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Today's Market WrapUp |
"Brother, Can You Spare A Dime?"
It was a song in 1932 made popular by the times. The U.S. was in the beginning stages of the Great Depression that would not end until World War II. The E.Y. Harburg song might be updated today to reflect the times more appropriately titled “Brother, Can You Spare a Billion? Why Not Make It A Trillion?” Everybody needs money these days. Consumers have too much debt and can’t pay their bills. Delinquencies, defaults, and bankruptcies are on the rise. It takes more debt each month to pay the bills so John Q and his family go deeper into debt. On the corporate side, more companies are filing for bankruptcy as debt payments pile. Today United Airlines filed for bankruptcy. The second largest U.S. airline will be unable to meet its debt payments of over $900 million this month, so United is seeking a federal aid. It is struggling with high labor costs, massive amounts of debt, a decline in revenue and a fare war with other airlines. United needs a dime and a billion. The government doesn’t have a dime to spare.
United isn’t the only company that is need of spare billions. A report in the latest Elliott Wave Financial Forecast quotes an ominous statistic: liabilities for the 30 Dow Stocks are $3.3 trillion. The net worth of the 30 Dow stocks is only $728 billion of which $218 billion is goodwill. Tangible net worth is only $510 billion, meaning that the Dow 30 stocks have $6.5 dollars of debt for every $1 dollar in equity.
The Golden State is Singing The Blues
Companies aren’t the only ones needing a spare dime or billion. The government of California (5th largest economy of the world) is about to go broke. Upon taking office at the beginning of 1999, Governor Gray (I-don’t-understand-budgets-and-energy-prices) Davis embarked on a reckless spending program that has now brought the state to the point of fiscal bankruptcy. Davis lavishly raised government salaries and expanded government payrolls from 282,000 to 326,000 in just two years. Davis began to spend extravagantly and carelessly, rewarding constituents and contributors to his election campaign. The only problem was that the state at that time was running a surplus based on additional tax revenues from capital gains and stock options from the tech run-up of the late 1990’s. In 2000 the state received $17 billion in additional tax revenues as a result of capital gains and stock option taxes from the state’s technology industry. Davis saw that money as a windfall and embarked on a massive spending program based on good times. The only problem for Davis is that his spending plans were made permanent, but were based on temporary tax windfalls from capital gains.
The governor then mismanaged the state’s energy crisis, costing the state and its citizens tens of billions of dollars. Now the bull market is over and the state economy has sunk deep in a recession. The only thing holding up the state’s economy is consumer spending and housing. The governor is now forced to take emergency steps to try to plug a $10.2 billion budget gap. The situation is so dire that the Democratic Assembly speaker, Herb Wesson, in response to the state’s $25 billion budget shortfall said, “That’s a hole so deep and so vast that even if we fired every single person on the state payroll—every park ranger, every college professor and every Highway Patrol officer—we would still be more than $6 billion short.”
The problem is the state’s massive welfare system, which is bleeding the budget coffers dry. Large taxes on everything from sin taxes on alcohol and tobacco, to large income tax hikes and a major increase in the sales tax are being considered. The Democrats are considering major tax increases levied against business. Businesses are threatening to leave the state if the high cost of government is imposed on the business sector. California is at the top of the list as being one of the highest taxed states. Sales taxes are 7.75%, income taxes are 9.3%, and property taxes counting the numerous fees assessed against homeowners can run as high as 2%. In the last recession California raised income taxes to 11%, and increased unemployment taxes substantially. Many large firms left the state because it became too costly to do business in the golden state. Public employee and teachers’ unions, the beneficiaries of the governor’s largesse, are threatening to put up a stiff fight against any pay or job cuts. Businesses are threatening to leave the state depriving the state of much needed tax revenues. The wealthy are also exiting. The top 10% of California’s taxpayers pay over 75% of all taxes.
The question many wealthy residents, business owners and corporations are asking themselves today is, Why live or do business in the state? California is the fifth or sixth largest economy in the world, accounting for $1.3 trillion in output. It is an economy on the fiscal brink due to mismanagement. Many of the governor’s proposals will only put a band-aid on the problem. The Legislative Analyst’s Office estimates that revenues are so far short that the state will run budget deficits of $12-$15 billion over the next five years even if the economy recovers. That is how bad things have been mismanaged fiscally. California municipal bonds could lose their high quality rating and are in danger of credit downgrades. California’s next step may be to go to Washington looking for dimes or billions. (Visit California Legislative Analysts' Office site for an eye-opening picture of the budget crisis. Link)
California isn’t the only state in trouble. Five other states are in equally bad shape—Alaska, Arizona, Colorado, Idaho, and Nevada.
