March 3, 2014

If You Build It, They Won’t Come: Opinion

Posted in business, Capital, cost of living, Economic Growth, Economy, Federal Reserve, generation, government, income gap, industrial economy, Inflation, investment advisor, investment banking, investments, job market, labor force, Labor Market, large business, medicare/medicaid, National Federation of Independent Business's, revenue, Robert Barone, small business, social media, social security, taxes, Unemployment, wages, Wall Street at 8:31 PM by Robert Barone

It is not the strongest of the species that survives, nor the most intelligent, but the one most responsive to change.– Charles Darwin

I am often asked: “When do you think the economy will return to normal?”

My response: If by “normal” you mean what we had from the 1980s to 2008 — the “if you build it, they will come” economy — the answer is, not anytime in the foreseeable future.

The economic environment has permanently changed, and businesses that don’t adapt to the new environment will become extinct like dinosaurs. Think about Kodak and Polaroid. They were big, strong and probably smart, but they didn’t adapt.

Slower Growth

In the new business environment, economic growth will be much harder to achieve, the income gap will continue to grow and bigger and more intrusive governments at all levels will demand more revenue.

In mid-February, the Congressional Budget Office concluded that potential economic growth for at least the next 10 years will be much lower than what we have experienced for the last few decades. They attribute this to the health system known as Obamacare as well as disincentives to work.

A Growing Income Gap

The growing income gap is well documented. What’s not well documented are the causes.

There are two major ones starting with government policy. Federal Reserve money printing, for example, benefits the most affluent and Wall Street’s financial institutions. Government policy to under-report inflation (which began in earnest in 1994) reduces budget deficits by limiting payouts to Social Security and Medicare recipients and saves interest costs on the debt. But it has kept wage rates from keeping pace with inflation.

If inflation has been understated by just three percentage points per year since 1994, then wage earners, who have only received “cost of living” adjustments, have lost 55% of their purchasing power. No wonder both spouses have to work (some with two jobs) and still have a hard time making ends meet.

But, there is another factor at play here. In the Industrial Revolution, innovation benefited all workers. It wasn’t hard for workers with little formal education to learn how to operate machine tools, and they could master skills needed in the new industrial economy.

But, that is not true today. In fact, the National Federation of Independent Business’s surveys have for some time now shown an increasing trend that businesses cannot find the skills they need. As a result, jobs go unfilled. The jobs that are available require skills only learned through and intensive educational process, such as majoring in engineering or computer science at a university.

These are the folks who are getting the high paying jobs. Those with few or no skills must take much lower-paying service type or minimum wage jobs. In the latest unemployment survey, the unemployment rate among college graduates was 3.3%, for those with high school degrees it was 7.3%, and for those with less than a high school diploma, it was 11.1%. Thus, it appears that the nature of the new technology revolution is also contributing to the income gap.

Other Endemic Factors

For the past five years, multinational corporations have been hoarding cash. Capital expenditures are at their lowest growth levels in six decades. Perhaps these large businesses have recognized that growth will be slow and that revenue growth will be a function of acquisitions.

Finally, new laws, regulation and taxation strangle small businesses — the recognized driver of economic growth for the past 60 years. The stranglehold that regulators have on community banks that restricted lending to small businesses is just one example.

Unfortunately, instead of recognizing that government policies have both slowed the economy and widened the income gap, politicians are likely to use these as wedge issues. So it appears that more regulations and increased taxation on small businesses and higher income earners is certain.

The Survival Mentality

In such a tough, low growth environment, businesses must be more innovative. For instance, 80 million Millennials (those between 15 and 35 years old) will soon have more spending power than any other generation in history. The common characteristic of this generation is they make spending decisions only after consulting social media (friends, Web sites, comments from strangers).

Businesses have to recognize this and play in that space. This generation also has different attitudes toward such things as cars. They are more interested in convenience and access than ownership. In addition, the recognition that the more highly educated are likely to have the disposable income may dictate marketing strategy.

In conclusion, don’t expect a return of the “if you build it, they will come” economy. Without an approach that is fundamentally different from what has been the norm for the past 30 years, many businesses will become extinct.

Robert Barone (Ph.D., economics, Georgetown University) is a principal of Universal Value Advisors, Reno, a registered investment adviser. Barone is a former director of the Federal Home Loan Bank of San Francisco and is currently a director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Co., where he chairs the investment committee. Contact Robert Barone or the professionals at UVA (Joshua Barone and Andrea Knapp) are available to discuss client investment needs.
Call them at 775-284-7778.
Statistics and other information have been compiled from various sources. Universal Value Advisors believes the facts and information to be accurate and credible but makes no guarantee to the complete accuracy of this information.
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February 12, 2014

US Economy: Stealth Inflationary Pressures Are Not Yet Priced Into Markets

Posted in Banking, Capital, CBO, Congressional budget office, deflation, Economic Growth, Economy, emerging markets, establishment survey, Europe, Finance, GDP, Inflation, investment advisor, investment banking, investments, job market, labor force, Labor Market, obamacare, payroll tax reductions, Robert Barone, small business, Unemployment at 5:18 PM by Robert Barone

In countries where central banks are printing money, such as the US, UK, eurozone, and Japan, deflation is the fear. On the other hand, inflation is high in countries where central banks have followed more traditional policies, like Brazil (official inflation 5.9%), India (11.5%), Indonesia (8.4%), and Turkey (7.4%). One explanation is the carry trade. Because the central banks of the developed world promised low rates for the long term, the liquidity created by those central banks found its way into the economies of the emerging markets (EM) (read: borrow at low interest rates, invest at high ones). Unfortunately, most of those funds did not find their way into capital investment in those markets, but was instead used for consumption, which has played havoc with EM trade balances. When the demand side (usually measured by GDP) outstrips the supply side (potential GDP), inflation occurs. Now that the bubble in EM countries, caused by excess liquidity in the developed world, is starting to burst — investors no longer believe the carry trade will last much longer — what will become of all of that liquidity?

