US recession fears are overdone at the moment. Headlines deceive once again!

Considering the fact that I will be working the whole day tomorrow, just decided to start my post early this weekend. I need to be very frank about my feelings on the previous post on Genting Singapore. While I was writing it, my hands were trembling and my face was cringing because it is really a stock I was dead against for the better part of 5 years. I pray hard that I will never have to do a reversal again. If ever I have to write something good about DBS, I will quite blogging and move to the mountains to hide my face. Considering I have been throwing insults at the god forsaken bank for the better part of the past decade. If I were any older, it would have been a significantly longer time.

Since I have written a post during midweek, it is rather difficult to see what I should touch on today. No doubt, the markets have been very volatile on the downside for the past week, but it is the first week in 4 which we have seen a negative finish. It is about time that we saw a bit of a pullback. Lets not get too negative on this. I am still very positive on equities and negative on bonds, this is to reiterate my position that there is a massive bubble in the fixed income space(especially US treasuries).

With US treasuries rallying over the past couple of weeks over fears that the US economy going into a double dip recession, I think it will be appropriate to understand the situation over there. From what I see, people are just getting jittery over the headlines but lets look more closely to see what is the probability of a recession reappearing in the US.

The biggest sell off for the week came after jobless claims in the US came in higher than expected, teetering close to the 500k mark. To me jobless claims are just too volatile to give an accurate indication of the job market in the US. Looking at the chart below, the 4 week average for jobless claims (which I like more) shows a little upturn on that front but it is still some way from its peak in 2009.



On the industrial production front, it also looked pretty stagnant while capacity utilization continues to improve slowly. Many investors were spooked by the Philadelphia Fed Survey suddenly dipping into negative territory, but from my years of following this data point, it really is not a good gauge of economic activity. It is important for us to note that industrial production only accounts for no more than 20 percent of GDP in the US. So a slowdown or not, it is not as crucial as the service sector. Deindustrialization in the US has made the economy harder to read as it is more dependent on the intangible area of services.




Consumer sentiment has been positive but not at overly optimistic levels due to the fact that unemployment is still high and the real gauge of unemployment in the US shows a 16% unemployment rate. However, we need to understand one thing. Even though unemployment remains high, that does not mean that consumer spending will turn negative. It will be weak no doubt, due to fewer people working but consumers only slow down their spending if they are fearful about losing their jobs but now with earnings showing stellar growth and productivity levels remaining strong, job security is improving and thus it will support consumer spending. Judging by how well the Ipads are selling, it shows consumers are still willing to spend on luxuries but only selectively.





My previous point on job security creating confidence to consume more can be reinforced by the two charts below. Consumption slowly creeping up even though income growth is flat. Disposable income and expenditure data looks tepid but at least they have improved significantly from 2009 levels. We need to understand that income has one of the longest lag effects compared to other indicators because you do not expect your employer to give you a raise on the very next month after a good earnings quarter. The only feeling you will get is security that your job is in a safer state as the company delivers profits but to expect a raise immediately is just silly. Sometimes it takes more than a year of economic recovery for employers to feel comfortable enough to raise pay and to employ more people. If I were an employer, I would not raise the pay for my employees because I know for a fact that there will be a line of people ready to take his place if he should feel underpaid and leave.





From what I mentioned previously, service industry makes up the major share of economic growth and what we see is an expansionary number but still a very weak one. The US recovery is definitely on track but it is still very shallow considering the amount of stimulus the government has pumped into the economy.

You may have realised by now, I have left out the housing situation in the US in this post. The reason I am doing so is because I really do not think housing is going to come back so soon. Remember, real estate bubbles take a long long time to recover from. Just ask anyone who bought a Singapore property in 1997, right before the Asian Financial Crisis. Most of them have just broken even over the past year. How many years has it been? 13? Japanese properties probably will never see the levels in the 1980s. Prices in the US will only recover a little but it will be purely wishful thinking if you think that the prices are going to see 2007 levels? Not a chance. We will be lucky if we see it within the next 10 years. The only way prices will hit 2007 levels will be due to hyperinflation in the US which cannot be ruled out due to the amount of liquidity in the system. But in terms of real prices, it will probably be languishing.





Lastly, I would like to use the yield curve for US treasuries to show why I think a recession is very unlikely because it is still very steep and near term rates remain low and long term rates continue to remain firm. 10 year yields are moving down drastically (no doubt artificially) and the yield curve remains steep. I firmly believe in the yield curve's ability to predict recessions going forward. It has predicted the last 13 out of the last 12 recessions in the US. Hahaha. Liquidity is more than abundant in the system and it is very obvious that money is so cheap that merger and acquisitions will start to pick up. Judging from the multi-billion deal proposed by BHP in its quest to purchase Potash, it is just the beginning. Expect more deals to come and large companies with ability to take advantage of the cheap liquidity to buy other companies. It is a sign of how cheap valuations are now and as cheap money continues to be available, the economy will continue to chug along.



My conclusion is that a double dip recession is highly unlikely in the near term. Ben Bernanke will never let it happen considering he once suggested to drop money from a helicopter to stop deflation in Japan. So have faith in Benny and continue to take the opportunity to add to your equity stakes. Buy quality and do not look at your statements too frequently, faith will be repaid going forward.

Have a good week ahead!

Best,

SVI