that have received billions in taxpayer assistance. The “bailouts” and the executive bonuses have stoked the fires of smoldering public resentment at the widening gap between the increasingly rich executive class and the struggling middle class in this country.  See the slide below showing the disparity in real per capital income growth in the economic expansion of the 2002-2007 period and that of the economic expansion of the 1982-87 periods under President Reagan.

6.  Now also look at the slide below showing the trend in retail inflation over the 2005-2008 periods and the most recent six-month reporting period of February 2009.

While the collapse in commodity prices in the last six months has been a primary cause in inflation turning negative in the last six months, note the annual inflation increases in 2007 and 2008 and the continued increases in many non discretionary consumer expense categories such as utility charges, education and tuition and healthcare costs. Add to this data the fact that American workers have now experienced the second major declining stock market cycle of this decade with major market indices declining by 50% from peak to trough in 2001-02 and 2007-2009. Importantly, excesses and mismanagement of risk have caused the current stock market debacle by many of the nation’s financial institutions that have needed taxpayer assistance to stay afloat. It is little wonder, the American middle class is angry and they are reflecting their anger politically.

It began with the Congressional elections of 2006 when an angry American electorate gave a sitting Republican President and his party the worst political drubbing since the elections of 1964. This at a time when the American economy was humming and creating approximately 2 million new jobs annually in 2005 and 2006. It continued with the recent Presidential election of 2008 where the unlikely candidacy of a first term Senator from Illinois first surprisingly won the Democratic nomination, upsetting the presumed party favorite, and then led the Democratic Party to its most overwhelming victory since Lyndon Johnson defeated Barry Goldwater and the Republican Party in 1964. The 2006 and 2008 election results were a loud dissatisfaction on the part of the American electorate with the economic, social and political status quo. Their statement was clear, “They were mad as hell and not going to take it anymore”.  We have long noted this building anger among American voters and counseled candidates running for office in 2006 and 2008 that the American electorate was angry and wanted dramatic change.

We also felt that change was being translated in two very distinct demands. First, the inequities of the economic system that allowed excess and corruption by corporate CEO’s and politicians were unacceptable and needed to be reformed. Second, the middle class wanted the Federal government to do more to help them with the draining expenses of energy, healthcare, education and retirement necessities.  To their credit, the Democratic Party and Barack Obama, grasped voter dissatisfaction and embraced a populist agenda of job protection, increased government spending and tax reform to answer that dissatisfaction. American voters responded with a landslide victory for President Obama and the Democrats that now control both houses of Congress as well as the White House. But the intensifying recession since the end of the third quarter of last year has created more pain and suffering among American workers and consumers. President Obama’s stimulus programs highlighted by huge taxpayer financed “bailouts” of major financial institutions are wearing thin on the American public. Already angry American voters are now livid with the revelations of continued bonuses to failed executives and the failure of newly elected Democratic congressmen and senators and newly appointed officials within the Obama Administration to stop “politics as usual”. The embarrassing revelations and resulting voter backlash is forcing the President to adopt a defensive posture of trying to convince voters and congressional opponents of his program both within and outside of his party to support him. This is not the position the President wanted to be in within the first 100 days of his administration. The current recession belongs to the Democrats now and voters want to see tangible improvement from the Congress and this Administration.  Continued corporate excesses at the expense of taxpayers and middle class workers are only adding to the anger of the American public.

This anger is resulting in growing frustration and doubt about the current state of American capitalism. An angry electorate is an unpredictable one. Previously accepted beliefs regarding American social, political and economic behavior, attitudes and most importantly, demands, are being re-evaluated and adjusted by a citizenry whose ideals and aspirations are not being met.

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FASB Waters Down Accounting For Impaired Assets; The Ultimate Bank Bailout

Morris Segall      FASB, Financial Accounting Standards Board, private equity, securitized asset, TALF, treasury

After months of debate about suspending the cardinal principle in accounting regarding reflecting asset value impairment in both the balance sheets and income statements of public financial statements, the Financial Accounting Standards Board (FASB) ignominiously and even in a measure of surprise, voted at its April 2nd Board Meeting to suspend the strict application of “mark to market” accounting for banks. The financial news media has reported on the story since last Thursday with almost universal condemnation and criticism. We wanted to see the text of the FASB’s statement to see exactly what the rule changes were going to be.

Unfortunately, the text of the pronouncement, FSP FAS 157-e, confirms many fears and criticisms of financial analysts, the accounting profession, investors, lenders, portfolio managers, creditors and the lay public. That is the FASB was “buying into” the argument that the illiquid, value impaired securities backing the personal and real estate assets the banks had previously lent on were not really impaired because the asset impairment was due to an illiquidity in the market for such securities which artificially had depressed prices for these securities. The position of the banking industry is that  in reality these securities were  going to be held until maturity so as long as principal and interest were current, hence there was no need to reduce the holding value of these securities to what they believe are distressed market conditions. The pronouncement contrasts forced liquidation valuations from orderly transaction valuations and allows discretion on the parts of managements, with the blessings of their auditors, to ascertain whether the security value impairment is temporary due to distressed market conditions and to declare whether management intends to hold the securities to maturity and not sell them before “recovery of its cost basis”. It further allows holders of these securities to recognize the permanent credit loss component of a security in earnings BUT the temporary impairment of a debt security in “other comprehensive income”. That account is not defined.

