IS RE-LEVERAGING A GOOD THING?
John Markman of MSN was very vocal in an interview on Tech Ticker today in which he argued that the bears are wrong about the economy because the US consumer is re-leveraging. Of course, regular readers know that I have long argued that the consumer is not ready to run with the economic recovery baton due to the continuing deleveraging that needs to take place. With a $1.5T hole in their balance sheets the US consumer is unlikely to begin borrowing money again en masse.
Markman is correct that we are seeing more signs of consumer stability and maybe even a slight pick-up in borrowing, however, I would argue that a re-leveraging of the consumer is far from a good thing and would in fact do nothing more than take us back to the same environment that got us into this mess to begin with. We need real organic economic growth, job growth, wage growth and continued consumer frugality in order to lay the foundation for a sustained long-term recovery. More of what got us here is not a good thing. Is the US consumer really re-leveraging? Let’s hope not.
Full interview follows:
Source: Yahoo Tech Ticker
I stopped reading this guy over a year ago because “analysis” like this. People are borrowing and lenders are lending because Visa’s and MasterCard’s stocks are high? Retailers stock prices have surpassed 2007 levels, so people definitely are re-leveraging? Is this what passes for analysis these days? How about some actual data, not a bunch of stock quotes and anecdotes?
How about this for actual data. The savings rate is falling and for the last few months, income growth has been flat but consumption has been rising at a 5% annual rate
None of what you cite is relevant to consumers taking on more leverage. I don’t argue that consumers are spending more when compared to depressed year-ago levels, however, that does not imply they are borrowing more. The FED’s own data-set on consumer credit shows that consumers are not currently re-leveraging.
Also, Markman should know that Visa and MasterCard are credit/debit card transaction processors; they DO NOT extend credit. Looking at their stock prices gives no indication to increases/decreases in consumer credit. This is a completely specious argument on Markman’s part.
You know blow off top is near when pundits like Markman join the bull crowd. Markman used to be one of the better pundit but that was 5+ yrs ago.
This market is drunk in its own invincibility and such sentiment usually ends badly.
The consumer is only re-leveraging ex-mortgage debt. That mortgage debt is still there, but because the threat of foreclosure is not as severe as it used to be, that debt has been largely ignored.
It is certainly true that consumption is starting to pick up, while personal incomes are increasing and the savings rate is starting to slip.
But that trend doesn’t match consumer credit balances. Revolving and non-revolving consumer debt have been on the decline and are currently back to about 2005-6 levels. The increased consumption is being paid for with the combined increase in incomes and the reduced savings rate.
I would agree that the consumer will releverage — all of the talk about the American consumer adopting permanent austerity has been yet another meme that’s about to be proven wrong. But it hasn’t quite happened yet.
If anything, the fact that it hasn’t yet happened is an indication that consumption is going to take off, as there is enough pent up demand for credit and consumption that we’ll see more spending and consumer debt soon enough.
I would argue that a re-leveraging of the consumer is far from a good thing
From an investment standpoint, that doesn’t matter. It’s going to happen whether or not you like it. Don’t fight the tape on this one.
This is certainly a near-term positive. As I have said consistently, it is one of the main reasons why I am constructive on the economy in the near-term. But this is primarily due to government spending and not organic growth. The private sector is still underwater from a balance sheet perspective and is only being propped up by government crediting of private sector accounts.
It will be very interesting to see what happens with housing when the stimulus ends. And even more interesting to see what happens if the government actually steps aside in 2011. And it will get even more interesting if the Fed becomes convinced that the private sector can run with the baton and raises rates. And it will get utterly fascinating when China’s inevitable downturn takes place and the EU finally realizes that the Euro is flawed….2011/2012 has the potential to be some of the most fascinating times in economic history….
this is primarily due to government spending and not organic growth.
Of course it was. It’s a neo-Keynesian policy of using government spending as an interim measure to create GDP until the consumer and investment come in to fill the gap.
