This week the Conference Board (i.e., a not-for-profit, nonpartisan organization of business leaders representing a variety of major industries) announced that consumer confidence was up 35% from April, and it was the fourth-largest jump in the index’s 32-year history. The index is now in positive territory and at its highest level in eight months. I believe many factors play a part in this from the recent stock market rally, the large banks passing the government “stress test,” and economists predicting the end of the recession later this year just to name a few. History has shown that confidence usually translates into spending, which is what fuels the vast, vast majority of the U.S. economy. Thus more spending > more business sales > more business income > higher stock prices > more confidence > more spending.
This traditional equation has worked over the years; however, consumer and government debt are at record levels. Thus, the money we would normally have to spend is actually going toward our outstanding debts. As such, this cycle may not be as quick or strong as past economic recoveries. Supporting this assumption is the announcement this week from Manufacturers Alliance that U.S. manufacturing output is expected to decline 12% this year, which is much sharper than 8% it predicted just three months ago, and grow a modest 2% in 2010. If consumers are buying less, then companies will respond by producing less.
Why are interest rates on the rise and what are the implications?
U.S. Treasury bond yields and mortgage rates rose Wednesday to their highest levels since November of last year, despite the government’s effort to keep rates down through buying over $585 billion of mortgage-backed securities and Treasury bonds since last fall. Inflation worries and the fact the U.S. government will need to sell nearly $2 trillion of U.S. Treasury bonds to fund the stimulus programs have investors concerned. Is there enough demand around the globe to buy all these bonds? Also, signs of economic recovery in the U.S. and globally are causing investors to move out of “relatively” safe government bonds and into higher yielding corporate bonds and even stocks. This can result in the government having to pay a higher yield / interest rate on its debt to entice investors to buy it. Thus, it makes the government’s rescue or bailout efforts more expensive.
The 10-year U.S. Treasury note is of particular importance since its interest rate helps determine mortgage lending rates. Thus raising interest rates for government bonds (i.e., U.S. Treasuries) will result in higher mortgage rates, which could put a further damper on the housing market. Bond investors around the globe appear to be demanding a higher return for what they may consider increased risk, due to the U.S.’s increasing debt burden or fear of impending inflation. This demand for higher yields will trickle down to all sectors of our economy via higher interest rates on business loans, car loans, credit cards, lines of credit, etc. Higher interest rates result in businesses spending more to finance their debt, which can reduce profits or hinder their expansion plans. However, if a particular business is growing at an increased rate due to an economic rebound, then higher sales and corresponding profits can outpace the cost of higher interest rates.
As previously noted, the Federal Reserve has and may continue buying mortgage-backed securities and U.S. Treasuries to try and keep interest rates down. While the Fed can impact bond prices and yields in the short-term, it cannot long-term. At some point it appears inevitable that interest rates will rise, and this may be why we are seeing corporations rushing to recapitalize by issuing more bonds and stocks. For consumers, I believe it is important to take advantage of these low interest rates by refinancing current mortgages, if they are able to find lower interest rates and significantly reduce their payments.
Companies may be reacting to a window of opportunity
Companies are taking advantage of the nearly three-month rally on Wall Street to raise capital by issuing more stock, which is normally a good sign for businesses that intend to grow. However, the new-stock issuances this year are nearly five times year-ago levels. So far the stock market has absorbed all the new shares and climbed higher, but this could change if the supply of newly issued stocks does not continue to have a corresponding buying demand. I believe companies see investors reacting positively to signs of the recession ending this year and are making sure they issue whatever stock or securities they need to while the appetite for risk is still at the table.
Ironically, a recent study for Bloomberg by Washington Service, a research firm, noted that corporate insiders have done much more selling than buying. As a matter of fact, April of this year was the lowest month for buying since July 1992. I don’t know about you, however, I feel much more comfortable with a chef that eats his own cooking. In this case, many corporate insiders are ordering out. Now I realize insiders are not flawless in the timing of their investment decisions, but who sells a stock because they think it’s going up – just something to consider as we speculate on whether we’ve entered a new bull market or are just experiencing a rally within a bear market.
