Is the U.S. Economy Turning Japanese?

another interesting article from wsj 26 oct.


By CHRISTOPHER WOOD

Happy days are here again in world stock markets. Yesterday's profit-taking notwithstanding, the Dow Jones Industrial Average is flirting with 10000 and the S&P 500 is up 60% from its March low. Still, if risk-seeking behavior has returned to financial markets, much of it is funded by borrowing increasingly cheap U.S. dollars. There is also very little evidence, if any, that consumption and employment are really recovering in America.

With the U.S. government stepping in to keep markets from clearing, today's U.S. economy in many ways resembles the post-bubble Japanese economy of the 1990s. Ultra-loose monetary policy and low demand for credit, combined with high unemployment and consumer deleveraging, could lead to a prolonged slump.

Consumption, which still accounts for 71% of total nominal GDP in America, is still weak, and there remains little reason to expect it to pick up in a healthy fashion. Aside from the well-known and related issues of high household debt and negative equity in houses, the latest U.S. employment data have highlighted the still dismal state of the job market. Average weekly earnings of production workers rose by only 0.7% year on year in September as the average number of weekly hours worked fell to a record low of 33 hours. This marks the lowest annualized weekly earnings growth since the data series began in 1964.

Meanwhile, there's an unhealthy reliance on government for growth in America's increasingly command-driven economy. This is clear from the severe slump in car sales post "cash for clunkers." U.S. auto sales declined by 35% month on month in September to an annualized 9.2 million. It's also clear from the enormous role now played by government in the residential mortgage market. Government-guaranteed mortgages accounted for 98% of total mortgage-backed security issuance in the third quarter.

The reality of an increasingly command-driven economy in America means that government policy is likely to become the key determinant of where investors should place their money. For example, the near-term prospects for the housing market in the U.S. will be strongly influenced by whether the federal government extends its first-time home-buyer tax credit when it expires in November. Like cash for clunkers with autos, the risk is that such a program is simply buying demand from the future.

The other risk is the same as subprime mortgages—encouraging people to buy houses who may be better off renting. This is suggested from the growing delinquency rates on Federal Housing Administration (FHA) approved loans since the FHA has taken over from Fannie Mae and Freddie Mac as the prime way of increasing U.S. taxpayer exposure to future residential mortgage defaults. The default rate on FHA-insured mortgages was already running at 8.1% in August, up from 5.7% a year ago.

Then there's the government involvement in the U.S. financial sector. Over the past two years the federal government is estimated to have lent, spent or guaranteed around $11 trillion to the financial sector, broadly defined. This is due to Washington's slavish adherence to the absurd notion that financial institutions can be "too big to fail," be they called Fannie Mae, AIG or Citicorp.

All of the above behavior invites legitimate comparisons with post-bubble Japan, where banks took years to be cleaned up as a result of regulatory forbearance. The same kind of forbearance is preventing America's increasingly distressed commercial real-estate market from clearing. Similarly, as was the case with Japan, monetary-base growth has exploded in the U.S. over the past year courtesy of the Fed, while bank lending is declining. This is why there is every reason to fear that America is already in a Japanese-style liquidity trap.

True, Japan's bubble economy was much more about corporate-debt excesses, most of it borrowed against land or property collateral, rather than personal debt, as is the case in the U.S. But if the comparisons between the two countries are far from precise, the Japanese example shows how investment behavior changes if a deleveraging deflationary trend becomes entrenched.

This can be seen in the dramatic change in Japanese institutional investor asset allocation between government bonds and equities. Japanese insurance company and pension fund share of assets in domestic stocks peaked at 37.2% in fiscal 1988 (which ended March 1989, near the height of the bubble) and has since collapsed to 6.4% at the end of fiscal 2008, while their share of assets in Japanese government bonds surged to 36% in fiscal 2008 from 3.2% in fiscal 1990.

By contrast, in America institutional investors remain overweight equities and underweight government bonds. This will change radically if the U.S. truly is in a deleveraging cycle. Still, the process will take time. It was not until 1998 that Japanese insurance companies and pension funds had a greater percentage of their assets in government bonds than equities.

This is why Wall Street should make the most of the rally in U.S. stocks while it lasts. The next bubble in asset markets will not be in the West but in emerging Asia, led by China. The irony is that the more anaemic the Western recovery proves to be, the longer it will take for Western interest rates to normalize and the bigger the resulting asset bubble in Asia. Emerging Asia, not the U.S. consumer, will be the prime beneficiary of the Fed's easy money policy.

cad, oil, gold and stocks

note - click the chart to have a clear view if too small.


cad
cad chart indicates if it falls through the falling slope, the drop will be drastic, it already fell through the multitop formation and pierced the horizontal neckline of 1.08 thus it will achieve at least 0.86 but not without struggles.

oil and gold
since cad is associated with oil and partially gold, likely oil will really hit new high faster than we might think as gold has broken the 990 neckline not long ago.

usd
if usd is falling so fast, it is not impossible to imagine oil may soon be based otherwise than usd as it is already heard on the street news that opec may be thinking of using gold, rmb, jpy and eur as the basis for pricing, how that can be done is anybody's guess. should this be true, then we may have too much usd in circulation and too little of jpy, eur and gold which means a huge appreciation in the pipeline.

stocks
us stocks that have very heavy overseas sales exposure will rise like a rocket. emerging markets will shoot up as well since investors will chase after promising non-usd assets.

