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The way I see it, the market rally during the past couple of weeks is way too premature. Some might call me a pessimist; I think I’m a realist.
The problem is that every time the so-called Wall Street Pros have pounded the table during the last year, urging investors to “buy the dips,” the whole lot of them have gotten burned, or in many cases, torched.
In fact, there are three compelling reasons why I’m more worried about a fresh leg down than anxious to load up on stocks for the next leg up …
Reason #1: “It’s the economy, stupid!”
That was a key slogan that former President Bill Clinton used to get elected back in 1992. And it applies just as much to the markets today.
Consider what we’ve learned in just the past few days …
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- The Conference Board announced that its consumer confidence index had plunged to 64.5 in March from 76.4 in February. That’s the lowest reading in five years and far worse than the 73.5 number that economists were looking for. The outlook index, which measures what consumers think about the future of the U.S. economy, fell to 47.9 — the lowest level since 1973!
- S&P/Case-Shiller reported that its index of home prices in 20 top metropolitan areas fell 10.7% year-over-year in January. That’s worse than the 9% drop in December … the 13th straight fall … and the biggest decline on record.
Plus, we are witnessing even more dramatic declines in key markets — Las Vegas and Miami, down 19.3% … Phoenix, down 18.2% … San Diego off 16.7% … and more.
- Orders for durable goods — essentially, products made to last for three years or more — tanked 1.7% in the month of February. That was far worse than the 0.7% gain Wall Street economists were looking for.
If you strip out volatile transportation orders, you get a 2.6% decline. That was almost nine times the 0.3% decline that was expected. A key measure of business investment embedded in the report fell, too.
In other words, any doubt that we are either already in a recession — or on the verge of one — is being rapidly extinguished by wave-after-wave of cold reality.
Are things poised to get better? Not any time soon, as far as I’m concerned. That’s because the credit problems have spread … and will continue to spread … beyond the home mortgage arena.
An alarming source of weakness today?
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Reason #2: The market for leveraged buyouts is collapsing
If you recall, I warned last year that the private equity mania had gone way, way too far, and that the bubble there would likely pop. Sure enough, shares of publicly traded buyout firms have collapsed and several mega-deals are falling apart.
The latest: A $19.4 billion deal by Thomas H. Lee Partners LP and Bain Capital Partners LLC to take over radio and billboard advertising firm Clear Channel Communications. It looks like the banks that so eagerly signed up to finance the transaction back in the “anything goes” period are balking at their commitments — so the PE firms are suing them.
Of course, it’s easy to see why the banks are fearful: The value of leveraged loans is falling fast. These types of debts have already been marked down by about 15%, according to the Wall Street Journal, meaning the banks would be looking at a hit of a few billion dollars if the deal closed.
Collapsing deals are bad for bank and brokerage earnings. They also drain confidence in the market. Here’s something else to think about: One reason the bulls cited for buying stocks in the past few years was the possibility you could catch a buyout bid. After all, private equity firms, loaded with cash and bank lines, were busy taking over companies left and right. We’ve clearly lost that support.
Reason #3: Earnings trends are rapidly deteriorating in many industries
Earnings — for companies that actually have profits rather than losses, that is — are falling in many industries. Indeed, the economic weakness is affecting tech titans … retailers … and all kinds of other firms.
Oracle is just the latest victim. The database software company failed to beat earnings estimates for the first time in several quarters. Moreover, Oracle warned that customers were cutting back on tech spending and shaded down its earnings guidance. Other tech giants, like chipmakers Texas Instruments and Intel have also lowered profit targets.
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| Carnival Cruise Line recently reported lower spending on its cruise ships. |
In retail, I’ve seen sales and profit warnings from menswear makers Hugo Boss and Phillips-Van Heusen. Cruise line operator Carnival weighed in with its own cautionary tale recently, citing higher fuel costs and lower spending by cruisers once they’re on board.
And a key contract manufacturer of everything from cell phones to electronics gear, Jabil Circuit, just dropped its own profit bomb, sending its shares to the lowest level since 1998.
When you get down to it, earnings are the key driver of stock prices. Things don’t look good from where I sit, and that’s why I believe the downside risks are high.
Now I’d like to devote our remaining moments to providing you with …
A Housing Update
You know I follow the housing market closely. And you know I’ve been bearish for some time — and rightfully so. Well, the latest batch of February figures offered a mixed bag of bad and (believe it or not) not-so-bad news.
The bad news?
New home sales fell to a seasonally adjusted annual rate of 590,000 in February. That was down from 601,000 in January, down roughly 30% from a year ago, and the lowest level since February 1995. If you measure inventory on a months supply at current sales pace basis, you see it would take 9.8 months to clear out all the homes that are for sale. That’s the highest since 1981.
Meanwhile, the price of an existing home dropped 8.2% from a year earlier. That was the sharpest drop we’ve seen in this cycle, and it leaves home prices at the lowest level since May 2004.
However, the February housing numbers also revealed a glimmer, albeit faint, of hope …
The not-so-bad news?
That sharp decline in home prices actually spurred an uptick in existing home sales. They rose 2.9% on the month to 5.03 million, though they were still off 24% from February 2007. That’s a change from what we’ve seen for a while — prices falling, but potential buyers just shrugging their shoulders and going about their business.
The raw number of new and existing homes for sale has also been ticking down lately.
Lastly, the Fed’s latest rate cut, plus the other actions it took to loosen up the credit markets, caused mortgage applications to surge recently.
The key question going forward: Will this short-term sales momentum hold through the heart of the spring selling season?
On the one hand, tighter mortgage lending standards, slumping consumer confidence, and the worsening job market argue for weaker sales.
On the other hand, the recent moves to raise jumbo loan limits in certain high-cost areas and to expand the FHA loan program should help some potential buyers. The other steps aimed at restoring liquidity in the secondary mortgage market have also temporarily calmed twitchy bond investors.
Regardless, there’s one thing that’s clear to me on the housing front: Sellers will have to continue lowering prices to attract buyers. After all, that is what is driving the recent uptick in demand.
So my suggestion for the current environment, whether you’re talking about the stock market or the housing market, is to remain cautious and focus on safety first.
Until next time,
Mike
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