There is no longer any doubt about slowing economic growth. Today's advance estimate of 1.6% real GDP growth for the third quarter is well under the 2.1% consensus estimate. It is also much lower than the 2.6% figure recorded for the second quarter.
The advance estimate is the most inaccurate because it is derived from incomplete data. Most likely, the figure will be revised. Yet the 1.6% growth figure provides no comfort. Many economists were warning about slowing growth, but few foresaw growth slowing this much.
Surprisingly, the consumer is holding up. Real personal consumption expenditures expanded 3.1%, contributing 2.13 points to GDP growth. But real residential fixed investments plummeted 17.4%, subtracting 1.12 points from GDP growth. Net exports subtracted 0.58 points from GDP growth.
Perhaps the best news in the report is the price index for gross domestic purchases. It was up just 2% as compared to the second quarter's gain of 4%. This means the Fed can worry a little less about inflation.
The recent rally in stocks was largely based on a bet that GDP would keep growing at 2-2.5%. Now we know that growth is slowing more than most investors had been expecting. We are also getting signals that the housing market is more troubled than many thought. Calls are rising for the Fed to start easing. Perhaps it's a good time to take some cash off the table.
Friday, October 27, 2006
Monday, October 23, 2006
OPEC's Credibility Problem
Boy, does OPEC have a credibility problem. The cartel was rumored to be considering a production cut of a million barrels per day. However, it was concerned the market wasn't taking it seriously. So, it held an emergency meeting and announced it would cut production by 1.2 million barrels per day. What did oil traders do? They bid down the price of oil.
Let's see if we've got this straight. OPEC announces a greater-than-expected production cut and oil prices fall. It seems no one is taking OPEC seriously--and for good reason. OPEC doesn't have a good record of making planned production cuts stick. That's because member nations have an incentive to cheat and produce more than their assigned quotas.
I bet OPEC nations know they've been getting a great deal. Thanks largely to Osama bin Laden and his terrorist network, oil prices have been factoring in a fear premium of perhaps $10 to $20 per barrel. Now that the fear is subsiding, so is the premium. Lower prices are also the result of a mild hurricane season, and a marginal decline in demand caused when gasoline prices hit $3 per gallon in August.
Can OPEC make production cuts stick this time? That depends on how much member nations love high prices. The planned cuts are supposed to go into effect on Nov. 1. They may stick for a while, but if history is any guide, many countries will soon be pumping more oil than they agreed to. As always, the burden will fall on Saudi Arabia. If the Saudis cut production in a meaningful way, oil prices will stabilize. If they don't, prices could fall to the mid-$40s in no time at all.
Falling oil prices get at least some of the credit for the rally in stocks. The S&P 500 is well above the yearend target set by the firm's investment policy committee. But Standard & Poor's Chief Investment Strategist Sam Stovall says it could go higher. He tells us why in the current segment of MoneyMasters.
Let's see if we've got this straight. OPEC announces a greater-than-expected production cut and oil prices fall. It seems no one is taking OPEC seriously--and for good reason. OPEC doesn't have a good record of making planned production cuts stick. That's because member nations have an incentive to cheat and produce more than their assigned quotas.
I bet OPEC nations know they've been getting a great deal. Thanks largely to Osama bin Laden and his terrorist network, oil prices have been factoring in a fear premium of perhaps $10 to $20 per barrel. Now that the fear is subsiding, so is the premium. Lower prices are also the result of a mild hurricane season, and a marginal decline in demand caused when gasoline prices hit $3 per gallon in August.
Can OPEC make production cuts stick this time? That depends on how much member nations love high prices. The planned cuts are supposed to go into effect on Nov. 1. They may stick for a while, but if history is any guide, many countries will soon be pumping more oil than they agreed to. As always, the burden will fall on Saudi Arabia. If the Saudis cut production in a meaningful way, oil prices will stabilize. If they don't, prices could fall to the mid-$40s in no time at all.