And apparently, it’s working. That temporary savings is going to be converted into pent-up consumption and business investment. The policy is doing what it was supposed to do; the government spending was meant to be a stop gap.
It will be very interesting to see what happens with housing when the stimulus ends.
I’m reasonably sure that housing has already bottomed out in most markets in the price segment that qualifies for conforming loans, and is going to bottom out in the tier above that. Inventories are being managed and the great double dip is not going to happen; any dip, if there is one, will be fairly mild and not substantial enough to those who bought recently.
Mark my words — the MBS will stage a comeback, and within a few years, we’re going to have another housing surge that may very well turn into a new bubble some time after that. Fortunately for GS, they’ll make enough money on the first couple of deals to pay for the Abacus settlement…
It’s far too early to say that it’s “working”. If the government pulls out too early and reveals a still very weak and indebted private sector then we’ll retrench and the government spending myth will be proven so. Trust me, I wish the path to prosperity were as easy as turning on the liquidity spigot every time we got ourselves into economic trouble, but history has proven that is not the case.
Keynesianism works just great under your average ho hum recession. We’ll see how it fares over the coming few years. My guess is we are still Japan and there is no amount of spending that will offset the private sector’s need to continue de-leveraging. But we won’t know the answer to these questions for many years.
My guess is we are still Japan and there is no amount of spending that will offset the private sector’s need to continue de-leveraging.
We aren’t close to being Japan. Unlike Japan, the US has asset inflation policies and they are working — stocks have largely rebounded and housing have bottomed. Japan protected its banks from failure, but never addressed the underlying asset values that created that failure, which turned them into zombies. Love ‘em or hate ‘em, the policies are not the same.
Next thing that you’ll be seeing is that the much-expected CRE bubble is not going to pop. (It will hiss in places, but there will be no big burst.)
The US consumer doesn’t behave like the Japanese consumer, and US markets are large enough and international enough to attract capital that will keep it afloat and generate domino effects that move other sectors upward. I suspect that stocks will be topping out or at least slowing down, and that topping process will drive investors to seek out other opportunities, which will then feed into the rest of the US economy. Coupled with the EU’s failure to produce an adequate stimulus, and there will be no shortage of funds to prop up US markets.
I find way too much certainty in your comments. Who says housing has bottomed? Look at bankruptcy filings, savings rates, and unemployment numbers (which paint a much rosier picture). I would look beyond the numbers on housing starts/purchases because these are the same naive consumers that got us in this mess to begin with. I mean – I think everyone can safely assume both the spike in employment was based very much on government hiring (and temporary hiring at that) and the spike in housing was due to expiration of a relatively small tax credit. Your “average America” has about $10k in savings going into retirement – the numbers just don’t jive with reality.
Moreover, some of the banks are getting a bit overworked as the demons in all of this when everyone knows that so many other participants are at fault. Credit card lines and credit businesses are being wound down – no more mortgage payments from the Credit Card this time around (and much higher fees for those that do). This has been explicitly stated in a number of the financial’s quarter end reports as of late.
Finally, the sovereign debt issue has a much greater risk than is being priced in. The default of Greece (if allowed to happen) would cause a massive contagion as their largest lenders are France, Germany, Spain, and Portugal. Portugal and Spain are already teetering as it is. This could be a house of dominos that would make the Hedge Fund Armageddon I witnessed in 2008 look like a sunshower. If this is allowed to happen – yes, it would chase money into US markets, but not into equities as our biggest importers would be affected (thus crushing demand and trade imbalances). Rather you’d see dollar/UST purchases much like 2008 – driving the dollar much higher and causing an entire revaluation of the indexes. If this default isn’t allowed to occur (requiring either a refi of debt or a bailout), again that would stifle European demand for anything equity related.