On February 4, the Congressional Budget Office (CBO), a supposed non-partisan government agency, released a shocking report, “The Budget and Economic Outlook: 2014 to 2024,” projecting that over the next 10 years the Affordable Care Act, commonly referred to as Obamacare, would reduce future employment rolls by more than 2.3 million. Overlooked in that report is the CBO’s projection that “potential” GDP in the US will be much slower over the next 10-year period than it has averaged since 1950; this in an age of innovation where rapid change is considered normal. The CBO says that “changes in people’s economic incentives caused by federal tax and spending policies set in current law are expected to reduce the number of hours worked…” and “that estimate largely reflects changes in labor hours worked owing to the ACA [Affordable Care Act].”

In the US, if the current gap between real GDP and potential GDP closes (and the so-called “slack” in the economy disappears as the CBO projects it will), then, just like in the EMs, any growth on the demand side of GDP above potential GDP, ends up, by definition, as inflation.

There are a many measures that indicate that the economy is much closer to its potential than is generally assumed. One such measure is the fact that, despite record levels of cash flow (used mainly for stock buybacks or dividends), for the past five years, corporations have not reinvested in their plant and equipment. According to David Rosenberg (Gluskin-Sheff), the average age of the capital stock in the US is almost 22 years, an average not seen since 1958. Given the fact that the cost of capital is near an all-time low, there is something holding back such investment. Rosenberg speculates that it is likely found in overregulation and the uncertainty regarding tax policy. An old and aging capital stock implies a much lower growth rate of potential GDP than in the past when the capital stock was younger.

The second issue is the labor force. While the December and January Establishment Survey disappointed the markets (December’s survey reported 75,000 jobs added; January saw a gain of 113,000), nobody is talking about the Household Survey. This is the survey from which the “official” unemployment rate is calculated. While more volatile that the Establishment Survey, the Household Survey showed gains of 143,000 jobs in December and a whopping 638,000 in January. When combined with other surveys (NFIB) which show that 23% of small businesses have at least one open position that they cannot fill (a six-year high according to Rosenberg), and that there is a sustained uptrend in voluntary quits, it would appear that the Establishment Survey is the outlier and that the labor market is quite tight.

If, indeed, the CBO is correct and potential GDP growth will slow over the next 10 years due to Obamacare, a tight labor market in conjunction with old capital stock will only exacerbate that situation. Since the financial crisis, the unemployment rate has fallen from 10.0% in October ’09 to 6.6% in January ’14, a 3.4 percentage point decline. During that period of time, the annual GDP growth rate has been about 2.4%. After the recession of the ’90s, to get the unemployment rate to fall 3.4 percentage points (from 7.8% to 4.4%), it took an annualized GDP growth rate of 3.7%. The lower GDP growth required to reduce the unemployment rate implies that the gap between actual and potential GDP is either small or nonexistent.

The aging of the capital stock, lack of new investment, and the tightening labor market indicate that resources are in short supply, which means that there is a strong probability that any semblance of robust economic growth will be accompanied by inflation. Adding to such pressure is the liquidity sloshing around the EM world. If it finds its way home, as appears to be happening, unless much of it goes into new capital formation (which is unlikely given the current regulatory and tax regimes), we are likely to see growing inflationary pressures much sooner than is currently priced into the financial markets.

Robert Barone (Ph.D., economics, Georgetown University) is a principal of Universal Value Advisors, Reno, a registered investment adviser. Barone is a former director of the Federal Home Loan Bank of San Francisco and is currently a director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Co., where he chairs the investment committee. Contact Robert Barone or the professionals at UVA (Joshua Barone and Andrea Knapp) are available to discuss client investment needs.
Call them at 775-284-7778.
Statistics and other information have been compiled from various sources. Universal Value Advisors believes the facts and information to be accurate and credible but makes no guarantee to the complete accuracy of this information.

December 30, 2013

8 U.S. business predictions for 2014

Posted in Auto Industry, business, Economic Growth, Economy, Finance, GDP, gold, government, Housing Market, Inflation, interest rates, investment advisor, investment banking, Labor Market, Manufacturing, Robert Barone, Unemployment, Wall Street at 8:45 PM by Robert Barone

The holiday season is the traditional time of year to prognosticate about the upcoming year. But, before I start, I want to make a distinction between short-term and long-term forecasts.

Long-term trends are just that, and they unfold slowly. And, while I have great concerns about the long-term consequences of inflation, the dollar’s role as the world’s reserve currency, the bloated Fed balance sheet and resulting excess bank reserves, and the freight train of unfunded liabilities which will impact the debt and deficit, because these are long-term issues and simply don’t appear overnight, I do not believe there is anything contradictory about being optimistic about the short-term.

With that caveat, here are my predictions for 2014:

1. Real GDP will grow faster in 2014 (3.5%): The “fiscal drag” that caused headwinds for the economy has now passed with the signing of the first budget in four years in mid-December. Since 2009, governments at all levels have been shedding jobs. But, that has now all changed. The November jobs reports show that employment at all levels of government has turned positive.

No matter your view of the desirability of this for the long-term, in the short-term, those employees receive paychecks and consume goods and services. I predict the real gross domestic product growth rate will be more than 3.5 percent in 2014.

2. Manufacturing and trade are healthy and will get better in 2014: The Institute for Supply Management’s indexes, both manufacturing and non-manufacturing, are as high or higher than they were in the ’05-’06 boom. In November, industrial production finally exceeded its ’07 prior peak level.

Auto sales today are as frothy as they were in the pre-recession boom, and auto sales in the holiday buying period are destined to surprise to the upside. Online sales in the weekend before Christmas overwhelmed both UPS and FedEx, causing many gifts to be delivered on the 26th.

3. Housing, while not near its old bubble peak, has turned the corner: Part of the reason the economy is not overheating is housing. While November’s housing starts surprised to the upside, they still only represent 53 percent of their bubble peak. Nevertheless, because new home construction has been in the doldrums for the past six years, the resurgence evident in the economy has pushed the median price of homes to the point where many homeowners, who were underwater just a couple of years ago, can now show positive home equity on their balance sheets

While interest rates have risen and may be a cause for concern for housing, they are still very low by historic standards, and we have a Fed that, on Dec. 18, recommitted to keeping them down for a period much longer than the market ever anticipated.

