Watching the Economy by Clint Burdett CMC® FIMC
Hints of the Recovery’s Dawn – Following Macro Trends
By Clint Burdett CMC
Recession creates the conditions for a recovery. Excesses are cleaned up: inventories reduced, debts paid off, bad debts written off, savings increase, assess values drop, making them more attractive, and then folks start buying again. In early March 2009, I see many of these corrections in progress. But this recession may be the worst I experience in my life time, so using historical patterns to predict the timing of a recovery is more an informed guess. It may take longer than any of us want.
The most important hints of the dawn of the recovery are in three areas. The interest expense banks charge each other are returning to more reasonable ranges (TED Spread example - expand range to 5 yr). New housing starts have fallen to about 600,000 per year, which slows inventory growth (Census - New Housing Starts), and the months of supply of existing homes for sale peaked in October 2008 at 11.3 months supply and has been slowly declining to 9.6 months in January (National Association of Realtors Jan 2009 data), which indicates foreclosed properties are being sold off. Finally, the rate of growth of consumers’ real personal consumer expenditures (PCE) is slowly improving compared to twelve months ago (Robert Ellis Ahead of the Curve). These hint at the dawn of a recovery in mid-2009, which accelerates in 2010.
Two reasons we have more money available to spend (BEA January 2009) are energy costs fell dramatically (good) and we stopped spending to increase savings (bad if we all really stop spending). If energy prices rise rapidly, I would expect everyone will hunker down again and delay the recovery. That is a critical uncertainty.
If housing led us into the recession as the sub-prime and Alt-A mortgage defaults drove up foreclosures, then the work to clean up these bad debts is about mid-way through the process. Note the Fed and Obama team’s focus on mortgage relief this month. Most lenders stopped making these loans mid-2007 as sub-prime loans default rates increased, so most of the irresponsible loans have surfaced by now.
A significant risk for responsible borrowers is that they cannot refinance because they are underwater. Their house’s value does not support a refi at 80% of that value to pay off a current loan, even to get very favorable rates.
Another risk is foreclosure sales continue to drive down home values. Once folks acknowledge that the foreclosures are slowing down, that will be a trigger for them to start spending again. Watch the vacancy rates for rentals, when these start increasing, folks have started to buy aggressively at the market bottom (Census Rental Housing Vacancy Rate and WSJ analysis). But, people waiting for prices to bottom is price deflating and self-reinforcing. I expect homes sales to lag the recovery because lending standards will be slow to loosen. Improvements will be gradual, don’t expect a dramatic rise in housing prices off the bottom to spur the next bull market.
The bad mortgages had spread through many mortgage based securities, which aggregated loans and had derivative “insurance coverage” with it turns out, too little collateral to cover the loses. AIG, the biggest offender, expects (Bloomberg 2/23/09) to wind down these contacts by the end of 2009; they are the bell weather and still very much in trouble. The financial industry’s ability to create new, responsible mortgage based securities will remain diminished. So, the housing sector will probably lag the recovery. The financial industry truly screwed it up last time and will be carefully regulated so they cannot screw it up again.
This recovery will be slow that jerks up and down over several years. A good strategist would plan for a deliberate, careful build up to accommodate consumers returning to the market in late 2009 and to scale up in 2010. Take careful, deliberate steps. These are not 'normal' times.
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