$5,800 gold

here is some interesting ideas from a pro, mind you that you cannot extrapolate inflation with gold as gold has no yield and also costs to hold.


$5,800 gold? But stocks okay, too.
Commentary: After a good decade, Aden sisters gleeful about gold

By Peter Brimelow, MarketWatch

NEW YORK (MarketWatch) -- A skillful veteran letter is sanguine about stocks -- but positively gleeful about gold and other hard assets.

Mary Anne and Pamela Aden's Costa Rica-based Aden Forecast first came to fame in the last great gold bull market three decades ago. In the current post-2000 gold bull market, the letter has shown remarkable tactical versatility and a definite willingness to compromise its powerful long-run analysis if short term-trends dictate. ( See Aug. 10 column.)

It's worked. Over the year to date through September, the Aden Forecast is up 20.2% by Hulbert Financial Digest count, versus 21.3% for the dividend-reinvested Wilshire 5000 Total Stock Market Index. That is, it's pretty well caught the rally.

And over the longer run, the Aden Forecast's superiority is striking. Over the past 12 months i.e. counting the Crash of 2008, it's up 13% versus negative 6.4%% for the total return Wilshire 5000. Over the past three years, the letter is up an annualized 5.6%, versus negative 4.8% annualized for the total return Wilshire 5000.

In fact, it's been a good decade for the Adens: Over the last ten years, the letter is up annualized 5%, versus just 0.9% annualized for the total return Wilshire.

Long-term, the Adens expect an inflationary collapse. But that doesn't stop them staying with stocks, although they do anticipate short-term weakness. They write:

"The stock market got through September without any trouble and it's still strong, again hitting a one-year bull market high this month. The same is true of the stronger world stock markets. As we've been pointing out, however, they're all temporarily overbought and downward corrections are now getting started. This is not unusual following the significant rises they've had and this will probably continue in the weeks ahead. But following these corrections, the U.S. and global stock markets remain poised to rise much further. Keep the common stocks you have."

The Adens' cynical conclusion:

"The stock market loves the liquidity the Fed is providing. Whether you agree with what's happening or not, Wall Street views the Fed's actions as positive. It's not looking at the super long-term consequences."

If inflation is returning, nominal interest rates will rise. The Adens think we're near the low (in fact, they recommend mortgage refinancing). But it's not here yet. They write:

"The 30 year Treasury is near 4%. When will it be time to short the long bond or buy an inverse Treasury ETF? What will the trigger be?

"Here's what we're watching...a rise above 3.35% on the 10-year yield would be the first sign, ideally followed by a rise above 4.30% on the 30-year. The final signal that a mega upmove in interest rates is unfolding, which would totally confirm the big inflation scenario, would be a sustained rise above 4.65% on the 30-year yield.

"Currently, we're checking the best ways to take advantage of this should it play out. It's not time to buy yet, but the probable candidates when the time comes, are ones like ProFunds:Rs Rt Opp;Inv /quotes/comstock/10r!rrpix (RRPIX 13.30, -0.24, -1.77%) and ProShares UltraShort 20+ Year Treasury ETF /quotes/comstock/13*!tbt/quotes/nls/tbt (TBT 43.09, -1.06, -2.40%) .

About gold, the Adens note that "gold's peak in 1980 at $850 is the equivalent of about $2400 in current dollars. Gold has not even approached that level yet and the situation is far more serious now than it was then."

They conclude:

"The focus now is on the next phase of the current rise. If we continue to use proportions, the bull market's second rise from 1976 to 1980 gained 750%. Using the same growth and applying it to the current bull market, we could see gold eventually reach $4100 during the next run-up. And if you take the entire bull market gain in the 1970s at 2300% and extrapolate, then $5800 would be the equivalent upside target."

US govt exiting markets

recently there are talks of the fed planning to exit markets when the time is right.

but that right time would be at least 18 months away. inflation might not be a factor for a long while, that does not mean raw mateirals etc would become cheap, prices of finished goods would ie margins of manufacturers are squeezed. why? us being the largest consumer market is hit from all sides:

• weak house prices,
• markedly reduced govt revenue esp state government who should balance their books which means further cuts ahead,
• higher oil prices,
• jobless recovery that does not boost jobs
• banks curtailing lending
  

which in all do not boost the retail market and in turn would not boost growth since consumer spending makes up 70% of the GDP.