Latin Neighbors Looking for Aid as Well
Washington will have others that will be seeking handouts, with one of them being Brazil. The newly-elected President of Brazil, Luiz Inacio Lula, heads to Washington to secure new financing to fulfill election promises to voters. The President said that he has three priorities: “credit, credit and credit.” Lula’s top priority will be to convince banks to keep loaning the country more money so that it can avoid defaulting on $300 billion in debt. Lula will try to convince the President to help persuade Citigroup, Fleet Boston and other U.S. banks that have loaned $31.9 billion to Brazil to restore and reopen credit lines for more loans, loans that will probably never be repaid. Without those new lines of credit, Brazil will have no choice but to default on its $300 billion in debt. Brazil needs more dimes and billions from Washington.
The only question is who will be lending Washington a dime, a billion or a trillion? So far it has been foreigners financing America’s $500 billion trade and current account deficit. The government’s budget deficit is going to expand and get even bigger. Of the $450 billion added to the national debt since the beginning of this summer, only $60 billion remains which will be spent by the end of the year. At the present rate of spending, the national debt limit will have to be increased by $1 trillion when Congress returns after the holiday. In Washington they will be singing, “Brother, Can You Spare a Trillion?”
Markets Blue Too
All of this news was not lost on the stock market. The major averages experienced their biggest loss in a month. The Dow lost 2%, the S&P 500 was down 2.2%, and the NASDAQ tumbled by 3.9%. Tech stocks led the bear market rally and they are leading the decline. Analysts are now adjusting their rosy estimates for Q4. Today Banc of America cut its revenue and profit forecasts for IBM. Retailers continue to fall as more stores report weaker-than-expected holiday sales. Technology, retail, and financial stocks are leading last week’s and this week’s decline. There is very little news on the financial front this week other than earnings confessions. On the economic front, the big news will come out on Thursday and Friday. On Thursday we’ll get the government’s Current Account Deficit for Q3 which is expected to be a whopper. November retail sales will also be reported. On Friday there will be reports out on business inventories, November PPI, and the Michigan consumer sentiment. If stock prices keep falling consumer sentiment should also fall.
Overall it should be a hard week down that perhaps, if we get lucky, will be followed by a year-end Santa Claus rally based on hype and spin. This time of the year has a lot of seasonal factors going for it. To get a year-end rally is going to take a very bold program of spin that turns lemons into lemonade.
The major averages have given a substantial chunk back of their gains from the October rally. The Dow has lost 7% in the last week, the Nasdaq is down over 8%, and the S&P 500 has lost 5%. The major averages are resting upon their 90-day moving averages and need to hold at or above these levels to avoid further selling. Many traders that use mechanical trading systems buy and sell off moving averages. Their support levels are a key to further support. Of course there is always intervention by the PPT, if things get out of hand. The Fed has already put the markets on notice that it will do all that is necessary to hold up the markets and the economy. This means that monetizing any asset class will be considered in order to avoid deflation. WHAT BETTER WAY TO INFLATE THE MARKETS THAN FOR THE FED TO START BUYING STOCKS? In order to avoid one bubble from deflating, the Fed has to create another bubble to take its place. The tech bubble that burst in 2000 was replaced by a bond market, home mortgage, real estate and consumption bubble. Now that it appears those bubbles are beginning to deflate, what is to take their place?
Things Beginning to Percolate
The next bubble I believe is going to be in “things” as shown in these graphs of the CRB Index, gold, oil, and natural gas. Helping oil prices rise today were reports out on Venezuela, which is bordering on chaos. Oil workers and tanker captains are continuing a week-long strike that has basically shut down oil shipments out of the country. Venezuela is a key oil supplier to the U.S. The country ships 1.4 million barrels of oil a day to the U.S., making it the fourth largest supplier of oil. Oil analysts were counting on Venezuela to be a stable supplier of oil in case of war with Iraq. That course of war is looking ever more probable after this weekend’s report by Iraq. Iraq states defiantly that they haven’t possessed any biological, chemical, or nuclear-related weapons for at least 10 years. Iraq presented itself as a peaceful loving nation. Any failure by Iraq to disclose weapons of mass destruction could provide the catalyst for a U.S.–led attack. Britain’s Foreign Secretary, Jack Straw, told BBC television this weekend that President Saddam’s past disclosures have all been “a pack of lies.” U.S. and UK military forces began military exercises today in the Persian Gulf to test command, control, and communication structures in preparation for war.
Today's Market
Meanwhile back in the markets, the dollar was weak today as traders feel the appointment of John Snow would favor a weaker dollar. A weaker dollar would benefit shares of large-cap multinationals who would have gains from foreign sales if the dollar weakened.
Volume came in at 1.22 billion shares on the NYSE and 1.46 billion on the NASDAQ. Market breadth was decidedly negative by 23-9 on the NYSE and by 25-9 on the NASDAQ. Stocks were weak and bonds were strong as the game of musical chairs continues with money going out of stocks and back into bonds looking for a safe haven.
The Fed meets in Washington tomorrow, but nobody expects the Fed to move after their surprise rate cut of half a point last month. What the market now needs is for a company or an economic report to come out that is bad, but looks good because it beats estimates just like the IBM report in October. Current consensus is for the Fed to put rate cuts on hold until May of next year. Don’t bet on it if the economy weakens further. Overseas Markets