Fed Minutes and Inflation
Stocks are not a bad place to be in an inflationary environment.
The problem is that Fed action works with a lag, so the impact of the current QE2 will not be felt for another year at least. All the inflation you are seeing now is from QE1. Some Fed governors argue that there is slack that prevents companies from raising prices.
All the macro theoretical analysis by the Fed heads can't trump what is happening in the real world, now.
The Fed may not raise rates, but the bond market certainly will as it gets a strong whiff of inflation. The Fed basically does what the bond market tells it to do.
Having said that, stocks are not a bad place to be in an inflationary environment. Companies with pricing power will hold up well. High multiple names are at risk, of course, as interest rates rise. Quite possibly, we could replay 1994, where the economy recovered but the market barely rose as rising interest rates compressed the multiple. Exporters benefit as the dollar declines. And, of course, silver and gold (sing it) are at least solid hedges, if not outright investments.
One twist to the employment story is that although we are finally seeing modest jobs growth, the number of business "establishments", in BLS terminology, is stuck at 9 million. Not surprisingly, employees/business declined in the recession, due to layoffs.
The challenging question is whether productivity gains will keep the number of employees/business lower than in past recoveries. Employees per business sunk to 16 in the 2001 recession but then continued down all decade, hitting a low of 14.3 last year.
Economic research has shown that most new job creation comes from newly created businesses, not surprisingly, which means we really need to see growth in establishments to drive the robust job growth everyone wants to see.
So what dividends look interesting now?
* Verizon (VZ): Pays 1.26%, goes ex-div tomorrow. Stock is down the past few days, so you will not pay up. iPhone excitement should give some lift in the coming weeks.
* AT&T (T): Pays 1.38%, also goes ex-div tomorrow. This one is up on a spike today; don't buy it now.
* Marsh & McLennan (MMC): Pays 0.7%, going ex-div tomorrow. Has sold off the past couple days, it's near support, feels comfortable to buy, but there's some risk it could get stuck below $29.80.
* J.C. Penney (JCP): Pays 0.5%, going ex-div tomorrow, but is up 4% today so you just can't jump in now strictly for the dividend.
* Campbell Soup (CPB): Pays 0.87%, goes ex-div on Thursday. The stock has spiked today but is off the highs of a few days ago.
* General Mills (GIS): Pays 0.77%, going ex-div on Thursday.
* Progress Energy (PGN): Pays 1.33%, going ex-div on Thursday.
The good news on the dividend front is that all that cash piling up on corporate balance sheets is making its way back to shareholders. In first quarter, over 20% of the S&P 500 increased dividend payouts. (In first quarter 2010, only 15% raised dividends.) Naturally, many banks recently reinitiated their dividends, with 40% of the increasing companies in the financial sector. The dividend strength was broad-based, however, with industrials and consumer also seeing increases.
Having said this, there is still room to run. The dividend yield on the S&P 500 is only 1.4%, far below the 3.3% yield we last saw in 2007.
No Housing Bottom Yet
It feels like the homebuilders are going nowhere for quite some time.
Ugly KBH numbers confirmed the bad broader housing statistics that came to light in March. EPS missed huge, revenue down 25%, orders down 32%, cancellation rate 39%, future revenue in backlog down 32%. Wow. The company tried to put on a smiley face, saying that spring traffic is up vs. last year. The one positive data point is that prices were up 4%, with a very odd 26% jump in the Southeast (what the...?).
The fact that over one-third of industry-wide transactions are cash indicates "normal" buyers are not returning to the market, due to employment stress and lack of credit. With the massive REO overhang, housing is going nowhere for the foreseeable future. However, I view this as very healthy. We built too many homes, and we don't need more. The worst thing that could happen now would be for house construction to revive. We need to redeploy people into more productive activities, which is happening slowly.
KB Home is down 6% this morning. At $12, it is pretty close to the recession low of $10. At this point, there does not appear to be much downside potential.
Investors should be cautiously optimistic that the labor market is modestly improving.
It is time for a little digging into the employment situation in the U.S. Changes in employment can drive Fed policy, which will ultimately affect valuations. And higher employment can mean greater aggregate demand, which bolsters the economy.
The challenge now is that the data is so tortured, it is hard to understand what is really happening in the labor market. Data is seasonally adjusted, fictitious "birth/death" jobs are added, and the establishment, household survey and ADP data rarely seem to agree. Take non-seasonally adjusted nonfarm employment data from the Bureau of Labor Statistics website, then subtract the possibly bogus jobs added by the birth-death model. The numbers I used were the raw count of jobs from the payroll survey.
The news is sobering, yet directionally positive.
First, the good news. Although job destruction was worse than assumed during the recession, at least it has seemingly come to an end. The job losses during the recession were substantial, with each month in 2009 losing 5 million to 6 million jobs. The second derivative turned in late 2009, however, and by late 2010, we were actually creating jobs.
On a percentage basis, the job growth is starting to become marginally material (does that make sense?). The most recent month showed 1% year-over-year growth.
Now, the bad news. Despite being directionally good, the number of jobs being created is very small, and in fact current employment is still below the low set at the nadir of the last recession in 2003! We have a long way to go to productively employ our citizens again.
As for ADP, that report takes a lot of flak for not predicting the headline employment numbers, but most critics seem to not be aware of how the survey is compiled. ADP is a seasonally adjusted nonfarm private payroll estimate. The ADP number has consistently been within 1% of the same BLS series for the last decade. ADP is a great predictor of this series and is usually always directionally correct. Its bum rap is only due to critics misunderstanding!
Investors should be cautiously optimistic that the labor market is very modestly improving. A lot more work is needed -- pardon the pun -- before employment is robust, however. The question is whether the trend is sufficiently compelling to convince Bernanke to lay off the easy money, now that inflation is starting to rear its ugly head.....
Tuesday, April 5, 2011
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