Eyes Off the Target

On August 28, 2008 the Bureau of Economic Analysis [BEA] released two very widely followed and important reports. Both are backward looking and detail national macro conditions and corporate profits. Gross Domestic Product and Corporate Profits Second Quarter 2008 (Preliminary) are the reports in question. Markets have surged on the good headline news regarding 2Q2008 GDP growth. Indeed the 3.3% reported growth was well ahead of expectations- mine included. The upward revision from the advance estimate was also huge, going from 1.9% to 3.3%. This is an increase of 73%- not too shabby. Of course there was that second report as well, you know corporate profits. There are even a few folks who believe that corporate profits have some relation to where share prices ought to be.

On that first report on GDP, the sources of the quarter over quarter growth are a little troubling. About 90% of the quarterly growth came from falling imports and rising exports. All measures are in falling dollars and rising foreign currencies converted to the dollar. Thus, a very large share of the good news boils down to our declining greenbacks- during the second quarter- and the newfound poverty of American consumers. What do I mean? Our smashed dollar makes our goods cheaper- more exports- and theirs more expensive-fewer imports. Our smashed consumers are buying less- falling imports. More than a little of yesterday's celebration is excitement over our weak currency- which has been strengthening- and our broke consumers- 70% of the US GDP. Export driven GDP gain is ominous given increasing fear of a Euro Zone slowdown and further difficulties in Japan. Import reduction and export growth may not be helped by the recent strengthening of the dollar?

Real exports of goods and services increased 13.2 percent in the second quarter, compared with an increase of 5.1 percent in the first. Real imports of goods and services decreased 7.6 percent, compared with a decrease of 0.8 percent.

• GDP and Corporate Release 28, August 2008- BEA

Beyond celebrating tax rebate checks, local and state government spending, our tanking currency and the poverty of our citizens, there is little to be happy about in the GDP number other than the great headline. The other report from yesterday sheds more and different light on the present situation for assets. Why? Well the corporate profits report speaks to the earnings, growth, dividends and health of the firms who issue and report numbers. Humor me as I assume this is of some passing import to asset valuation and trajectory.

Corporate Profits

Profits from current production (corporate profits with inventory valuation and capital consumption adjustments) decreased $37.8 billion in the second quarter, compared with a decrease of $17.6 billion in the first quarter. Current-production cash flow (net cash flow with inventory valuation and capital consumption adjustments) -- the internal funds available to corporations for investment -- decreased $41.3 billion in the second quarter, in contrast to an increase of $10.1 billion in the first.

• 28 August 2008- BEA

Thus, the BEA measure of corporate profits was less robust than the surging GDP headlines might suggest. The relatively weak performance of broadly measured corporate profits indicates the economic weakness many fear. Ironically, the same report banishing recession concerns across trading floors and around water coolers contains warning level indicators about corporate profit and cash flow.

While the GDP revisions are positive, the corporate profit news is not. In addition, the large role for falling dollars has reversed - at least over recent weeks. The pain in consumer wallets looks likely to increase- now that the tax rebates are behind us. Thus, we must conclude that the sources of the growth are fleeting or disturbing. Meanwhile, the last quarter showed accelerating weakness in corporate earnings- particularly non-financials.

It is hard not to think that yesterday's rally has its eyes off the target?

Disclosure: None

Comments

[CLH:]

I guess if you try hard enough you take a positive report and turn it upside down to make it negative.

2008 Aug 29 08:32 AM

[Jason Rines...:]

For negativity CHL in 2008, it depends what spectrum you are in the economy. If you were invested in commodities such a food, energy and metals you probabily did just fine. If you were in management of a multinational corporation you probably did just fine. If you were in government, you probably received a cost of living increase and did just fine. This represents 49% of the GDP. If you were in small business or in the service economy which is 51% of the GDP, you probably got slaughtered. The real issue and problem with our economy going forward is that Main St. will always drag down Wall St. The numbers Mr Wolf is mentioning in the Corporate Profits section are demonstrating this is occuring. Main St. is dragging down Wall St. and this is a Washington policy issue to address.

You can think of it simply like this also: 5 years of a few hundred thousand people in the US moving around a couple trillion dollars and making incredible gains/profits. More power to them! But for a continued, successful economic model, it is the innovators and small business that are the pillars holding up the platform. Those pillars have cracks and have begun to crumble. Some of what occured in banking or housing could be called criminal. But most of what occured was a seven year hyperinflationary period of money from 2001-2007 and a 25 year supercredit bubble now bursting. The 51% GDP will be unable to recover in a short time period. More like 4-5 years and the recovery time based on Washington policy. There will be incredible buying opportunities with those with lots of cash and nor should shrewd investors be considered as anything but. Buy and hold strategies will become far more normal while short-term immediate profitereeing is what is going away for the investment community at large.

2008 Aug 29 12:20 PM

[Rose Ley:]

And I guess if you try hard enough you can turn a bad report upside down and make great headlines.

2008 Aug 29 11:37 PM