Sunday, August 29, 2010

Fed stands by to boost U.S. growth

NY (FT) -- Ben Bernanke, Federal Reserve chairman, said on Friday that weaker-than-expected consumer spending growth and a "depressed" housing market had slowed the pace of the US recovery and promised that the central bank was ready to take "unconventional" steps to stimulate the economy if needed.
In a speech at a gathering of central bankers in Jackson Hole, Wyoming, Mr Bernanke acknowledged that the pace of economic growth had been "less vigorous" than the Fed was expecting and that the pace of the labour market's recovery had been "painfully" slow.
Mr Bernanke's remarks came after a sharp downward revision to second-quarter gross domestic product, which was held back due to a surge in imports. The Fed chairman said that the US central bank was surprised by the "sharp deterioration" in the US trade balance, but discounted it as the result of temporary and special factors.
The Fed chairman defended the central bank's surprise decision earlier this month to keep the size of its balance sheet constant and said the Fed was prepared to take "unconventional" measures to stimulate the economy if the outlook darkens.
Outlining other ammunition the Fed could use, Mr Bernanke pointed to additional purchases of long-term securities, changing the language of the Fed's statements and reducing interest paid on excess reserves.
Mr Bernanke said there was no support within the Fed to increase its medium-term inflation goals above levels consistent with price stability.
"Such a step might make sense in a situation in which a prolonged period of deflation had greatly weakened the confidence of the public in the ability of the central bank to achieve price stability, so that drastic measures were required to shift expectations," Mr Bernanke said.
In the short term, Mr Bernanke said that pre-conditions for a pick-up in growth in 2011 "appear to remain in place".
By Alan Rappeport, August 27, 2010 -- Updated 1812 GMT (0212 HKT)
© The Financial Times Limited 2010

Monday, August 23, 2010

Euro slumps

The euro dropped for a second week against the dollar to a five-week low as weaker economic data and calls by a European Central Bank official for more economic aid damped investor appetite for higher-yielding currencies.

The 16-nation currency reached a seven-week low against the Swiss franc after ECB council member Axel Weber Aug. 19 told Bloomberg Television the central bank should assist financial institutions to prevent year-end liquidity tensions. The dollar and yen rose against most of their major counterparts as data indicated the global economic recovery may be faltering. The Japanese finance minister is set to meet the prime minister this week to discuss the nation’s currency.

“The exceptionally weak numbers in the last couple of days in the U.S., that has weighed on risk appetite,” said Richard Franulovich, a senior currency strategist at Westpac Banking Corp. in New York. “In the euro, Canadian dollar and Australian dollar, the price action is very disappointing, the initial bias would be to sell these currencies and for more dollar strength.”

The euro fell 0.3 percent to $1.2712 in New York from 1.2754 in the five days ended Aug. 13. It touched 1.2673 yesterday, the weakest since July 13. Japan’s currency dropped 1 percent to 108.83 per euro from 109.92 last week in New York, after reaching 108.31, the strongest since July 1. The euro sank 2 percent to 1.3143 francs from 1.3408 francs a week ago, after touching 1.3140 francs. The yen rose 0.7 percent to 85.62 per dollar.

The Canadian dollar rose 0.4 percent to C$1.0475.

Stocks Fade

The Standard & Poor’s 500 Index fell for the second week, declining 0.7 percent. The Stoxx Europe 600 Index retreated for a third week, dropping 1.3 percent, and crude-oil futures for September delivery fell 2.6 percent.

“Most of these discussions about the continuation of the exit I think will be focused on the first quarter,” Weber, who heads Germany’s Bundesbank, said in an interview with Bloomberg Television in Frankfurt yesterday. “It’s clear that we need to re-embark on a normalization procedure.”

The euro accelerated its decline and the yield on Germany’s 30-year bond fell to a record low yesterday as Weber’s comments suggested the ECB will support the region’s banks for longer than some investors expected.

