Short Bonds as Retail Sales Improve

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Includes: PST, SHV, TBT, TMV
by: Daryl Montgomery

U.S. November retail sales were released on December 11th. The mainstream media described the positive numbers as a 'surprise', which has been the operative word for a number of better than expected government reports lately. The reason they have been a surprise and better than expected is that evidence from non-government sources contradict them. Same store sales for major retailers in the month of November have been generally dismal. Yet U.S. government statisticians somehow found a 1.3% increase in overall retail sales. As I have said many times, the statistics are recovering, it's just the economy that's not doing well.

The November retail sales report is the first one issued using a 'revised' sample. The sample is changed every two and a half years. While reported sales improved after changing the sample (government changes frequently seem to produce better numbers), they were doing well in the preceding few months before the revision. Retail sales were up 1.1% last month and 2.4% in August.

The August numbers were the result of the U.S. government's 'Cash for Clunkers' program, a free-money giveaway to U.S. consumers so they could buy cars. Interestingly, the October numbers were up because of auto sales as well, these supposedly increased by 7.1% - and this was after 'Cash for Clunkers' was long over. It is quite amazing the American consumers can keep buying cars and trucks despite high unemployment, an already huge debt load and reduced credit availability. Where does the money come from?

U.S. retail sales numbers are based on a mail survey to 5,000 retail establishments out of a total of as many as three million. The numbers are adjusted for seasonal variation and holiday and trading day differences. Amazingly, they are not adjusted for inflation. So reported retail sales can be higher if the number of sales are decreasing, but prices have gone up. They therefore can indicate more inflation, improved economic activity, or a combination of the two.

The place to look to see if inflation is the impetus behind increasing retail sales numbers is gasoline sales. These are approximately steady in volume at this time of year, so a big rise indicates higher prices. And what item in the retails sales report had the largest rise? It was gasoline sales by far. As a further check, U.S. import price numbers for November can be examined. These were released the same day as the retail sales report and are a pure measure of inflation. They were up 1.7%, even more than the 1.3% increase in retail sales.

While the retail sales figures are somewhere between suspicious and a good confirmation of inflation, the market did not react that way. In the short-term traders believe any number published by the U.S. government, no matter how absurd. Gold had a sharp drop when the report came out, although it should have risen on the inflation implications. Stocks and the U.S. dollar went up, although inflation is a negative for them.

Bonds sold off and interest rates rose. This is the one safe haven for investors on higher retail sales news, since interest rates will go up because of a better economy and because of inflation, so the reason for the higher retail sales numbers is not important. The long-end of the yield curve will move the most. There are a number of ETFs that the average investor can use to short bonds (or go long on interest rates since interest rates move up when the price of bonds go down), such as SHV, PST, TBT and TMV (listed from least to most aggressive). Interest rates are starting to move up so it looks like shorting bonds is a win / win trade.

Disclosure: Long gold, TBT, TMV

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