Finally, I think there is no doubt that inflation is very much in play right now – despite the “volatile” energy and food prices. The Fed isn’t stupid – many members see this and the hawks are circling the Ben’s helicopter asking him to come back down to earth a bit. This is NOT a bad thing. Government spending can only go so far. The gears must be shifted from traditional Fed operations to something new and profound – enforced or direct consumer lending (if they want to keep rates low). It’s obvious that the financials have had their chance at the trough and yet many Americans are still suffering – and very unhappy. Despite working for a bank, I see that without appeasing the consumers, we could have a major populist unrest (and I must add – Witch Hunting as employed now by ALL politicians is the absolute worst strategy. William James would quote this as inciting a mob and its one of the few cases where Free Speech is legally allowed to be hindered).
The risks are much much higher than the market appreciates at this point and for once, the average American is not COMPLETELY falling for it (and though the credit/income spending or savings drawdown is a negative thing – at least they are picking up tangibles). They haven’t bought into this market and Money Market/Bond funds are still experiencing much greater inflows than Mutual Funds. Sidelined insiders are perfectly fine to sit in cash and wait and see what happens – as they’ve learned in this environment, they have much less control over performance than they used to.
Who says housing has bottomed
I did. You’re saying with equal conviction that it hasn’t. We’ll see who’s proven right, and you obviously know who I think will win that bet.
Look at bankruptcy filings, savings rates, and unemployment numbers
You must know that BK filings and unemployment are lagging indicators. Don’t use those to forecast the future — today’s BK filing is the blowback from what a household did years prior.
If anything, bankruptcy filings should increase as employment improves. Bankruptcy plans require income, and as incomes improve, that will allow consumers to use BK to purge their debt, which is a very good thing.
The default of Greece (if allowed to happen) would cause a massive contagion
Greece is a pimple on the backside of Europe. A bailout would cost a fraction of total Euroland GDP.
Euroland’s problems are in the confederate nature of its management, which results in indecisiveness, and in their failure to adequately stimulate. But that should ultimately help the US and slightly strengthen the US dollar, not harm US markets.
I think there is no doubt that inflation is very much in play right now
There’s no credible evidence of inflation. Not only is there “no doubt” about this, but there is an abundance of doubt.
First of all, I didn’t deny housing starts are at a bottom – I just question your absolutism in this statement. Such statements show an air of hubris as if there is certainty in any aspect of the open market place. I would like to see credible evidence that housing has bottomed beyond stock market prices and REIT performance. No need to put words in my mouth – I don’t trade on certainty but rather probability.
Bankruptcy filings within the last 5 years preclude an impossibility at financing a conforming mortgage. Again, the employment situation has NOT improved – certainly not to enough to warrant housing purchases. And even if employment has improved (and it hasn’t), that’s not to say that the employed have paid down debt and are able to now buy new homes or draw cash on existing homes.
Again, your view is absolutely narrow. Greece is the pimple on the ass of Europe just like subprime lending was the pimp on the ass of the housing market. Tied to Greek debt would be billions in CDS exposure as well as billions of finance – both also tied to other EU components. I would hardly call Spain a pimple on the ass of Europe. Much less Spain, Portugal, Greece and Italy combined, all the associated debt and all the associated default derivatives. Oh, and of course, lets not forget foreign sovereign wealth funds and hedge funds. Except this time – who will bail out the international CDS exposure??? IMF? Love to see that happen….
Even the market sees this – I don’t know if you’re cheerleading or turning a blind eye but I’d say you’re swimming upstream on this one.
And inflation is in play – energy and food prices have not been volatile in the least – they’ve gone up faster than the markets have. Moreover, a rush to dollar holdings would cause an increase in the value of the dollar and a sell-off in equities as relative P/E would skyrocket to future expectations that are beyond what we saw even in 2007…
Most v-shaped recovery theorists are totally ignoring the risks abroad.
China and/or Europe will likely be the cause of the next recession. China is finding out right now that government spending isn’t the magic bullet we’ve told them it is. Now they’re wrangling with an overheating economy and a stock market that falls every day.