Falling oil prices get at least some of the credit for the rally in stocks. The S&P 500 is well above the yearend target set by the firm's investment policy committee. But Standard & Poor's Chief Investment Strategist Sam Stovall says it could go higher. He tells us why in the current segment of MoneyMasters.
Friday, October 20, 2006
Eating Crow with Egg on Face
Regular readers of this blog know that I have not been bullish on Google (GOOG). It's not that I don't like the business. I think it's a great company. It's just that I also think the stock is overvalued.
One valuable lesson I have learned over the years is that overvalued stocks can get a whole lot more overvalued before coming back to earth. Google certainly isn't in the same boat as some of those Internet stocks back in the 1990s that reached unrealistic valuations despite having no earnings. Google makes good money. But is it really worth 15 times sales and 45 times projected earnings?
Amazon.com might provide a basis for comparison. At its peak, the stock was selling for 30 times sales. Today it sells for only 1.5 times sales.
I love Google the company, but I'm still avoiding Google the stock.
Tuesday, October 17, 2006
High Prices Will Reduce Dependence on Foreign Oil
Today's Wall Street Journal has an interesting article about what lower gasoline prices are doing to the alternative-fuels industry. Although gasoline is still on the expensive side, there is concern that interest in ethanol, hybrid vehicles, and other fuels and technologies may quickly wane if gasoline prices go much lower.
I've written about this vicious cycle before. When gasoline prices spike, we see a marginal reduction in demand. That results in higher inventories, which cause prices to come back down. When prices fall, drivers fill up their SUVs and hit the road again.
President Bush is very concerned about this. He says America is addicted to oil and considers our dependence on foreign energy a serious national security and economic threat. He has made it a priority to push alternative fuels and technologies. Although he's happy to see gasoline prices go lower, he is worried that lower prices may kill the enthusiasm for alternatives.
Ironically, Bush and the Republicans have also been accused of somehow causing gasoline prices to fall in order to improve their chances in the upcoming mid-term elections. This is baloney. Oil and gasoline are commodities whose prices are set in open markets by buyers and sellers. Other than ordering the release of oil from the Strategic Petroleum Reserve, the president cannot affect prices in the short term.
As I've written before in the Forbes Growth Investor, I am opposed to price caps on gasoline. Capping the price will result in shortages. However, I am in favor of a price floor.
Price is the best way to affect behavior. If you want people to use more of something, make it cheaper. If you want them to use less, make it more expensive. By setting a floor on gasoline prices, we can get consumption under control. Gasoline would not be wasted and there would be a real incentive to move toward alternatives.
The government would collect the difference between the floor price and what the market price would have been without a floor. Don't get me wrong. I am not in favor of giving the government more of our money. Those revenues should be used to fund research into alternatives, and to reduce other taxes.
Of course none of this is likely to happen. Setting a floor requires the kind of political fortitude that many elected officials lack.
I've written about this vicious cycle before. When gasoline prices spike, we see a marginal reduction in demand. That results in higher inventories, which cause prices to come back down. When prices fall, drivers fill up their SUVs and hit the road again.
President Bush is very concerned about this. He says America is addicted to oil and considers our dependence on foreign energy a serious national security and economic threat. He has made it a priority to push alternative fuels and technologies. Although he's happy to see gasoline prices go lower, he is worried that lower prices may kill the enthusiasm for alternatives.
Ironically, Bush and the Republicans have also been accused of somehow causing gasoline prices to fall in order to improve their chances in the upcoming mid-term elections. This is baloney. Oil and gasoline are commodities whose prices are set in open markets by buyers and sellers. Other than ordering the release of oil from the Strategic Petroleum Reserve, the president cannot affect prices in the short term.
As I've written before in the Forbes Growth Investor, I am opposed to price caps on gasoline. Capping the price will result in shortages. However, I am in favor of a price floor.