“Regional worries about peripheral eurozone debt have also resurfaced in recent weeks,” Samarjit Shankar, a managing director for the foreign-exchange group in Boston at Bank of New York Mellon, wrote in a note to clients. “We are seeing steady net inflows into German bunds, which offer relative safety and liquidity in the region.”

Currency Flows

Cumulative inflows to German debt this week totaled one- and-a-half times the average amount compared with the previous year, according to iFlow data from BNY Mellon, the world’s largest custodial bank, with more than $20 trillion in assets under administration.

“Weber indicating that he thinks it’s necessary to continue unlimited funding until the end of the year was a real red flag to the market,” said Jessica Hoversen, a Chicago-based analyst at the futures broker MF Global Holdings Ltd. “You have a lot of event risk over the weekend: the Australian election, the possibility of a conversation on the yen.”

Current Prime Minister Julia Gillard and opposition leader Tony Abbott will face off in an election that may result in a hung parliament. Demand for Australia’s dollar was limited as polls ahead of the election showed voters almost evenly split between Gillard’s Labor Party and opposition Liberal-National coalition.

Australia’s currency fell 0.1 percent to 89.39 U.S. cents this week.

Slower Growth

Revisions to U.S. economic growth next week will probably indicate the pace of the expansion slowed even more in the second quarter, to a 1.4 percent annual rate from the 2.4 percent in a preliminary report on July 30, according to a Bloomberg survey. Japan’s export growth slowed to 21.8 percent in July from 27.7 percent in June, and the Ifo institute’s German business climate index slid to 105.5 in August from 106.2 the previous month, separate surveys showed before the Aug. 25 data.

The Dollar Index, which IntercontinentalExchange Inc. use to track the greenback against the currencies of six major trading partners, rose 0.1 percent to 83.057 It reached 83.283 yesterday, the strongest level since July 22.

Claims Rise

U.S. initial jobless claims rose by 12,000 to 500,000 in the week ended Aug. 14, Labor Department figures showed in Washington. Claims exceeded all estimates of economists surveyed by Bloomberg News and compared with the median forecast of 478,000.

Speculation has mounted the Japanese government will take steps to curb the currency’s rally. The yen has gained 14 percent this year, the best performance among 10 developed-world currencies, Bloomberg Correlation-Weighted Currency Indexes show.

“If the yen becomes considerably volatile or breaks 80, chances for an emergency meeting would become high,” said Hideo Kumano, a former Bank of Japan official who is now chief economist at the Dai-Ichi Life Research Institute in Tokyo. “The impact of further accommodative steps may be limited; it would mainly be aimed at preventing the yen from becoming excessively strong.”

The yen’s climb to a 15-year high of 84.73 against the dollar on Aug. 11 has stoked concern that exporters’ earnings could weaken and deflation might deepen. Finance Minister Yoshihiko Noda said today he will meet with Prime Minister Naoto Kan next week to discuss the economy and currency.

Japan hasn’t intervened in the currency market since March 2004, when the yen was at about 109 per dollar. Central banks intervene in the foreign-exchange market when they buy or sell currencies to influence exchange rates.

To contact the reporter on this story: Catarina Saraiva in New York at

Housing led the U.S. out of seven of the last eight recessions

Housing led the U.S. out of seven of the last eight recessions. This time, it may kill the recovery.

Home sales collapsed after a federal tax credit for buyers expired in April. Since then, the manufacturing-led expansion, which began in the second half of 2009, has been waning, with jobless claims rising and factory orders falling.

“If foreclosures continue to mount and depress home prices, that could send the economy back into a recession,” said Celia Chen, an economist who tracks the industry for Moody’s Analytics Inc. “The housing market and the broader economy are closely intertwined.”