If MBA is looking for a perfect example of what excessive government spending does to an economy just keep your eye on China. It’s unfolding in real-time for us right now.
As for Greece, they’re only the first one. This is a currency problem. Not necessarily a debt problem. The Euro is flawed and they’re all realizing it now. How this unfolds over the coming two years is anyone’s guess, but I would venture to say that Germany and or several others will leave the EU and bring back the BuBa. They need price stability and will fight tooth and nail for it.
The biggest risks to this recovery are not domestic.
As for housing prices in the US – anyone can look at housing’s average price performance in-line with the rate of inflation (over 150 years) and the high level of real supply and come to the conclusion that housing prices are still too high (by about 15% in most major cities). In my opinion, this will be rectified via 5-10 years of flat prices as opposed to plummeting prices…..
The theory that inflation is non-existent and housing will boom is a total contradiction.
Such statements show an air of hubris as if there is certainty in any aspect of the open market place.
There’s no hubris in identifying the bottom of the cycle, just as there was no hubris in calling the top. You need to be able to watch cycles and be willing to make such judgments.
I would like to see credible evidence that housing has bottomed beyond stock market prices and REIT performance.
The government is engaging in asset inflation policies. Fighting Uncle Sam and what he wants is generally a very bad idea.
the employment situation has NOT improved
Again, unemployment is a lagging indicator. Using lagging indicators to predict the future is a poor idea.
The hardcore bears miss it because they want far too much confirmation data and fixate on historical comparisons. If you wait that long, you’ll be a bandwagon jumper instead of a leader, which means you’ll overpay. There are times to be bullish and times to be bearish, and the bears have been on the wrong side of the trade for quite awhile.
Identifying the bottom of a cycle can only be concluded in hindsight. This is certainly not 1-2 months after a new low….look at unemployment numbers, or any falling chart for that matter. Remember, a lot more people were wiped out in the Great Depression by the second dip than the first one.
What is Uncle Sam doing? He’s cutting off tax credits and speaking about selling MBS securities? He’s raising taxes, increasing government programs, and going on a witch hunt targeting the last holders of this paper. Delinquency rates are rising as are second mortgage defaults and foreclosures. Yes, one could argue it’s always darkest before dawn – however, to me, 2 AM looks very similar to 4 AM… Finally, fighting Uncle Same from late 2007 to end of 2008 made a number of my friends multimillionaires…..
I think I prefer SOME confirmation that anything has changed regarding true consumption. A trend is only a trend until it reverses itself. And in general, a market tends to fall much faster than it rises.
I agree with the defensive stature. Additionally, it’s a bit silly to assume that all bears have been short since early 2009. I was long until about 3 weeks ago when things started to look overextended. I’ve missed maybe 20 S&P points, if that, but have been in short term debt and bonds gaining fixed income (I don’t have the luxury to short term trade on most products like others do).
Either way, I guess we’ll just have to wait and see what happens. I’m not fighting against Uncle Sam, I’m fighting alongside John Q. Public
You sound very defensive MBA. Not sure why.
Japan had the same success with asset prices and GDP growth as they poured stimulus into the economy. And every time they stopped pouring government stimulus into the market a recession unfolded. Your history is incorrect here.
What makes you think the US consumer can continue to accumulate debt when their balance sheet remains underwater? I am not saying they won’t ever recover, but rather than they have not recovered yet. I still see 18-24 months before the government can truly hand over the baton.
You sound very defensive MBA.
I don’t see anything that I’ve stated here that is particularly “defensive.” I’m just calling it as I see it, and I think that it’s quite risky to butt heads with the tide being created by Uncle Sam.
Japan had the same success with asset prices
No, they didn’t. The Nikkei tanked years ago, and has slid over the long term. It has never recovered anything close to its peak.
Japan is a very different market, given its export orientation and cumbersome policies. The US has been more proactive about supporting asset values, and I suspect that you’ll see more bona fide balance sheet repair now that asset values have put in a floor.