Price is the best way to affect behavior. If you want people to use more of something, make it cheaper. If you want them to use less, make it more expensive. By setting a floor on gasoline prices, we can get consumption under control. Gasoline would not be wasted and there would be a real incentive to move toward alternatives.
The government would collect the difference between the floor price and what the market price would have been without a floor. Don't get me wrong. I am not in favor of giving the government more of our money. Those revenues should be used to fund research into alternatives, and to reduce other taxes.
Of course none of this is likely to happen. Setting a floor requires the kind of political fortitude that many elected officials lack.
Monday, October 16, 2006
Dancing With Myself
Billy Idol released the hit song Dancing With Myself in 1981. Sometimes, I feel like I'm debating with myself. So it's nice to get some feedback.
Of course, it's not always pleasant. For example, one blog reader recently said he was tired of me always being negative. I'll admit, I've been skeptical of the stock market's recent rally, but I'm not always negative. I was bullish on stocks until late 1998. I turned bearish about 14 months too soon, but it turned out to be a good call. I turned bullish again in September 2002. The market briefly rallied, came back down, then started a nice bull run that is still going.
But I am bearish once again. I just don't see what all the excitement is about. So far, the Fed seems to be doing an admirable job of orchestrating a soft landing, but I think GDP growth is likely to fall below 2% for at least several quarters--perhaps for all of 2007. And I don't believe the Fed is getting ready to cut rates any time soon. I still see inflation and inflationary expectations running above the so-called comfort zone.
It's nice that oil and gasoline prices have come down from their August highs, but I defy anyone to argue gas is cheap. Anyway, gasoline prices almost always come down after the summer driving season. Admittedly, the recent decline has been more like a plunge, but even today the national average price is well above $2 per gallon.
In the immediate future, however, two things will drive the market. The first is housing. Data on housing starts and building permits will be released on Wednesday. The market is looking for about 1.65 million starts and 1.72 million permits. The second is third-quarter corporate earnings. This is the first big week of earnings releases. While I'm not sure if there is such a thing as a bellwether anymore, several key companies will announce results in the coming days. EMC, Johnson & Johnson, and United Technologies will report tomorrow morning, as will a number of banks. IBM, Intel, Motorola, and Yahoo will report tomorrow after the market closes. Each of these companies has market-moving potential.
Finally, I want to thank Karthik Narayanaswamy for his nice comments about my blog. I now know that at least one person out there wants to see more of my musings. Turns out Karthik has a nice blog of his own called Karthik's Random Ramblings. You should check it out.
Of course, it's not always pleasant. For example, one blog reader recently said he was tired of me always being negative. I'll admit, I've been skeptical of the stock market's recent rally, but I'm not always negative. I was bullish on stocks until late 1998. I turned bearish about 14 months too soon, but it turned out to be a good call. I turned bullish again in September 2002. The market briefly rallied, came back down, then started a nice bull run that is still going.
But I am bearish once again. I just don't see what all the excitement is about. So far, the Fed seems to be doing an admirable job of orchestrating a soft landing, but I think GDP growth is likely to fall below 2% for at least several quarters--perhaps for all of 2007. And I don't believe the Fed is getting ready to cut rates any time soon. I still see inflation and inflationary expectations running above the so-called comfort zone.
It's nice that oil and gasoline prices have come down from their August highs, but I defy anyone to argue gas is cheap. Anyway, gasoline prices almost always come down after the summer driving season. Admittedly, the recent decline has been more like a plunge, but even today the national average price is well above $2 per gallon.
In the immediate future, however, two things will drive the market. The first is housing. Data on housing starts and building permits will be released on Wednesday. The market is looking for about 1.65 million starts and 1.72 million permits. The second is third-quarter corporate earnings. This is the first big week of earnings releases. While I'm not sure if there is such a thing as a bellwether anymore, several key companies will announce results in the coming days. EMC, Johnson & Johnson, and United Technologies will report tomorrow morning, as will a number of banks. IBM, Intel, Motorola, and Yahoo will report tomorrow after the market closes. Each of these companies has market-moving potential.