4. The unemployment rate will end 2014 somewhere near 6%: Because the popular unemployment index is a lot higher today than it was in the ’05-’06 boom (7 percent vs. 5 percent), the popular media assumes that the labor markets are still loose. But, demographics and incentives to work have changed over the past seven years.

The labor sub-indicators imply much tighter labor conditions than the traditional unemployment index would lead one to believe. Recent data for nonfarm payrolls are equivalent to their monthly numbers in ’05-’06. Weekly new jobless claims are in a steep downtrend. The sub-indexes for layoffs and discharges are lower than they were in ’05-’06. And hard-to-fill-position and job-opening subindexes are in definite uptrends and are approaching ’05-’06 levels. As a result, expect a steady decline in the unemployment rate in 2014.

5. Investment in new plant & equipment will rise in 2014: For the past 5 years, large-cap corporations have hoarded cash and have not reinvested in their businesses. As a result, because equipment and technology is older, labor productivity has stagnated. This is one reason for the strong labor market. In 2014, I predict there will be an upturn in the reinvestment cycle. Beneficiaries will be technology companies and banks.

6. Inflation will be higher in 2014, both “officially” and in reality: While every individual player in the financial markets knows that everyday prices are rising, each espouses the Fed’s deflation theme, perhaps only to play along hoping the Fed will continue printing money.

Are we to believe that the jump of retail sales in October of 0.6 percent followed by 0.7 percent in November were all without price increases as the Bureau of Labor Statistics says? The “official” consumer price index says that airline fares have not increased despite the 18 percent growth of airline revenues in 2013 (bag check fees, etc.)? Should we believe that double-digit revenue growth rates at restaurants are volume-only and we are just eating more? I don’t know what the actual rate of inflation is, but it sure feels like it is higher than 5 percent. In 2014, it will be even higher than that.

7. Equity markets will rise in 2014: The fiscal headwinds are behind us; industrial production and sales are strong; housing is healing, the rise in home prices have generally raised consumer confidence; there appears to be the beginning of an upturn in the capital investment cycle; and, most important, the labor markets are strong. Any equity market corrections should be bought. Meanwhile, longer-duration bonds should be avoided unless there is an accompanying hedge instrument.

8. Gold — it should rise in 2014, but this is a tricky market: Every indicator points to a rise in the price of gold, especially since all of the world’s major central banks are printing money at record rates. But, contrary to logic, the price of gold has fallen in 2013 by nearly 30 percent.

The reason behind this lies with leverage and hypothecation — getting a loan using collateral — in the gold market. Once again, Wall Street has discovered that money could be made by leveraging; and the paper gold market is about 100 times larger than the physical market. When you have that kind of leverage, collusion, price fixing, or just plain panic can quickly move markets.

As inflation is recognized, the price of gold (both physical and paper) should rise. In a healthy economic year, as I predict for 2014, a collapse in the paper gold market is unlikely, and perhaps the price of gold will rise in response to rapidly expanding fiat money. But beware. The only safe gold is what you can hold in your hand.

October 16, 2012

Why Jack Welch Has A Point About Unemployment Numbers

Posted in Economy, recession, Uncategorized, Unemployment tagged , , at 9:54 PM by Robert Barone

When the September employment data were released by the Bureau of Labor Statistics (BLS), depending on political persuasion, the news was either excellent or it was a sham. We saw reactions like those former General Electric CEO Jack Welch, who tweeted a suggestion of manipulation. On the other hand, the Obama administration has made political hay with the rapid fall in the unemployment rate in August and September.

Every month the BLS takes two surveys relative to employment, the Household Survey (officially titled The Current Population Survey), and the Establishment Survey (The Current Employment Statistics Survey). Both surveys have acknowledged flaws and both have a significant bias that pushes the number of jobs upward and the unemployment rate lower. To correctly interpret the data, one must understand how the statistics are calculated, how the biases are imparted, and the magnitude of those biases.

The Household Survey is used to calculate the various employment and unemployment indexes and rates. There are several of these indexes. Most of the public only hears about one of them, the one the BLS refers to as U-3 (7.80% seasonally adjusted (SA) for September). The public may be vaguely aware of one other one, the U-6. The numbers are produced from a monthly survey of 60,000 households. Here are some of the flaws:

•Because the sample of households is small relative to the total number of households, the series is notoriously volatile. In August, for example, the raw data (Not Seasonally Adjusted (NSA)) showed the number of jobs fell by 568,000. In September, that same number showed an increase of 775,000 jobs (NSA). The BLS reported this as 873,000 SA which is the number that the media got all excited about. Using the NSA data, over the two months, 207,000 jobs were created, or 103,500 per month on average. This leads to a very different conclusion from a single 873,000 data point.

•In 1994, the BLS changed the way in which it counts “discouraged” workers for the U-3 index. If one is unemployed for more than 52 weeks, even if one continues to look for employment, one is dropped from the labor force. A smaller denominator with the same number employed leads to a higher employment rate and a lower unemployment rate. Ask yourself how much sense this makes in today’s world where the average unemployment duration is 40 weeks and there have been several years where unemployment benefits last for 99 weeks.

•The definition of employment is biased. If one worked part-time in the last 30 days, even baby sitting for a few hours one time, one is counted as employed. There is no weighting for part-time work in the U-3 index.

•The biggest issue with the Household Survey is the seasonal adjustment (SA) process itself. Theoretically, for the year as a whole, the changes in employment by month should add up to the same number, i.e., the monthly SA and NSA changes should each add up to the same amount. And, theoretically, the SA should be calculated once at the beginning of the year. But, for the last few years, the BLS has adopted what they call a “Concurrent” SA process in which they recalculate the seasonal factors every month. The practical result of this method is that every month, all of the 12 seasonal factors change, which means that all of the year to date monthly SA data also changes. As a result, by December, the January number has changed 11 times, the February number 10 times, the March number 9 times, etc. Here’s the rub. The BLS will not publish the changed monthly data on the grounds that they don’t want to “confuse” the data users. Because they do this, the monthly change in the unemployment rate is not meaningful because the number it is being compared to has changed, but the BLS won’t tell us what it has changed to. The September 7.8% SA unemployment rate (U-3) as reported in early October is being compared to August’s 8.1% SA rate (reported in early September) despite the fact that August’s unemployment rate has likely changed due to the calculation of new seasonal factors. The BLS knows what the changed August number is, but they won’t publish it until January, 2013.

