There needs to be one person in the room smart enough to ask the right question at the right time. It appears Obama and his administration are lacking that essential wisdom. As the President was slinging accusations towards the financial sector he won the battle by convincing mainstream Americans that the banking industry was solely to blame for the financial crisis, but he may have lost the war. He painted a picture of over compensated, greedy executives who were in need of a bailout from Main Street. A wiser man never would have publicly trashed the all-important financial sector. Obama did all he could to portray men like Jamie Dimon of JP Morgan (JPM) and Ken Lewis of Bank of America (BAC) as the villains. The question that should have been asked, ‘Do we need a cooperative, healthy financial sector to sustain this economic recovery?’ was never asked. Now it’s the banks who are getting the last laugh and the Democratic party is about to pay the price.
Housing weakness is going to take the Democrats out of office. Obama thought that he didn’t need the bankers, he thought that the cyclical recovery would be strong enough to overcome all obstacles, he thought that he could ram through his health care and financial reform agenda without respecting the economic climate. He thought wrong. The elephant in the room is that Obama needlessly declared war against the financials and his agenda will be repealed because of it. Imagine a football coach declaring war on his lineman...no coach in his right mind would ever do that because he knows without the full effort and support of his line the team doesn’t stand a chance of winning. Well, the financial sector is like the offensive and defensive lines of the economy. Their contribution often goes unnoticed but it is the primary enabler of success. Lending enables growth.
What would you do if you were one of these banks that had been publicly vilified by Obama? You would probably do the same thing they are doing, or should I say not doing. The banks aren’t lending. The banks are on strike against the Obama administration. The capital channels that allow housing to breathe are completely clogged. That is the real story on a day when existing home sales plummeted to their worst levels ever. Those in the media who keep referring to this economic environment as a ‘jobless recovery’ are mistaken as to the root cause of this pause. The theme of the current economic environment should read ‘housing-induced deflation’. Private sector employment is actually doing quite well other than construction and financing related jobs. It’s not employment that’s holding us back. It’s housing.
On April 1, 2010 the accounting rules for banks changed which caused $300 billion of previously extended credit to appear on bank balance sheets as if it was new issue. This loophole of FAS 166/67 caused analysts to misrepresent what was actually happening in the sector. Contrary to the perception that banks were lending out new money, we know that instead, they have been repairing their over-leveraged balance sheets by using depositor money to purchase US government paper. Since the collapse of Bear Stearns in March 2008, data from the Federal Reserve shows that bank lending has declined by $220 billion and the amount of US government paper owned by banks has increased by $337 billion. Instead of depositor money being used to stimulate economic activity in the private sector by lending to businesses and consumers, the banks are helping to fund the growing federal deficits. Fed Chairman Ben Bernanke admitted as much when he sounded the alarm back in May that credit remains tight and banks still are not lending to sound borrowers. People who can afford to buy a house can’t secure the loan to do so. Banks are delaying and rejecting worthy borrowers. The unintended consequence of Obama's war against the financial system is that the system will now crush him. There will be no more recovery until lending loosens up. Gridlock will return to Washington. Obama needs to figure out a way to get the financials back on board if he has any hope of stimulating this recovery.
Until housing shows signs of improvement, it will be difficult for investors to navigate even the stocks of great companies like Apple (AAPL), Baidu (BIDU), Intuitive Surgical (ISRG), Netflix (NFLX), and other momentum favorites like Google (GOOG), Amazon (AMZN), and Priceline (PCLN). Investors need to keep a close eye on the direction of economic timing before committing to a strategic conviction. Our 74% portfolio cash position will remain for the time being.
Disclosure: Long AAPL