Silent Signs Of Improvement: Recession Fears Loom

by: Phillip L. Clark

Heading into the Labor Day weekend, last week provided an assortment of economic data that could have been worse, but the focus of the markets was job growth (or should I say the lack thereof). There are many factors that come into play: softening demand in the U.S., fiscal policies and labor costs. Since last year, we have heard that jobs are coming, but it takes time. At the beginning of 2011, transitory became the newest vogue but the fact is, jobs are coming at a much slower pace than anticipated and very little has been done to stimulate that part of the economy. The question now is whether weak job growth is transitory and should additional monetary policy be considered?

U.S. businesses failed to create jobs in August. That’s right; non-farm payrolls growth for the month was zero. The reading came in well below consensus which called for 100,000 jobs. Adding to the already disappointing numbers, July’s payroll total was also revised down. It is likely that Verizon’s (NYSE:VZ) strike impacted the figures as did the U.S. debt downgrade. Some argue that our nation didn’t deserve the harsh demotion while others argue that it was long overdue. Potentially helping a reversal in the downgrade is a decline in Government hiring but that does nothing for the fragile economy. Unemployment claims have been trending lower and historically low inventory-to-sales ratios might suggest a hiring rebound later in the year. Perhaps late in his bid to stimulate the ailing job market, President Obama will address this issue on Thursday night. Indeed, if his plan is plausible, why has it taken so long to make it public?

There is no denying the manifold challenges around the globe. However, against the backdrop of an enervated economy, the Fed didn’t give the so-called easy fix for which investors were hoping. Looking back to 2010, government intervention provided a host of stimulative programs that included: TARP, first time homebuyer’s credit, and cash for clunkers. Then, in their quest to provide additional life support, the Fed started buying their own Treasuries. This sparked a relentless stock market rally that would not lose its vigor until the end of June 2011, which coincided with the end of QE2. The subsequent correction could be linked, at least partially, to the closing of QE2. But the biggest contributor, in my opinion, is our government’s ineptitude, which created a far greater risk to the recovery.

Ben Bernanke held his ground and did not accommodate investors with additional stimulus. Had he chosen a new round of monetary stimulus, he would be admitting that the recovery is not intact. The economy remains fragile and the last thing it needs is confirmation from the Fed Chair that it is in deep trouble. With our government showing little signs of bipartisan solutions regarding the debt-ceiling and spending cuts, additional leverage on the country’s balance sheet will only add to the problem. This would likely send a grave message that the recovery cannot continue without the aid of continued life support.

That said, there might be an implicit message in the latest move by the Fed and it could yield positive results. Abstaining from additional stimulus could suggest that the recovery needs no more intervention and is strong enough to sustain on its own. With inflation staring us in the face, further easing would create an even heavier burden by weakening the dollar. Translation, dollar-priced commodities such as oil are re-priced higher due to the weak dollar. QE3 would likely further weaken the dollar thus adding to the burden on domestic consumers and putting the economy at risk of collapse. The Fed’s silence on the need for more intervention points to improvement. If businesses and consumers take the bait, the recovery will be of little concern. Even so, we will need our leaders to start leading and stop being politicians.

The Bottom Line: Economists and pundits got it wrong earlier this year when they asserted markets would reach new highs by year-end. Certainly, the August jobs report does not bode well for second half growth or a rally in the stock market. With other news being average or mildly positive, we are heading into a notoriously bad month for stocks. We can expect some rebound in jobs as the Verizon strike has ended but, of course, we need businesses to start hiring. Unfortunately, that isn’t likely to happen with so much uncertainty from policymakers. Everyone awaits President Obama’s job creation plan and the results from the Super Committee on further debt reduction. Finally, the Fed has said “no” on stimulus but they meet again on September 21. Let’s hope they don’t change their mind. In the meantime, our eyes are focused on the contagion coming out of Europe. Its effects will be far reaching.

Our investment strategy is much the same as it has been for much of the year. The headwinds and headlines continue to move the markets. The S&P 500 faces technical resistance at the 50-day average (1260) and the 200-day average (1285). If the market can’t break through these levels, it is not out of the question to see the index retrace its lows to the 1120 range; so far this has not been the case. For now, we remain cautious and continue to maintain higher allocations to cash in anticipation of being fully invested as conditions improve.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.