All in all, the U-3 unemployment number is deeply flawed and should not be relied on as the business media and even the capital markets do. A better (though still flawed) indicator of labor market conditions is the U-6 measure. For both August and September, U-6 showed an unemployment rate of 14.7%. Unlike U-3, U-6 adds back to both the labor force and to the unemployed “discouraged’ and “marginally attached” workers, i.e., those who have stopped looking for work but still want a job, and accounts for part-time workers who want full time employment. The flaw is that U-6 removes the long-term discouraged worker after 52 weeks of unemployment. Nevertheless, it is still a much better indicator than U-3. John Williams estimates that if U-6 counted the long-term discouraged workers, the unemployment rate would be 22.8%.

The Establishment Survey collects data from more than 141,000 businesses and government agencies. The sample is about one-third of all nonfarm payroll employees in the U.S., and, as such, it is much less volatile than the Household Survey. Normally, the business media concentrates on this survey. This survey suffers from the same seasonal adjustment issues as the Household Survey except that BLS reports the current number (141,000 SA for September) and the revised data from the immediate past two months. It does not report the changes from earlier months, so it is possible that jobs reported in the current month were “borrowed” from earlier months, which aren’t reported until the next January. In fact, Mr. Williams contends that this is precisely what happens in the second half of each year.

Besides the transparency issue in the SA process (which can lead some to the manipulation conclusion) which the BLS could easily remedy simply by publishing the changed data on a monthly basis, the Establishment Survey suffers from a significant upward bias, known as the Birth-Death model. In the 80s, the BLS was constantly embarrassed that it was under reporting the number of jobs in the Establishment Survey by approximately 50,000 jobs per month. That occurred because more small businesses were being established than were being closed. And, one could probably argue that this was also true in the 90s during the tech boom. As a result, BLS adds approximately 50,000 jobs per month to the Establishment Survey report. That seems inappropriate in today’s world.

From all of this, it is clear that the U-6 measure is a lot more reliable than the U-3, the one that is most widely reported. In addition, when dealing with the Establishment Survey, be wary of the 50,000 jobs bias.

When I began work on this paper in early October, I was skeptical that there could be actual manipulation of the data. Mr. Williams has documented at least three cases of manipulation which he says have been confirmed by employees or former employees going all the way back to the 1960s. That is not a lot. Yet, one must worry about the lack of transparency in BLS’s reporting. After all, for the years 2010 and 2011 for which we have final numbers released in January of the following year, there were much lower levels of job creation than originally reported. Unfortunately, the media pays no attention to such revisions, and the bias goes unnoticed.

In an October 9 Wall Street Journal op-ed, Jack Welch defended his tweet, indicating that the economy would need to be growing at breakneck speed for unemployment to drop from 8.3% to 7.8% over two months. While this is quite different from the “manipulation” charge, it does make sense. The fact is, almost all other underlying data point to weaker, not stronger jobs numbers. New part-time jobs dominated the Household Survey data in September. Goods producing jobs actually fell. The National Federation of Independent Businesses index of employment softened in September as did Monster’s employment index. All of this seems to be in direct conflict with a SA increase of 873,000 jobs in September (Household Survey), the largest increase since 1983. The data also show that in August and September, governments added 602,000 new employees. Anyone following state and local government finances knows that number has to be far from accurate.

While there is no direct proof of manipulation, there are a lot of sound reasons, based on flawed methodologies, and based on nearly every other underlying employment data series, not to trust the headline making unemployment data.

Robert Barone (Ph.D., Economics, Georgetown University) is a Principal of Universal Value
Advisors (UVA), Reno, NV, a Registered Investment Advisor. Dr. Barone is a former Director of the Federal Home Loan Bank of San Francisco, and is currently a Director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Company where he chairs the Investment Committee.

Information cited has been compiled from various sources which UVA believes to be accurate and credible but makes no guarantee as to its accuracy. A more detailed description of the company, its management and practices is contained in its “Firm Brochure” (Form ADV, Part 2A) which may be obtained by contacting UVA at: 9222 Prototype Dr., Reno, NV 89521.

Ph: (775) 284-7778.

August 2, 2012

Equities: Is a bear market inevitable in this economy?

Posted in debt, Economic Growth, Economy, Europe, Finance, government, investment banking, investments, payroll tax reductions, recession, Stocks, Uncategorized, Unemployment tagged , , , , , , , , , , , , , , , , , at 7:40 PM by Robert Barone

All of the data and the trends in the data indicate that it is possible that a recession might already have begun.

• Job creation has been dismal in the second quarter, with little hope for improvement soon; jobless claims are, once again, on the rise.

• Retail sales have fallen three months in a row; this has never occurred without an ensuing recession. What is of greater concern is that this has occurred while gasoline prices have been falling.

• While market pundits have cheered small gains in housing data, it is clear that housing is still bottom bouncing. Changes in foreclosure laws have caused supply constraints that have made it appear that home prices are rising again.

• Industrial production, the one bright spot in the economy, showed a decline in May before recovering somewhat in June.

• The drought has caused raw food and commodity prices to spike. These will soon translate into higher food and raw input costs. (Is anyone now questioning the wisdom of the congressional mandate to produce increasing quantities of ethanol from corn instead of sugar?)

 • Consumer confidence continues at levels below those seen in past recessions . Much of this is due to uncertainty surrounding fiscal policy and taxes.

• In the June Philadelphia Fed Survey, manufacturers were asked to list reasons for slowing production; 52 percent cited uncertain tax policy and government regulations.