Spending on home construction and items such as furniture and stoves accounted for about 15 percent of gross domestic product in the second quarter, according to West Chester, Pennsylvania-based Moody’s Analytics. Real estate also can influence consumer spending indirectly. When values soared in the mid-2000s, people used the boost in equity to pay for cars and vacations. After prices fell, homeowners lost that cushion and curbed spending.

A report tomorrow by the Chicago-based National Association of Realtors will show July sales of existing homes plummeted 12.9 percent from June, the biggest monthly loss of 2010, according to the median estimate of economists surveyed by Bloomberg.

New-home sales, which account for less than a 10th of housing transactions, stayed at the second-lowest level on record last month, economists predict Commerce Department data will show on Aug. 25.

Housing in ‘Doldrums’

“Housing continues to be stuck in the doldrums,” said Jeffrey Frankel, a member of the business-cycle dating committee at the National Bureau of Economic Research, the arbiter of when U.S. recessions begin and end, and a professor at Harvard University in Cambridge, Massachusetts.

With 14.6 million Americans out of work, homeowners are struggling to hold onto their properties. One in seven mortgages were delinquent or in foreclosure during the first quarter, the highest in records dating to 1979, according to the Washington- based Mortgage Bankers Association. Foreclosures probably will top 1 million this year, said RealtyTrac Inc., an Irvine, California-based data company.

Federal efforts to help have had little success. Of 1.31 million loan modifications started under the Obama administration’s Home Affordable Modification Program, 48 percent were canceled by the end of July, the Treasury Department said Aug. 20. More than half of all modifications defaulted again within 12 months, the Office of the Comptroller of the Currency said June 23.

Sidelined Buyers

Shadow inventory, or the number of homes repossessed or in default that eventually will be offered for sale, stood at 7.3 million in the first quarter, according to Laurie Goodman, an analyst in New York at mortgage-bond broker Amherst Securities Group LP. As those properties hit the market, prices will come under pressure and buyers will wait for better deals.

Those sidelined house hunters include Marion and Jim Lasswell, who said they spend most weekends looking at homes for sale near Raleigh, North Carolina. His engineering job at iRobot Corp. is secure, the couple’s credit is good and they have saved enough for a 20 percent down payment, Marion Lasswell said. The problem: they don’t think the market has hit bottom.

“We’re still watching prices drop,” Lasswell, 38, a registered nurse, said in a telephone interview. She said they won’t buy “until there’s an awesome deal.”

GDP Weakens

Home prices tumbled 33 percent from their July 2006 peak to the low in April 2009, according to the S&P/Case-Shiller 20-city index. They may drop another 20 percent by 2012 if the economy slips back into a recession, according to Chen, the Moody’s Analytics economist.

Gross domestic product increased less than 1.5 percent in the second quarter, the slowest rate since the recovery began, according to the median forecast by economists in a Bloomberg survey. That’s down from the 2.4 percent rate initially reported by the Commerce Department last month. Growth may ease to 1.3 percent by the first quarter of next year, according to the New York-based Conference Board.

Consumer spending rose 1.6 percent in the second quarter, down from 1.9 percent in the previous three months. Purchases of home furnishings and appliances fell 1.7 percent to an annual pace of $256.5 billion in June from a 2010 high in April, according to the Bureau of Economic Analysis.

“There is an epidemic of thrift,” said Nariman Behravesh, chief economist at IHS Inc. in Lexington, Massachusetts. “Households and businesses are super-cautious right now. Sometime in the next 6 to 12 months, we’ll start to see more movement on home and car purchases and greater willingness on the part of businesses to hire.”

Fed Steps In

Federal Reserve policy makers on Aug. 10 made their first attempt to shore up the recovery by pledging to keep their holdings of securities and prevent money from draining out of the banking system. They said the economic expansion probably will be “more modest” than earlier anticipated. The Fed has held the target for its benchmark lending rate near zero since December 2008 and purchased $1.43 trillion worth of debt to keep rates low and bolster housing.

