Larry Summers Recycles Big Ben's Newspeak in St. Louis

Larry Summers was in St. Louis recently speaking about the risks to the recovery.

St. Louis is far enough away from Washington and Larry’s history of saying things others find slightly controversial could make him the perfect foil for planting the seeds of doubt the President will need to have grow into tress and not just green shoots for the 2nd round of stimulus (I’m not saying anything) that will probably be enacted whether we need it or not.

I add the “need it or not’ caveat because we didn’t need the first one in the form it was passed, especially in light of numerous instances throughout the history of this country and others that proves redistributing income just doesn’t work.

St. Louis was a good choice for another reason and that is that it is home to 8 companies that employ at least 10,000 people, another 10 that employ between 5,000-10,000 and 20 that employ 2,500-5,000. Adding this up and using 20,000 for the first category that comes to a possible maximum of 360,000 which is more than the last decrease in non-farm payrolls in case the 5 digit Dow close yesterday has affected your short term memory.

Larry’s comments included talk of “major slack” in the U.S. economy and said that “Lack of demand will be the major constraint on output and employment in the American economy for the foreseeable future.” What’s interesting here is that Larry is now using Ben Bernanke’s old lines as BB was quoted, up until his last testimony, as leaving the Fed Funds rate at zero for the same time span. At least the Government is going green and recycling syntax.

Larry’s reasoning for his view was that “the combination of low capacity utilization and substantial leveraging of household balance sheets raises questions about the sustainability of demand growth going forward.”

Some pretty dark words when you’re speaking in the “Gateway to the West”, home to hard working middle Americans untainted with big coastal city cynicism. I mean some of these poor people might even believe what politicians say. Not that I am in anyway disagreeing with LS’s prognostication, it’s more that if this is the start of a 2nd stimulus campaign I’d rather the Dow go to 20,000 so that no more useless money is spent.

Looking at the largest employers in the St. Louis area, Boeing (BA), Wal-Mart (WMT), Anheuser-Busch InBev (BUD) and McDonald’s (MCD), it is easy to see from their national and international reach how employment there might be affected by “major slack” and “low capacity utilization”.

The problems with BA’s 787 Dreamliner are well publicized but they have not necessarily been a lasting problem for the CDS/equity combo. The stock fell, rose and then fell in the first half of 2009 but has since been on a fairly steady climb recovering from any short term drops with high velocity moves to the upside. It peaked on 9/29 at $54.62 has moved sideways a bit and closed last night at $52.51. The CDS moved lower from March to early August with a slight reversal from early June to mid July.

The chart of this combination typifies why the markets have been so tricky this year for the CEC Strategy as the normally high negative correlation between CDS and equities has “decoupled” more than once and timing has stretched the 40 day window empirical studies have shown contain 3 standard deviations worth of the relationship.

When I started looking at the stats for employers in the St. Louise area I thought I’d see the “King of Beers” at the top of the list as a lifetime of watching a dozen Clydesdales has conditioned me to think that that was all they did in St. Louis. BUD is actually in the 2nd tier of employers around St. Louis, falling into the 5K-10K slot.

The CDS spreads for BUD have exhibited fairly low volatility in 2009 and the ADR which began trading in July looks to have had a fairly easy time of it to the upside.

The same cannot be said for WMT which saw an orderly decline in its CDS until early August with some movement higher afterwards but more a slow creep than true reversal. The stock, on the other hand, has moved between $48-$52 with little regard as to how the CDS might be moving.

The CDS for Mickey Dee’s looks very similar to that of WMT which makes sense given the changes in the macro outlook for the consumer this year. The stock has had a range between $50 and $60 after the initial down move from the mid-$60’s at the turn of the year but has more recently contracted into a range between $54-$58. The CDS bottomed in early August at 17bps, peaked recently at 25bps and closed last night at 24bps mirroring the reduced volatility in the stock.