• Real incomes are falling. The downward bias in the inflation numbers produced by the government inflates the reported GDP numbers. It has been my view that, as a result of the biased reporting, the recession never really ended, and real GDP is much lower than reported.

 Equity market up for year

 Nevertheless, despite all of the poor data, the equity markets have held up. At 1,338 (the closing level on July 25), the S&P 500 is still 6.4 percent higher than it was at the beginning of the year. This is strange, given that every other major market in the world is down 20 percent and in bear market territory. Here are a couple of possible explanations:

• The equity markets used to be a leading indicator of the economy. Severe market corrections (20 percent or more) usually meant recession was either imminent or already here. But, with the advent of computerized trading, the market now appears to be more of a coincident indicator. In late 2007, when the last recession began, the market was only off 5 percent from its October peak.

• Europe: There is such financial chaos in Europe that a flight to the dollar is continuing. Because higher quality bond yields are so low, some of the funds have found their way into the U.S. equity markets, thus keeping them buoyed.

Neither of these two reasons should give investors any confidence that U.S. markets can hold up. Besides the poor internal economic data within the U.S., worldwide data have been weak. In addition to the obvious problems in Europe, China is in a much slower growth mode, as is Japan, the rest of Asia, and even the commodity producers like Australia and Canada.

European soap opera
 
Europe is a whole other issue. American markets have benefited from their financial issues, but when panic and contagion show up over there, markets behave poorly over here. We have seen this time and again as the European drama (really a soap opera) has unfolded. It would be far better for the European politicians to come up with an
orderly plan for countries to exit the monetary union than to deny that the union isn’t in any danger of falling apart.

 

Solvable “fiscal cliff”

Finally, the approaching “fiscal cliff” in the U.S. is another wild card that could have a significant impact on capital markets. The good thing about the “fiscal cliff” is that it isn’t an outside force being imposed. The cliff is avoidable and completely under the control of Congress and the president.

With all of this going on, is a bear market inevitable? While I think that the confluence of events (worldwide economic slowdown, slowdown in the U.S., European financial chaos, “fiscal cliff”) make it likely, as I indicated in my last column, the application of “business friendly” policies could prevent it.

Until visibility into policy becomes clearer, investors should continue to be extremely cautious. They should remain liquid.

 Finally, the U.S. economy is so fragile that any external shock, like a financial implosion in Europe, is certain to have negative impacts on U.S. markets. Policy responses to economic slowdown or financial chaos (e.g., printing of money by the European Central Bank or QE3 by the Fed) are likely to have a positive impact on the value of precious metals and commodities. And the ongoing drought will definitely move food and commodity prices upward.

Robert Barone (Ph.D., Economics, Georgetown University) is a Principal of Universal Value
Advisors (UVA), Reno, NV, a Registered Investment Advisor. Dr. Barone is a former Director of the Federal Home Loan Bank of San Francisco, and is currently a Director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Company where he chairs the Investment Committee.
 
Information cited has been compiled from various sources which UVA believes to be accurate and credible but makes no guarantee as to its accuracy. A more detailed description of the company, its management and practices is contained in its “Firm Brochure” (Form ADV, Part 2A) which may be obtained by contacting UVA at: 9222 Prototype Dr., Reno, NV 89521. Ph: (775) 284-7778.

July 23, 2012

Time for us to make enlightened policies

Posted in Armageddon, Bankruptcy, debt, Economic Growth, Economy, Europe, Finance, Foreign, recession, Spain, Uncategorized, Unemployment tagged , , , , , , , , , , , , , , at 8:10 PM by Robert Barone

On July 6, the country received another disappointing jobs report. For the month, the establishment survey indicated jobs grew by 80,000; for the quarter, such growth averaged 75,000, about one-third of the 26,000 monthly average for the first quarter. Clearly, the worldwide slowdown in Europe, China, India, Brazil, etc. is having an impact here.
 
Deleveraging and slow growth
 
Let’s be clear. We are in the midst of a worldwide debt deleveraging (i.e., consumers are paying down debt instead of consuming). So, absent another round of sweeping innovation anytime soon (e.g. the Internet), in the natural course of things, economic growth is going to be painfully hard to come by. As a result, it is doubly important that economic policies promote the growth that is available.
 
Policies are key
 
Clearly, monetary policy has led with pedal-to-the-metal and unconventional therapies. On the fiscal side, the Keynesian remedies (huge deficits) have been applied. Together, however, such policies haven’t worked well enough to establish a solid economic foundation, as the recent data prove. For those who study economic history, it is clear that deficit spending alone doesn’t work if government is simply stepping into the role of debtor in place of households, as total debt owed has continued to rise.The scary part is the interest cost of the rapidly accumulating debt when interest rates rise. For those who don’t believe me, just look at Greece, Portugal, Ireland, Spain, Cyprus and Italy in today’s world. Rising interest rates (near 7 percent for the 10-year government issue) make it impossible for states to survive without bankruptcy, a bailout or financial ruin.

 
Policy failures
 
In times like today, when deleveraging is slowing economic activity, government should adopt policies that promote the private sector, because it is the private sector, not government, that is the engine of economic growth. Unfortunately, the following federal policies currently are negatively impacting the private sector:

• Taxes:
Uncertainty surrounding tax policy causes the private sector to take less risk, which lowers investment and job creation. For the last several years, Congress has signaled that significant tax increases are just ahead (currently referred to as the “fiscal cliff” due to occur on Jan. 1, 2013), only to push them back at the last minute for another short period. Nevertheless, the uncertainty persists, and economic hesitancy pervades.
 
• Corporate cash: America’s multinational corporations are flush with cash, and while the politicians chide them for not putting it to work at home, it is their very policies that are to blame. Sixty percent of that corporate stash is held offshore, and it won’t come home because, if it does, 35 percent of it will disappear in taxation. Policies that encourage the return of that cash and its investment at home would spur job creation and economic growth.

• Corporate tax rate:
Having one of the highest corporate tax rates in the world discourages investment at home and makes investment elsewhere more fruitful. Corporate taxes are paid by consumers via higher prices.