There is much talk and concern whether the glimmers of economic hope we are seeing now will result in a “sustainable” economic recovery and not just a temporary month or two of improvement. At some point though, it will be improving corporate profits versus the current theme of “things getting less bad” that will be the upward driver and sustainer of higher stock prices.
Some things to consider
- Many of those I have spoken with who are in the market for a new home are not going the traditional route, and are instead focusing primarily on foreclosures. This seems to be the trend nationally. Existing home sales rose in April, but foreclosures accounted for 45% of all home sales.
Even though home sales are up, the foreclosure moratorium that several of the large banks put in place months ago is now ending and many new foreclosed homes are expected to come onto the market. In addition, it has been reported this week that a record 12% of all mortgage holders are either behind on payments or in foreclosure in the first quarter of this year. It will be several months, if not longer, for homes currently on the market and these new additions to be snapped up and housing not just stabilize but actual begin rebounding.
- I spoke with a good friend of mine yesterday who is a consultant to large multi-national corporations. He noted that these companies, especially in the technology and telecommunications sectors are embracing the “virtual” office concept. Instead of housing employees in large brick office buildings, employees actually work from home and come to the office for meetings and conferences. He stated that these companies are finding that they can still get a productive worker, but they don’t have all the overhead costs of an office building and furnishings. In addition, instead of incurring the expenses (i.e., airfare, taxi, hotel, meals, etc.) of flying employees to Tokyo for meetings, these companies are investing in very state of the art video conference rooms. These conference rooms are not cheap by any standard; however, these companies believe they can recoup their costs in a relatively short time period and actually rent out the facility to other companies when not in use. Granted, this may not be the trend for all companies, but for those companies with the right type of workforce, this can present an opportunity to cut costs and actually increase productivity as travel and commute time decreases. This may be one of the best green alternatives currently being implemented.
Dump your debt
Rachel Porter is an Overland Park-based, Dave Ramsey certified counselor who focuses on helping couples and individuals get on the right track with their spending and budgeting. She is offering a Debt Dumpers Unite! – a back to the basics seminar on debt and credit. It will be June 8th at 7p.m. and it will offer some realistic tangible ways you can start to eliminate your debt and attack it with ‘gazelle’ intensity.
At the session she will cover:
- Dealing with Creditors
- The Truth About the FICO Score
- “The Why” Behind Paying off Your Debts, Smallest to Largest
- Getting Traction with Your Debt So You CAN Make A BIG Dent In It
- The Importance of Looking Long-Term When Paying Down Debt
For more information, please click on the following link: http://iia-kc.com/Debt-Dumpers-Unite.pdf
Rachel is not affiliated with IIA; however, she has been a resource for our clients who want a one-on-one financial coach who will specifically help them address their personal spending, budgeting and aggressively pay down their outstanding debt. This is incredibly tough time for some, especially when I receive phone calls from clients who are withdrawing funds from their IRAs to pay bills. As such, I wanted to make this opportunity available to anyone who needs help in this area. Please note, the seminar is free if you register before June 5th. For more details please click on the previously referenced link.
Events
For those of you with email, I sent an invitation to IIA’s Client Appreciation Event on June 24th. You will be receiving a reminder notification shortly from Evite and please RSVP. If you have any questions regarding the event, please contact Sally Gradinjan at 913-897-2074.
Debra Kunz will have Strategic Life Planning workshop on June 17th. If you feel like you’re spinning your wheels and need some focus, call her for a session or more information. For more details on these or other upcoming events, please visit our web site at http://iia-kc.com/events/
Quotes
”A recession is like an unfortunate love affair. It’s a lot easier to talk your way in than it is to talk your way out.”
Bill Vaughan, American columnist and author
“Money can’t buy happiness, but neither can poverty.”
Leo Rosten, humorist
“The trouble with most of us is that we would rather be ruined by praise than saved by criticism.”
Norman Vincent Peale, preacher and author
Tony Moeller, President
Integrity Investment Advisors, LLC
12721 Metcalf Ave., #202
Overland Park, KS 66213
tmoeller@iia-kc.com
913-897-2074
The information listed in this commentary is a compilation of various publicly available sources and is for informational purposes only. It is not a recommendation or solicitation of any particular investment or strategy. A risk of loss is involved with investments in the stock and bond markets.
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