“Household spending is increasing gradually, but remains constrained by high unemployment, modest income growth, lower housing wealth and tight credit,” the Fed said in a statement.

Buying Plans

The average U.S. rate for a 30-year fixed mortgage dropped to 4.44 percent in the second week of August, the lowest recorded by McLean, Virginia-based Freddie Mac, the second- largest mortgage buyer. A July survey by the Conference Board found 1.9 percent of the respondents planned to buy a home in the next six months, near December’s 27-year low of 1.7 percent.

A sustained economic recovery depends on the job growth required to boost consumer spending, said Behravesh of IHS. The unemployment rate may average 9.6 percent this year, based on the median estimate of economists in a Bloomberg survey. That would be the highest annual rate since 1983.

Home construction and property sales led the way out of the previous seven recessions going back to 1960, according to PMI Group Inc., a mortgage insurer in Walnut Creek, California. New- home sales improved an average of eight months before the beginning of economic growth, and single-family housing starts improved seven months before recovery.

That didn’t happen in the last recession. Sales of new houses fell in five of the eight months before economic expansion began in 2009’s second half. Housing starts fell in two of seven months.

While the Lasswells in North Carolina said they’ll keep spending their weekends looking at homes, they aren’t in a hurry to buy. “I don’t see things getting better,” Marion Lasswell said. “I expect prices to be flat for a long time.”

To contact the reporters on this story: John Gittelsohn in New York at; Bob Willis in Washington

Thursday, August 12, 2010

The Fed’s Treasury Purchase Plan is Just Further Proof That It’s in the Denial About the Dollar

This week's decision by the U.S. Federal Reserve to buy Treasuries in an effort to prop up borrowing is further proof that the economy is worse off than policymakers would have us believe. But more than that, the Fed's Treasury purchase plan is just one more reason for investors to anticipate inflation and take steps to protect their money from it.

In case you missed the news, here's what happened...

The Federal Reserve on Tuesday announced that instead of allowing proceeds from maturing mortgage bonds to disappear from its balance sheet, the central bank would take the "modest" step of using them to invest in new Treasuries.

In plain English, that means that the Fed is reinvesting into U.S. Treasuries the money it would otherwise bank from maturing mortgages.

Its goal is very simple: to keep long term interest rates from rising.

Many economists have pointed out that the consequences of the Fed's Treasury purchase plan will be minimal. And I agree. A mere $200 billion or so in such securities - out of the Fed's $2.3 trillion portfolio -mature yearly as homeowners pay off or retire their mortgages. So we're only talking about 8.69% of the total here.

But it's the Fed's read-between-the-lines implication that is really scary.

By taking this step, U.S. Federal Reserve Chairman Ben Bernanke hopes to reassure global traders, and presumably the American public, that he is prepared to take even more drastic steps should the recovery grind to a halt. Chief among the Fed's options would be to buy more mortgage debt, which Bernanke believes would help keep down inflation.

Bear in mind, though, that at the height of this financial crisis, the Fed purchased a staggering $1.42 trillion in mortgage securities and some $300 billion in Treasuries to prop things up. And mortgage rates fell less than half a point. So much for that theory.

Something stinks here.

Bernanke either knows something about the state of the recovery that he's not telling the public, or he's trying to telegraph something he believes is inevitable.

Maybe it's both. But this isn't good news either way.

I have got to believe that it's finally dawning on Helicopter Ben that deficit spending and the Keynesian formula for consumer stimulation - upon which the Fed has based its entire recovery plan - don't work. (Something I argued in a recent report to Money Map Report subscribers - click here to sign up and get your copy.)

The housing market still stinks, mortgage rates are still falling despite being the lowest they've been in decades, and consumers have no money. Furthermore, the consumers that do have money are facing tighter credit standards and don't want the debt.

Frankly, I think that's actually a good thing because it represents a huge psychological change in our nation's reckless spending habits. However, from the Fed's point of view, it's a problem because its policies presuppose that government spending makes up the difference in consumer demand until demand can once again overpower the deficits induced in the effort.