• Energy policy: 
Cheap energy is the No. 1 requirement for robust economic growth. Current policies appear to be designed to raise energy prices to spur the development of government selected industries. The result is great waste (e.g. Solyndra) and significantly reduced economic growth.

• Taxmageddon:
The U.S. has a joke for a tax code. Talk about a Rube Goldberg! High, and threatened increased taxes on capital and investment just discourage economic growth. The tax code needs to be thrown out in favor of a broad-based, simple, and fair system.

• The financial system:
Scandal after scandal show how pervasive lawlessness is among the world’s “too big to fail” institutions. So far, no U.S. banker has gone to jail, nor trial, nor has anyone been indicted. Regulatory policy encourages moral hazard (excessive risk taking backed by implicit taxpayer bailouts) and discourages lending to the private sector. All of this reduces economic growth.
 
 

Investing in a deleveraging world 

 
For investors, the markets will continue to show volatility, with market up-drafts occurring when there is a perception of a policy change. For example, the recent hope generated by the late June “European Summit” caused a large rally in the equity markets, as will the hoped for move by the Fed toward more stimulus when and if it occurs. Down-drafts occur when poor economic data cross the tape.
 
Implications for Nevada
 
The policy prescription doesn’t end at the federal level. It is also relevant at the state and even local levels. Nevada has been challenged to attract new businesses now that gaming is widespread.The tax system in Nevada could be such a strength, especially when compared to what is going on in California. CNBC ranks Nevada 18 in “Business Friendliness,” but 30 in “Cost of Business.” Two things are critical: 1) The Legislature must stop threatening new business taxation every two years when it meets. The uncertainty this breeds prevents businesses from relocating here.

2) Policymakers must identify those businesses that would benefit from such a philosophy. There might be several categories that would so benefit, but one immediately comes to mind (maybe because I have worked in it all my life) — financial and intangible asset firms. This category includes managers of investments, hedge funds, trusts, patents and trademarks, insurance companies and services, banking and subsidiary finance companies. While these firms are usually small, their salary levels generally are high. A University of Nevada, Reno study indicates that salaries in these firms average $88,000, twice the state’s average.

Jon Ralston, a political columnist and host of a daily political commentary show seen locally, recently criticized the Apple move, saying that they will grow “astronomical profits” but that the state won’t benefit much because the number of jobs is small. But its move, along with those of Microsoft (which now employs several hundred), Intuit (also a large employer), Oracle and others, appears to recognize that Nevada, indeed, has something to offer now. If the state attracts enough of these companies, there will be plenty of tax revenue generated. The state should play to its current strengths and make sure its policies protect and nurture those strengths.

 
 
Robert Barone (Ph.D., Economics, Georgetown University) is a Principal of Universal Value
Advisors (UVA), Reno, NV, a Registered Investment Advisor. Dr. Barone is a former Director of the Federal Home Loan Bank of San Francisco, and is currently a Director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Company where he chairs the Investment Committee.
 
Information cited has been compiled from various sources which UVA believes to be accurate and credible but makes no guarantee as to its accuracy. A more detailed description of the company, its management and practices is contained in its “Firm Brochure” (Form ADV, Part 2A) which may be obtained by contacting UVA at: 9222 Prototype Dr., Reno, NV 89521.
Ph: (775) 284-7778.
 

July 9, 2012

Economic issues, good and bad

Posted in Banking, Big Banks, debt, Economic Growth, Economy, Europe, Federal Reserve, Finance, government, greece, Housing Market, International Swaps and Derivatives, investment advisor, investment banking, investments, Italy, recession, sovereign debt, Spain, taxes, Unemployment tagged , , , , , , , , , , , , , , , , , , , , , , , , , at 3:17 PM by Robert Barone

This is a mid-year overview of the economic and policy issues in the U.S. and worldwide, both positive and negative. I have divided the issues into economic and policy issues. With enough political will, policy issues can be addressed in the short run, while economic issues are longer-term in nature and are clearly influenced by policy.

Positives

• Cheap energy (economics and policy): There is growing recognition that cheap energy is key to economic growth; the next boom will be based on cheap energy.
 
• Manufacturing (economics): After years of decline, American manufacturing is in a renaissance, led by the auto industry.

• Corporate health (economics): Large corporations are extremely healthy with large cash hoards and many have low cost and low levels of debt.

• Politics (policy): Americans are tired of special interests’ ability to pay for political favors.

 
Negatives
 
• Recession in Europe (economics): This has implications for world growth because Europe’s troubled banks are the engines of international lending; Europe’s economy rivals that of the U.S. in size.

• European Monetary Union (policy): A Greek exit from the euro is still probable after recent election and is likely to spread contagion to Portugal, Spain and even Italy. There is also danger here to America’s financial system.

• Brazil, Russia, India, China or the BRIC, Growth Rate (economics): China appears to be in danger of a hard landing, as is Brazil. India is already there. This has serious implications for commodity producers like Canada and Australia.

• Fiscal cliff and policy uncertainties (policy): A significant shock will occur to the U.S. economy if tax policy (Bush tax cut expiration and reinstatement of the 2 percent payroll tax) isn’t changed by Jan. 1, 2013.

• Entitlements (policy): Mediterranean Europe is being crushed under the burden of entitlements; the U.S. is not far behind. This is the most serious of the fiscal issues but the hardest for the political system to deal with.

• Housing (economic & policy): In the U.S., housing appears to have found a bottom, but because of falling prices and underwater homeowners, a significant recovery is still years away. Housing is a huge issue in Europe, especially Spain, and it will emerge as an issue in Australia and Canada if China has a hard landing.

• Energy costs (economics & policy): The current high cost of energy is killing worldwide growth (see “Positives” above).

• U.S. taxmageddon (policy): The U.S. tax system discourages savings and investment (needed for growth), encourages debt and favors specific groups.

• Too Big To Fail (TBTF) (policy): The U.S. financial system is dominated by TBTF institutions that use implicit government backing to take unwarranted risk; TBTF has now been institutionalized by the Dodd-Frank legislation; small institutions that lend to small businesses are overregulated and are disappearing.