Finally, I want to thank Karthik Narayanaswamy for his nice comments about my blog. I now know that at least one person out there wants to see more of my musings. Turns out Karthik has a nice blog of his own called Karthik's Random Ramblings. You should check it out.
Wednesday, October 11, 2006
Thinking Negative Thoughts
As I write this entry, there is a building burning on the upper east side of Manhattan. It appears that a small airplane or helicopter crashed into the building. Although it's probably just an accident, in this post-9-11 world, you have to wonder if it is terrorism related.
Perhaps news of a burning building has put me in a sour mood. It got me thinking about overvalued stocks. With the Dow at a record high, it might be a good time to think about this.
Google (GOOG) is the most obvious one that comes to mind--especially after it announced plans to buy a company that makes no money for $1.65 billion (see previous post). Google itself is a profitable company, but it is selling for more than 40 times expected earnings, more than 15 times sales, and almost 10 times book value. There are stocks out there that are more overvalued, but none that has a larger market capitalization.
Starbucks (SBUX) is another stock that appears overvalued. It is selling for 51 times expected earnings, almost 4 times sales, and 11 times book value. That seems like a lot to pay for what amounts to a chain of restaurants. Of course, Starbucks has tremendous growth prospects, but that doesn't warrant buying the stock at any price.
Finally, I still think the homebuilders should be avoided. I can't argue they are overpriced. In fact, their multiples look incredibly attractive. However, they are negative growth stories. Earnings are not growing; they are declining. These stocks may not sink a lot lower, but I certainly would not expect them to go higher in the near future.
Perhaps news of a burning building has put me in a sour mood. It got me thinking about overvalued stocks. With the Dow at a record high, it might be a good time to think about this.
Google (GOOG) is the most obvious one that comes to mind--especially after it announced plans to buy a company that makes no money for $1.65 billion (see previous post). Google itself is a profitable company, but it is selling for more than 40 times expected earnings, more than 15 times sales, and almost 10 times book value. There are stocks out there that are more overvalued, but none that has a larger market capitalization.
Starbucks (SBUX) is another stock that appears overvalued. It is selling for 51 times expected earnings, almost 4 times sales, and 11 times book value. That seems like a lot to pay for what amounts to a chain of restaurants. Of course, Starbucks has tremendous growth prospects, but that doesn't warrant buying the stock at any price.
Finally, I still think the homebuilders should be avoided. I can't argue they are overpriced. In fact, their multiples look incredibly attractive. However, they are negative growth stories. Earnings are not growing; they are declining. These stocks may not sink a lot lower, but I certainly would not expect them to go higher in the near future.
Tuesday, October 10, 2006
YouGoogle
Is the Internet euphoria of the 1990s coming back into fashion? Things aren't quite that bad, at least not yet, but Google's announcement that it will pay $1.65 billion to buy
YouTube certainly makes me wonder.
YouTube is the king of Internet video. Any person can post videos of themselves, or anything else for that matter, on YouTube. Most of the videos are short in length and of poor quality. Most are tongue-in-cheek and have no important message. A good example is the one of a young man who films himself reacting to the tastes of different spices, which he stuffs into his mouth.
YouTube gets lots of eyeballs, but makes no money. Paying for eyeballs was all the rage back in the 1990s. But all the eyeballs in the world don't count for much unless their owners are willing to shell out bucks to buy something.
Some say eyeballs are all it takes to entice advertisers. But advertisers will pay only if the eyeballs belong to the right demographic. Advertisers will pay more to reach one pair of eyeballs belonging to a potential customer, than 100 pair belonging to those who couldn't care less about the message. And it remains to be seen how many viewers will stay loyal to YouTube if they have to watch commercials.
