SAFT ON WEALTH-Not the summer of love

by on July 26, 2012 8:17 pm BST

Thu Jul 26, 2012 4:17pm EDT

By James Saft
    July 27 (Reuters) - With risks of a U.S. recession mounting,
it is shaping up to be a hairy summer for investors.
    The recent run of U.S. economic data has been disappointing,
with weak employment and manufacturing numbers. The Economic
Cycle Research Institute's four-week moving average of its key
gauge has now been negative for eight straight weeks, and
consumer spending is down for the third month in a row.
Moreover, and more crucially, government spending reductions
pose a threat, both this year and next.
    Secondly, the United States, at the very least, will have to
contend with deflationary waves from Europe for the foreseeable
    Even if the ECB steps in to rescue Spain -- or whoever ails
next -- it seems very likely that Europe will act as a drag as
well as a source of risk and uncertainty.
    Finally, we might be in the first earnings season since 2009
in which earnings at S&P 500 companies actually sink. The run
has been disappointing thus far, with Apple showing
that perhaps not enough people need new phones every six to nine
months, and Zynga Inc demonstrating the limits of a
business strategy based on virtual soil and make-believe manure.
    "The disappointing slew of revenue results in the ongoing Q2
U.S. reporting round is entirely consistent with the economy
having dipped into recession," Societe Generale strategist
Albert Edward wrote in a note to clients.
    Third-quarter earnings of Standard & Poor's 500 
companies are now expected to dip 0.1 percent from a year ago, a
sharp downward revision from the July 1 forecast of 3.1 percent
growth, Thomson Reuters data showed on Thursday.
    "Analysts are now hammering downward their full-year revenue
projections. But even before the earnings reporting season got
started, it was already clear that something was amiss on
the U.S. corporate top-line as nominal business sales growth
totally stalled in the three months to May on an economy-wide
    While margins on some readings appear to be holding up, in a
disparity between margins and the top line it is usually wise to
trust in revenues as the more reliable guide. Margins, after
all, can be hoisted higher by many means but cash flows never
    Balanced against these risks is, in essence, one
institution: the Federal Reserve.
    Investors' prime hope is that the Fed will swoop in with
quantitative easing or some other form of relief should the
economy, and markets, show real signs of stress. A story by The
Wall Street Journal's Jon Hilsenrath, seen to have a line into
Fed thinking, raised the possibility that some action may come
out of the Fed's meeting next week.
    But there are several fundamental problems with an
investment strategy predicated on help from the Fed.
    First off, there is every chance that nothing, or very
little, comes out of next week's meeting. While there is some
hope that there might be tinkering with the rate of interest
banks are paid on reserves or perhaps a small bond buying
program targeted at the housing market, the outlook for a really
big piece of stimulus at this point is not good.
    If so, that means we have to wait until the Jackson Hole
economic conference, hosted by the Kansas City Fed at the end of
August, for hope of delivery.
    That is quite possible - the Fed in recent years has used
this forum as a place at which to deliver new programs. Still,
it is a long way to Jackson Hole, and in the meantime, there are
plenty of possible sources of shocks and volatility.
    There is also, of course, the possibility that the Fed duly
delivers and after an inevitable rally, stocks fade rapidly once
    We have had four years of extraordinary monetary policy and
the big winners so far have been bondholders. Neither the
economy or the stock market has been able to maintain traction
in that time.
    Like the repeated rescues by the European Central Bank, the
shelf life of Fed-induced euphoria seems to get shorter every
time. A market that believes that 1) the U.S. is heading into
recession and 2) the Fed will not be very effective is one on
the way down.
    "The first rule of summer is not to trade; the second is if
you have to trade, not to do much; the third is if you have to
do a lot, then only buy safe stuff," Bob Savage, a long-time
market veteran and CEO of research clearinghouse Track.com wrote
to clients.
    Summer 2012 might prove to be a good time to do very little
other than keep your head down and enjoy the Olympics.