But here's the real problem with the Fed's policy: By propping up the mortgage market, and by implication Treasuries, the Fed is only temporarily staving off inflation, while further selling out the dollar long-term.

The fact is that inflation is as inevitable as the sun rising tomorrow and there are now some $12.4 trillion reasons why. And so the problem isn't the mortgage market or even the manipulation of rates, but the eventual evisceration of the dollar.

Regardless of government statistics that suggest inflation is under control, the reality is that inflation is already well underway to the tune of 10% or more in this country. You know that as well as I do by what happens with your wallet every day. The costs of education, medicine, and groceries are all up, up, up. Apparently, the government bean counters are the only ones who aren't feeling the squeeze.

The other thing to consider is that by propping up Treasuries in an effort to keep inflation low, the Federal Reserve is undermining any semblance of a strong dollar policy. Bernanke and Treasury Secretary Timothy Geithner may talk a good game, but the reality is that money flows to where it is treated best. And that doesn't bode well for the dollar in the long-term.

Once the dust starts to settle, i nternational traders will move away from the greenback absent higher interest rates that compensate them for their investment. In fact, they've already begun doing just that. I know the dollar rose overnight following Tuesday's announcement but that's more in reaction to a short term flight to quality than a long term reflection or judgment of the dollar's staying power.

If it were, we would not have seen the dollar fall below 85 to the Japan Yen - a 15-year low - at the same time.

And don't forget about China. By propping up U.S. treasuries in an effort to keep interest rates from rising, the U.S. government may be trying to force the Chinese to revalue their Yuan more quickly than that government wants. This will go over like a lead balloon in Beijing, which holds nearly a $1 trillion of U.S. government paper in the form of short-term obligations.

So what we can do to profit from the situation?

Action to take: There are three ways to capitalize here:

Buy treasury indexed inflation securities or "TIPS" as they are commonly known. Because U.S. Treasuries remain one of the most liquid investments on the planet, it's very easy to participate in this trade. Inflation will get here - the only question is when. Now is the time to start hedging against it. My favorite choice is to begin averaging into a vehicle like the iShares Barclays TIPS Bond ETF (NYSE: TIP). The duration is a relatively short one-10 years, so most of the volatility that's going to plague long bondholders is avoided, but the potential return remains. I also like the 3.59% dividend yield, which compensates investors for the risks they take by holding this fund.
Short the Japanese Yen: This trade is a bit more subtle. If the United Stats is once again openly diluting the dollar, we can reasonably expect the Japanese to react - though not immediately, because things take time in Japan...lots of time. Think about it this way: Japan's economy is largely export based and there is almost no domestic consumption growth. A more expensive yen versus other currencies makes Japanese exports less attractive, so the Japanese government is under intense pressure to reverse this trend by weakening the yen. My expectation is that this will happen by the end of 2010, when the pain threshold reaches a crescendo and companies like Toyota Motor Corp. (NYSE ADR: TM) begin losing sales the way the German companies did years ago on the back of a super strong Deutsche marke. Spot FX or futures are your best bet here.

Buy Chinese Yuan: I've often referred to buying Chinese yuan as the closest thing to a no-brainer on the planet. The only question, given the Fed's shenanigans, is whether or not you have the patience to sit it out. Revaluing the Chinese yuan is in China's best interest, but doing so is hardly in Washington's, especially now. I believe this will make for a potent combination when the timing is finally right and one of the easiest ways to participate is through the WisdomTree Dreyfus Chinese Yuan ETF (NYSE: CYB).
Of course you could also take the easy way out and simply short the U.S. stock market as a whole...but then you risk fighting a government that rightly or wrongly doesn't know when it's been beaten and refuses to give up.

By Keith Fitz-Gerald, Chief Investment Strategist, Money Morning

Tuesday, August 3, 2010


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