Another Fed-Induced Bubble?

The Nasdaq Composite Index is down 4.9% so far in 2008, but it jumped 4.6% in May, outpacing both the S&P 500 and the DJIA for the third month in a row and giving investors hope that tech stocks will lead the market to a strong rally during the second half of the year. This recent tech rally is certainly helping our portfolio. Our stock recommendations in the technology sector rallied 6.7% in May and are up 4.3% year-to-date. Yet our consumer cyclical picks are doing even better. Although they climbed just 1.8% in May, they are up 12.8% so far this year. Our best performing stock last month, however, was an industrial company. Trinity Industries, which was also recommended by our sister publication, the Forbes Special Situation Survey, surged 34% in May alone.

Therefore, despite serious problems in the economy, it is clear that some stocks are doing just fine. While this may serve as an indicator that the economy is on the mend, it is also clear that serious troubles remain. For example, housing prices are still falling at an accelerating rate, jobless claims are rising, inflationary expectations are picking up, and consumer confidence is plummeting.

As for energy prices, they have gone through the roof and entered bubble territory. Crude oil recently hit an almost unbelievable $135 per barrel. The national average price of gasoline is just under $4 per gallon. Diesel fuel, which truckers use to transport so many goods, is getting near $5 per gallon. Indeed, the preliminary evidence thus far suggests that fuel costs are swallowing up a large part of the much heralded tax rebate checks that the government is still distributing. Consumers are also using some of that money to pay down debt, which means the predicted boost to spending may fail to materialize.

Optimists, of course, will point out that first quarter GDP growth was recently revised up to 0.9%. A good part of the increase, however,was due to a downward revision in imports. Because petroleum represents such a huge chunk of our imports, it appears that there are some serious structural changes going on in the economy. Import prices for petroleum jumped 4.4% in April, which followed a 9.2% increase in March. The falling dollar bears at least some of the blame. Higher import prices are depressing demand. Indeed, gasoline demand has been dropping for months. Some vehicle manufacturers are even resorting to unusual incentives to move inventory. Chrysler, for example, is promising buyers $2.99 per gallon gasoline for three years. As for Ford, it was was hoping to turn a profit this year, but now says we should forget about it.

Are these high energy prices justified? Some experts point to supply and demand and say yes. It is true that supplies are tight and there is less slack in the system than there once was, yet there are no shortages. Drivers do not line up for hours to buy gasoline as they did in the 1970s. And higher prices should continue to temper demand— and not just in the U.S. Much of the worldwide marginal demand has come from countries that subsidize fuel. These countries are now talking about gradually removing these subsidies. In addition, the Commodities Futures Trading Commission is investigating the manipulation of prices for crude oil and other commodities. This investigation alone should take much of the steam out of oil prices. A few months from now we may look back and realize we just went through another Fed-induced bubble.
 

Comments

[sorgmot:]

Yes, The Fed is and always has been and always will be (until its dissolution) in the bubble and bust business. The Fed runs the USA banking cartel. Please read Wealth of Nations to see what Adam Smith had to say about the reduction in the wealth of a nation when its government allows cartels to exist and ever dominate the nations economy. David Hume is another good source on the subject.

2008 Jun 06 10:31 AM

[GH:]

The CFTC's investigation is window dressing - a con. It is run by Bush appointees who are protecting Big Oil.

The FTC is the only body left with the power to uncover the oil price manipulation being committed by the investment banks - chiefly G-S, but also M-S and others. Uncover, but only the CFTC has the potential to be given the authority to stop it - and the recent Farm Bill didn't do that, it needs its old powers back that were stripped by Phil Gramm's "Enron Loophole" in 2000.

2008 Jun 06 12:36 PM

[jjason:]

Vahan, GH's comments are correct. Have you read the report by Professor Michael Greenberger from the Univ. of Maryland law school, in Baltimore that he presented to the Senate Committee on June 3, 2008 titled "Market Manipulation and Federal Enforcement Regimes"?

I read Greenberger's report and everyone should be made aware of it. Perhaps you could write an article and publish it in Forbes about what has been testified to at the Senate hearing.

Fixing "The Enron Loophole" that is discussed is not the solution to stopping energy price manipulation by ICE, NYMEX, investment banks and whoever else is complicit in allowing this price fixing situation to exist or continue to exist. The CFTC members should resign because they have not done their job to prevent US citizens from being cheated. I read Mr. Jeffrey Harris's report too ( he is the chief economist at the CFTC ) and he should also resign. If he gave his report in my Economics class, I would give him an F.

Finally, Phil Davis and Anthony Schneider have published articles on SeekingAlpha on these problems and you can download some of the reports I referred to from their articles...and The LA Times and Bloomberg too.

2008 Jun 08 11:42 AM