• Debt overhang (economics): The federal government, some states and localities and many consumers have too much debt; the de-leveraging that must occur stunts economic growth.

• Inflation (economics & policy): Real inflation is much higher than officially reported. If a true inflation index were used, it is likely that the data would show that the recession still hasn’t ended.

It is clear from the points above and from the latest data reports that worldwide, most major economies are slowing. It is unusual to have them all slowing at the same time and thus, the odds of a worldwide recession are quite high.

In the context of such an event or events, the U.S. will likely fare better than most. But that doesn’t mean good times, just better than its peers. There is also greater potential of destabilizing events (oil and Iran, contagion from Europe, Middle East unrest), which may have negative economic impacts worldwide. Thus, in the short-term it appears that the U.S. economy will continue its lackluster performance with a significant probability of an official recession and vulnerable to shock type events. (Both the fixed income and the equity markets seem to be signaling this.)

 
 
The extension of Operation Twist by the Federal Reserve on June 20 (the Fed will swap $267 billion of short-term Treasury notes for long-term ones through Dec. 31 which holds long-term rates down) was expected, and continues the low interest rate policy that has been in place for the past four years. That means interest rates will continue to remain low for several more years no matter who is elected in November. Robust economic growth will only return when policies regarding the issues outlined in the table are addressed.

Looking back at my blogs over the years, I have always been early in identifying trends. The positive trends are compelling despite the fact that the country must deal with huge short-term issues that will, no doubt, cause economic dislocation.

The only question is when the positives will become dominant economic forces, and that is clearly dependent on when enabling policies are adopted. 1) In the political arena, there is a growing restlessness by America’s taxpayers over Too Big To Fail and political practices where money and lobbyists influence policy and law (e.g., the Taxmageddon code). 2) The large cap corporate sector is healthier now than at any time in modern history. Resources for economic growth and expansion are readily available. Only a catalyst is needed. 3) America is on the “comeback” trail in manufacturing. Over the last decade, Asia’s wages have caught up.

Cultural differences and expensive shipping costs are making it more profitable and more manageable to manufacture at home. 4) Finally, and most important of all, unlike the last 40 years, because of new technology, the U.S. has now identified an abundance of cheaply retrievable energy resources within its own borders. As a result, just a few policy changes could unleash a new era of robust economic growth in the U.S. Let’s hope those changes occur sooner rather than later!

 
Robert Barone (Ph.D., Economics, Georgetown University) is a Principal of Universal Value
Advisors (UVA), Reno, NV, a Registered Investment Advisor. Dr. Barone is a former Director of the Federal Home Loan Bank of San Francisco, and is currently a Director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Company where he chairs the Investment Committee.
 
Information cited has been compiled from various sources which UVA believes to be accurate and credible but makes no guarantee as to its accuracy. A more detailed description of the company, its management and practices is contained in its “Firm Brochure” (Form ADV, Part 2A) which may be obtained by contacting UVA at: 9222 Prototype Dr., Reno, NV 89521. Ph: (775) 284-7778.

June 6, 2012

Analysis: Little to like about last week’s employment data

Posted in Banking, Big Banks, Economic Growth, Economy, Europe, Housing Market, recession, Unemployment tagged , , , , , , , , , , , , , , , , at 5:31 PM by Robert Barone

Worse yet, the March and April Establishment Survey reports were revised downward by 49,000, not an insignificant revision. So, employment has been much weaker than originally indicated for the past three months. Further, we’ve recently seen an upward pop in the weekly first-time applications for unemployment insurance.
 
The more comprehensive unemployment rate (U-6, which is the broadest measure of labor-market slack) rose to 14.8%, from 14.5%. We are seeing employers substituting part-time workers for full-time workers — again, a negative indicator.
 
Average weekly earnings fell 0.2% in May because of fewer hours worked, on average. This indicator has fallen in two of the past three months and is a harbinger of what we are likely to see in second-quarter consumption spending.
 
Construction employment, while up slightly in the actual number count, was negative when seasonal adjustment is applied. May normally shows positive hiring in the industry, but this May, hiring was significantly below expectations, thus the negative seasonally adjusted number. I suspect this is because of housing markets still struggling with falling prices and excess inventory (Nevada, Arizona, Florida and parts of California). Additionally, we have recently seen a fall in the number of building permits.
 
Downward revision to first-quarter gross domestic product, to 1.9%, from 2.2%, was mainly because of a weaker consumer. Given this poor employment report, second-quarter real GDP might barely be positive in the official reporting.
 
I have written about downward bias flaws in the reporting of official inflation indexes. That means real inflation is higher than what is reported. Those who buy gasoline and food already know this. The implication is that official real GDP numbers are biased upward. Think about that! If inflation is only 2% higher than that officially reported, then the recession that “officially” ended three years ago might be ongoing.
 
None of the above speaks to the potential future shock that might hit the U.S. economy from the fallout of the European banking and debt crisis and the deep recession unfolding there. Any contagion from Europe will only compound the issues identified above.
 
The only silver lining is that weakening demand so evident in the reports has pushed oil prices down precipitously. Thus, we can expect some relief at the pumps this summer. Otherwise, the report was abysmal.
 
 
Robert Barone and Joshua Barone are Principals and Investment Advisor Representatives
of Universal Value Advisors, LLC, Reno, NV, an SEC Registered Investment Advisor.
Statistics and other information have been compiled from various sources. Universal Value Advisors believes the facts and information to be accurate and credible but makes no guarantee to the complete accuracy of this information.
 
Universal Value Advisors, LLC is a registered investment adviser with the Securities and
Exchange Commission of the United States. A more detailed description of the company, its management and practices are contained in its “Firm Brochure”, (Form ADV, Part 2A). A copy of this Brochure may be received by contacting the company at: 9222 Prototype Drive, Reno, NV 89521, Phone (775) 284-7778.
 
Robert Barone (Ph.D., Economics, Georgetown University) is a Principal of Universal Value
Advisors (UVA), Reno, NV, an SEC Registered Investment Advisor. Dr. Barone is a former Director of the Federal Home Loan Bank of San Francisco, and is currently a Director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Company where he chairs the
Investment Committee.
 