So, in what appears to be a total cave from pressure by Congress and the banking industy, the steward of hard accounting principles and standards which govern the integrity of financial statements, has given the banking industry what the U.S Treasury Dept., the Federal Reserve Board, the SEC and the world financial marketplace couldn’t do. It is allowing them to ignore the impact of current market forces on the net realizable values of major classes of assets and concomitantly, the net book value of its capital accounts. Reporters and commentators are now suggesting this shift in accounting treatment of impaired collaterized debt securities will not only abate further bank losses, it will allow banks to actually “write up” valuations on previously written down securities and could actually result in bank profit growth in the first or second quarters of this year. This from a governing board of a profession that some years ago prided itself on the credo. “Anticipate no profit; provide for all possible losses”. This was when auditors and CPA’s were the acknowledged protectors of fair, independent and honest accounting treatment of financial transactions and valuations. Not only does Thursday’s pronouncement liberalize accounting treatment for financial companies, it gives a “pass” to the company’s auditors to approve it without being accused of false and misleading financial statements, the basis of all security class action lawsuits.

In our blog piece of March 5, 2009, “Is There A Plan Here?”, we outlined specific measures we believed actionable that would be effective in stemming the recession and providing an “arms length” and long term solution in cleansing the banks’ balance sheets via a “bad debt bank”. This argument also articulated in our website comment, “The Treasury Plan”, December 7, 2007, recognized the underlying philosophy and theory behind securitized assets. First, these securities were CREATED by the investment and commercial banking industries to provide liquidity behind the funding of hard assets. They were created to be traded. Trading desks were created to buy and sell them at negotiated prices. Asset indices were created to track price and performance. The securitized portfolios were leveraged with derivatives and credit default swap instruments, also traded in negotiated markets. The volume of these primary and attendant instruments exploded into the hundreds of trillions of dollars and were marketed around the world over the past two decades and in particular in the frenzied real estate and consumer spending expansion of the last decade. To now decide or even allow to be decided that these securities were going to be held to maturity flies in the face of financial reality. If these securities were going to be held to maturity they would have been valued similar to private equity or venture capital investments where there is no public market and investors know they are holding an illiquid investment that is not marked to market but whose valuation is determined annually by independent appraisal. Following this theory further, there would have been no reason to mark these securities to market. The banking losses would have been avoided and the Government’s TALF program to purchase these eroded securities from the banks would not have been necessary.

The action of the FASB is an expedient one and is another in a series of public moves to short circuit this recession by avoiding the real and painful long term solutions to sounder finances and more transparency in financial transactions and accounting. The downside of this action will be an increase in distrust of the system, banking and accounting and will lead to fewer high risk transactions in the future. Who will be able to accurately ascertain what these man made paper assets are really worth if we don’t let market forces be that ultimate arbiter?  Ironically, the action of the FASB may hurt the Treasury’s TALF program if investors believe the prices they will have to pay to purchase these assets are arbitrarily too high. Clearly, investors will be skeptical of an individual bank’s asset valuations and net worth and financial analysts and lenders will be uncertain as to the real value of these bank’s investment and creditworthy values. Our response to investors is to “play” the ultimate recovery in financial stocks by utilizing sector ETFs and index funds. That is a sector bet and there is safety in numbers.

Morris R. Segall, CFA, CIC

I’m Mad As Hell (Part 2)

Morris Segall      economics, economy, future trends, international, macro, micro, monetary policy, political, social, social unrest

In a recent article published March 23 for SPGTrend.com subscribers, we examined the social and political toll of the current recession and their longer term impacts on the U.S and overseas economies.  Over the course of several blog posts, we will take you through the content of this piece and put what we’re going through into context.

In part one, we outlined an introduction for this series.  Part two will discuss the first four trends and developments that are unfolding:

1.       Social unrest in Russia, Eastern and Western Europe as rising unemployment and cutbacks in domestic government spending programs and consumer incomes. Of particular note are the

street demonstrations and strikes in Western Europe where we have not seen this type of reaction to economic distress since the Great Depression of the 1930′s. It speaks volumes about the level of angst and anger among foreign workers and consumers.

2.       This social unrest is creating political change. Governments in Latvia and Iceland have already collapsed and there is increasing pressure on the governments in Ireland, France and Great Britain to stop the bleeding in those economies. Even in Russia, discontent among the populace is being aimed at the current government, which had been quite popular last year.

3.        Worker protests abroad are leading to increased calls for expulsion of immigrant workers and protectionist measurers to protect domestic jobs and companies. Globalization has now become very unpopular in the advanced industrialized countries of Western Europe as they face the same erosion of their industrial base as we have suffered over the past decade.    There have been attacks on immigrant workers in Western Europe and Russia as frustrated and angry citizens fight for the shrinking job markets in their countries. In short, we see a movement to the political right as nationalist feelings replace the internationalist perspectives previously held overseas. This does not augur well for the future of the European Union and free trade policies.

4.       The rise in protectionism is also occurring here in the U.S. as shown by the recent rescission of long haul trucking privileges to Mexican companies that were hauling freight into the U.S. from Mexico. That freight must now be transported from the border by U.S. firms. Mexico responded by putting tariffs on a list of U.S. imports. This backlash against free trade agreements is putting pressure on government leaders who still champion globalization as desirable for U.S. economic growth. Policymakers in Washington and Fortune 500 companies that manufacture and trade overseas are finding themselves at odds with workers and consumers who are losing their jobs to lower cost foreign labor. With unemployment in this country effectively at 9% and going higher, American workers are “mad as hell and aren’t going to take it anymore”. Labor unions helped elect Barack Obama. They expect “payback”.  Importantly, Democrats in Congress and the President himself have pledged to re-evaluate America’s free trade agreements and policy. We expect some “pullback” from the liberal free trade policies of the last decade.

Next up, we’ll outline additional trends and provide context for where all of this is heading.  Don’t forget to subscribe to our blog to get the rest of this series.