US policies have not been optimal in every respect, but they are what they are. You have to act based upon what the policies are, rather than what some of us might prefer them to be. Whether or not you like those policies, they are achieving their goals of asset inflation, and you fight the tide at your own peril.
I’ve long been in the “square root” (vs. the “V”, “U” or collapse camps), and so far, things have played out accordingly. I see no reason to change positions with respect to that. As new information becomes available, I will happily change as necessary, as I have no inherent directional bias. I accept that the market is much larger than I am, and it’s best to float with it, rather than fight it.
I think the guy who was interviewed touched on some valid points but the segment was too brief (and merely discussion oriented) to substantiate what he said (thereby rendering it largely worthless to a prudent investor). I think it would be possible to chart relevant data such as inflation adjusted personal expenditures vs personal income vs credit and thereby possibly get a better sense of what is going on (according to the government data, at least). I think the vast majority of personal expenditures aren’t really discretionary. As in they can’t be avoided or put off forever. We’ve surely seen a release of pent up demand boosted by various things including the time of year, government stimulus, fear of inflation, etc. I question and doubt whether the QoQ change will be sustained in future quarters.
I suspect there are many who took advantage of the low rates to leverage up. However, I also suspect that individuals in general are continuing to deleverage and even if that stops I think it will be a long time before credit growth approaches the old levels.
One thing that shouldn’t be overlooked is the fact that this country continues to be in dire financial shape. Something must and will give… significantly higher taxes, significantly higher inflation, significantly lower benefits, and/or some other negatives will occur. Although we could return to the previous levels of yearly growth in nominal consumer spending, I don’t see how we can expect to return to the previous levels of yearly growth in real consumer spending.
The Fed is successfully short circuiting the deleveraing process much as they did in 2001( 2001 recession should have been longer and deeper than it was to purge the excesses of the late 1990s).
It is correct that we cannot have a long term expansion with the consumer re-leveraging. But that is exactly what is going to happen. The savings rate has fallen in the past year from 7% to 3%. I predict it will be 0% by this time next year. The Fed is scared to death of Japan style deflation and will do what ever it can to prevent deleveraging and just hope GDP growth magically lifts us out of this debt spiral.
With income growth flat since 2000 and with real income growth going to be flat going forward (real income never rises when monetary policy is the chief driver of growth), once consumers deplete their savings, consumption growth will slow dramatically. The home equity and refinancing ATM is closed for the foreseeable future.
Structurally the US economy is in worse shape than it has been at the beginning of any other recent expansion. All we have done is cover up the damage with printed money.
On the debate above regarding asset-value inflation policies, I just want to add that from a purely economic standpoint, eventually asset values should reflect economic value added, meaning government policies propping asset prices cannot work ad infinitum. The ultimate test of those policies taken to their logical conclusion would be on the credibility of the government, whether fiscal (solvency – unlikely to have problems here), or monetary (i.e., inflation as compared to a basket of commodities – much more likely). But that test might be years and years away.
In the meantime, the nearer-term question is whether we believe the government will be successful in reflating asset prices in a durable fashion (more than a few months and through implicit support as opposed to direct assistance). I think that’s a much more open-ended question than most bears (who overfocus on the long-term problem) and bulls (who have only seen Fed policies work again and again in the past 20 years) believe. Fiscal and monetary bullets have already been spent in large part due to political concerns, so tools to fight any major weakness moving forward are limited. Is there enough momentum to fight housing / CRE asset prices that probably want to decline to reach a market clearing price?
I honestly have no clue. My only answer to all of this is to buy volatility, as either way I think the road will be much rockier than is currently being priced into the market.
Markman is full of BS. With an actual 18-20% unemployment, the only way that that 18-20% is spending is through government checks. That definitely can’t go on forever, and it is a major sign of unsustainability in the economy. Obama and his group have made no effort to put people back to work, but they have made every effort to extend the dole so that the true depth of this depression will not be recognized.