Information cited has been compiled from various sources which UVA believes to be accurate and credible but makes no guarantee as to its accuracy. A more detailed description of the company, its management and practices is contained in its “Firm Brochure” (Form ADV, Part 2A) which may be obtained by contacting UVA at: 9222 Prototype Dr., Reno, NV 89521. Ph: (775) 284-7778.

April 24, 2012

After further review, employment remains unhealthy

Posted in Economic Growth, Economy, Federal Reserve, Finance, investment advisor, investment banking, investments, recession, Uncategorized, Unemployment tagged , , , , , , , , , , , , , , , , , , , , at 3:40 PM by Robert Barone

 Most of the business media is content to rehash headline data, simply passing on what the large wire services report with no further analysis. The headline, then, becomes the “conventional wisdom.”

Such was the case on the first Friday of April with the reporting of the unemployment rate. The conventional wisdoom was that there was some disappointment in that, using the Establishment Survey of the Bureau of Labor Statistics (BLS), the nation only created 120,000 new jobs. But the unemployment rate itself sank to 8.2 percent. For that we should be grateful, at least according to the conventional wisdom.
 
The accompanying chart tells quite a different story. It is a long-term chart. The period measured (horizontal axis) begins in 1988, so it covers about a quarter of a century. The right hand vertical axis measures the “headline” unemployment rate. That’s the headline rate most often reported. In government jargon, it is known as the U-3.
 
The scale is inverted, so a rising line means the unemployment rate is falling. This unemployment rate is supposed to measure the number of people looking for work who can’t find it as a percentage of all people with and without jobs. The left hand scale is a measure of the employment rate in its most basic form. Most readers won’t recognize this, as it is seldom reported, but it measures the number of people employed as a percentage of the population. As such, it is a better measure of the job market in that, unlike the unemployment rate, its definition can’t be changed (more on that later).
 
Looking at the chart, note that in the late 1980s, 63 percent of the population was employed. This rose to nearly 65 percent at the turn of the century. After falling to 62 percent in the 2001-02 recession, it rose back to 63 percent in 2007. Since the Great Recession, this measure of employment has been bottom bouncing just above 58 percent.
 
But what is really noticeable is the huge divergence between the two since 2010. The question to be asked is, “How can the ’employment rate’ show little to no improvement, while the ‘unemployment rate’ would lead one to conclude something altogether different?” The answer lies in how things are defined.
 
In 1994, BLS redefined the term ‘discouraged worker.’ This person was counted as unemployed only if he or she had been ‘discouraged’ for less than a year. After that, he or she was longer counted as ‘looking for work.’ Today, with jobs so hard to find, we clearly have many people who have been out of work for more than a year but are still actively seeking employment. Our social safety net even recognizes jobs are hard to find – unemployment insurance payments are available for 99 weeks. But our measurement of “unemployment” stops counting people as unemployed or even looking for work after 52 weeks. They are simply defined away! This goes a long way toward explaining the increasing discrepancy between the two series.
 
This past weekend, I made an off-the-cuff observation to my wife as we visited a fast food establishment with the grandchildren in tow. I noted employees seemed to be a lot older than what I remembered from a few years back. In recent blogs, both David Rosenberg (Gluskin Sheff) and John Hussman (Hussman Funds) wrote about the changes in the distribution of job creation since the end of the recession in June 2009. According to the Federal Reserve Bank of St. Louis, total employment in non-agricultural industries (seasonally adjusted) has grown 2.15 million since that time. For workers 55 and older, employment has grown by 2.98 million.
 
That means that employment has continued to contract for those under 55 years of age since the recession’s so-called end! How can that be healthy?
 
There is a term business media uses called “financial repression.” Essentially, it refers to the zero interest rate environment in which savers and retirees are no longer able to live off the interest on assets they accumulated prior to retirement. So they re-enter the labor force, working for minimum wages to supplement now inadequate retirement incomes.
 
The employment picture, then, when viewed from this lens, is much worse than the headline data and conventional wisdom would have you believe. I don’t think this is a surprise to most Americans, but it would certainly help if the business media stopped pretending.
 
Robert Barone and Joshua Barone are Principals and Investment Advisor Representatives of Universal Value Advisors, LLC, Reno, NV, an SEC Registered Investment Advisor.   Statistics and other information have been compiled from various sources. Universal Value Advisors believes the facts and information to be accurate and credible but makes no guarantee to the complete accuracy of this information.
 
Universal Value Advisors, LLC is a registered investment adviser with the Securities and Exchange Commission of the United States. A more detailed description of the company, its management and practices are contained in its “Firm Brochure”, (Form ADV, Part 2A). A copy of this Brochure may be received by contacting the company at: 9222 Prototype Drive, Reno, NV 89521, Phone (775) 284-7778.
 
Robert Barone (Ph.D., Economics, Georgetown University) is a Principal of Universal Value Advisors (UVA), Reno, NV, an SEC Registered Investment Advisor. Dr. Barone is a former Director of the Federal Home Loan Bank of San Francisco, and is currently a Director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Company where he chairs the Investment Committee.
 
Information cited has been compiled from various sources which UVA believes to be accurate and credible but makes no guarantee as to its accuracy. A more detailed description of the company, its management and practices is contained in its “Firm Brochure” (Form ADV, Part 2A) which may be obtained by contacting UVA at: 9222 Prototype Dr., Reno, NV 89521. Ph: (775) 284-7778.

February 22, 2012

Dr. Robert Barone Interview with Face the State on KTVN News Ch2

Posted in Banking, Big Banks, Business Friendly, Economy, Education, Finance, Foreclosure, Gaming, government, Housing Market, investment advisor, Las Vegas, Nevada, taxes, Unemployment tagged , , , , , , , , , , , , , , , , , , , , , , , , , , at 4:15 PM by Robert Barone

If you missed the televised interview with Robert Barone on February 16th, 2012 with Face the State on Ch.2 News, you can watch the video by clicking the link below.

Dr. Robert Barone Interview with Face the State on KTVN Ch. 2 News

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