Google's CEO Eric Schmidt made some standard statements about how the two company's complement one another and share similar values when it comes to serving users. Google's founder Sergey Brin expressed hope that money will be made through video advertising, but no specifics were given.
Even though Google has about $10 billion in cash and marketable securities, it chose to pay for YouTube with stock. That was probably a wise decision for Google, and makes it a tax-free transaction for YouTube. However, the transaction price is fixed, so if Google shares fall in value, a greater number will be needed to close the deal.
The transaction is a great deal for YouTube and its founders. They are now rich men. But it's a big bet for Google. Right now it looks like Google is paying way too much. Unless it can come up with a way to turn YouTube's eyeballs into cash, it will regret this investment.
YouTube certainly makes me wonder.
YouTube is the king of Internet video. Any person can post videos of themselves, or anything else for that matter, on YouTube. Most of the videos are short in length and of poor quality. Most are tongue-in-cheek and have no important message. A good example is the one of a young man who films himself reacting to the tastes of different spices, which he stuffs into his mouth.
YouTube gets lots of eyeballs, but makes no money. Paying for eyeballs was all the rage back in the 1990s. But all the eyeballs in the world don't count for much unless their owners are willing to shell out bucks to buy something.
Some say eyeballs are all it takes to entice advertisers. But advertisers will pay only if the eyeballs belong to the right demographic. Advertisers will pay more to reach one pair of eyeballs belonging to a potential customer, than 100 pair belonging to those who couldn't care less about the message. And it remains to be seen how many viewers will stay loyal to YouTube if they have to watch commercials.
Google's CEO Eric Schmidt made some standard statements about how the two company's complement one another and share similar values when it comes to serving users. Google's founder Sergey Brin expressed hope that money will be made through video advertising, but no specifics were given.
Even though Google has about $10 billion in cash and marketable securities, it chose to pay for YouTube with stock. That was probably a wise decision for Google, and makes it a tax-free transaction for YouTube. However, the transaction price is fixed, so if Google shares fall in value, a greater number will be needed to close the deal.
The transaction is a great deal for YouTube and its founders. They are now rich men. But it's a big bet for Google. Right now it looks like Google is paying way too much. Unless it can come up with a way to turn YouTube's eyeballs into cash, it will regret this investment.
Forbes Roundtable Discussion
On the evening of Wednesday, Oct. 4, Forbes Investors Advisory Institute hosted a Roundtable discussion featuring Bob Stovall, Gail Dudack, Vincent Catalano and Subodh Kumar. I also participated in the discussion. Wally Forbes moderated. The tape is about an hour long. Click here to listen to the discussion.
I was happy to see Barron's quoted some of my comments last weekend from the Forbes Growth Investor. Unfortunately, they misspelled my name. Several people asked if I was upset about this. Hey, with a name like mine, I'm thrilled they even came close.
I was happy to see Barron's quoted some of my comments last weekend from the Forbes Growth Investor. Unfortunately, they misspelled my name. Several people asked if I was upset about this. Hey, with a name like mine, I'm thrilled they even came close.
Thursday, October 05, 2006
Liz Ann Sonders on MoneyMasters
My MoneyMasters interview with Liz Ann Sonders is now available for viewing. Liz Ann is the Chief Investment Strategist at Charles Schwab & Co. Because she has a tendency to be bullish, it is worth paying attention to why she is now bearish.
She is particularly worried about the housing market. She wrote an interesting market outlook piece for Schwab recently saying the current housing downturn is unique because it isn't being driven by falling incomes or rising unemployment. Instead, speculation is coming out of the market. As a result, the downturn could be more severe than average. Because she believes the housing downturn could negatively impact stocks, she is recommending a marginal decrease in equity exposure.
Housing experts often talk about affordability. The National Association of Realtors has a widely followed Affordability Index. This index considers median prices, mortgage interest rates, monthly principal and interest payments, and income. Except for a pop in August, this index has primarily been on a downward slide, which means home ownership is becoming less affordable.
Interestingly, the index does not consider property insurance and taxes. Yet in some states, property taxes account for a major portion of the homeowner's monthly payment. And in many areas, property taxes are the fastest rising cost of home ownership. Just imagine how much more rapidly the NAR's Affordabilty Index would be dropping if it included property taxes among its components.
She is particularly worried about the housing market. She wrote an interesting market outlook piece for Schwab recently saying the current housing downturn is unique because it isn't being driven by falling incomes or rising unemployment. Instead, speculation is coming out of the market. As a result, the downturn could be more severe than average. Because she believes the housing downturn could negatively impact stocks, she is recommending a marginal decrease in equity exposure.
Housing experts often talk about affordability. The National Association of Realtors has a widely followed Affordability Index. This index considers median prices, mortgage interest rates, monthly principal and interest payments, and income. Except for a pop in August, this index has primarily been on a downward slide, which means home ownership is becoming less affordable.
Interestingly, the index does not consider property insurance and taxes. Yet in some states, property taxes account for a major portion of the homeowner's monthly payment. And in many areas, property taxes are the fastest rising cost of home ownership. Just imagine how much more rapidly the NAR's Affordabilty Index would be dropping if it included property taxes among its components.
Tuesday, October 03, 2006
Dow's At a Record, Market's Not
A Forbes colleague asked today what I thought the odds were of the Dow hitting 13,000 by the end of 2007. Good question. There is always the chance that the bull market in large-cap stocks will continue, but I remain skeptical.
The Dow is at an all-time high, but as I keep pointing out, the stock market isn't. The Dow consists of 30 stocks. The market consists of thousands. Furthermore, if you dig into the Dow, things don't look so great. General Motors (GM), a money-losing company, is the best-performing stock so far this year. It's also the smallest-cap stock in the index. AT&T (T) and Merck (MRK), also somewhat troubled companies, are the second and third-best performers. Hewlett-Packard (HPQ), currently embroiled in controversy, is in the number 4 spot.
October just started and the Dow is already showing a gain for the month. But the S&P 500 and Nasdaq are down. In fact, despite today's rally, most of the broader market averages are down so far this month.
Here are some reasons why I remain cautious:
1) The housing downturn will probably be more severe than many economists expect.
2) OPEC will probably get serious about cutting production in order to keep energy prices from falling much lower.
3) Corporate profit growth has slowed in recent quarters and will likely keep slowing. Furthermore, much of the growth in recent quarters came from energy-related stocks. That story is probably over.
4) I'm not convinced the Fed has killed inflation.
5) The yield curve is extremely inverted between 6 months and 5 years, which tells me the economy will probably slow more than many expect.
The Dow is at an all-time high, but as I keep pointing out, the stock market isn't. The Dow consists of 30 stocks. The market consists of thousands. Furthermore, if you dig into the Dow, things don't look so great. General Motors (GM), a money-losing company, is the best-performing stock so far this year. It's also the smallest-cap stock in the index. AT&T (T) and Merck (MRK), also somewhat troubled companies, are the second and third-best performers. Hewlett-Packard (HPQ), currently embroiled in controversy, is in the number 4 spot.
October just started and the Dow is already showing a gain for the month. But the S&P 500 and Nasdaq are down. In fact, despite today's rally, most of the broader market averages are down so far this month.
Here are some reasons why I remain cautious:
1) The housing downturn will probably be more severe than many economists expect.
2) OPEC will probably get serious about cutting production in order to keep energy prices from falling much lower.
3) Corporate profit growth has slowed in recent quarters and will likely keep slowing. Furthermore, much of the growth in recent quarters came from energy-related stocks. That story is probably over.
4) I'm not convinced the Fed has killed inflation.
5) The yield curve is extremely inverted between 6 months and 5 years, which tells me the economy will probably slow more than many expect.
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