Friday, May 27, 2016

Here are the cracks that are starting to show in the U.S. economy

From Justin Brill, Editor, Stansberry Digest:
The Federal Reserve is “obsessed” with the stock market…
So says Marc “Dr. Doom” Faber, economist, investor, and editor of the Gloom, Boom & Doom Report.
Like us, Faber believes the Fed is more concerned about whether the market is rising or falling than the economic data it purports to follow closely.
In fact, he thinks last week’s coordinated announcements about a potential June rate hike were meant to test the market’s response. As he explained in an interview with financial-news network CNBC last week…
[The Fed] said a rate hike is on the table so they can watch the market reaction. If we are, in June, 10% to 20% lower in stocks and bond yields are up, they’re not going to move. If, on the other hand, the market is relatively stable and moves up from here… they will probably move. They’re very much market dependent in my opinion.
While the official measures like unemployment, economic growth, and inflation are at or near the Fed’s stated goals, Faber doesn’t think the economy is as healthy as those numbers suggest. More from the interview…
My sense is that the economy is, in some sectors, hardly growing. The retail-sales figures are very suspicious and the employment figures are also suspicious. The difficulty is, can you trust the published data, whether that is in the U.S., in Europe, or in China? Of course I don’t.
Like several other notable investors we’ve heard from recently, “Dr. Doom” is especially bullish on gold stocks. But like us, he also believes proper asset allocation is critical today…
The most attractive asset in my view is gold shares… I think they still have significant upside potential this year… You need to be diversified. To own some real estate makes sense, to own some equities makes sense, to own some cash and bonds probably makes sense, and to own some precious metals makes sense.
Speaking of the economy, new data last week showed one of the job market’s early warning signs could be flashing. Staffing firms say hiring of temporary workers – one of the biggest drivers of job growth over the past several years – has suddenly slowed.
Why is this important? Because temps tend to be a strong leading indicator of the health of the broad economy… They’re often the first employees companies add when the economy strengthens, and the first that companies let go when it starts to weaken.
The Wall Street Journal reports we saw a similar slowdown in temp hiring before each of the past two recessions. As Donald Grimes, a labor economist at the University of Michigan, told the Journal
It’s the first sector that really begins to lose jobs. If you start seeing those numbers go negative, you’ve got a real problem.
Meanwhile, our colleagues Steve Sjuggerud and Brett Eversole recently noted another troubling sign for the job market…
Initial jobless claims – a measure of the number of new folks applying for unemployment each week – just broke out to a new one-year high… And their research shows this could be bad news for U.S. stocks. As they explained to subscribers in last week’s True Wealth Systems Market Extremes
Stocks actually lose value when Initial Jobless Claims trend higher. And Initial Jobless Claims recently broke out to a one-year high. Take a look…

According to history this move is enough to push Initial Jobless Claims into an uptrend. And history shows that stocks lose 2.0% a year when the trend is up in Initial Jobless Claims.
Obviously, this is a bad thing for U.S. stocks. If this trend continues, it could mean the end of the bull market.
Steve and Brett said they aren’t ready to give up on the bull market just yet. It’s still a little early to know if an uptrend has begun, but they’ll be watching for confirmation in the weeks to come…
Jobless Claims data are notoriously “messy.” So the recent reading could be an anomaly, not the beginning of a new trend. However, we’ll be watching U.S. employment closely going forward. A continued employment breakdown could mean a recession is on the way. And stocks suffer their biggest losses during recessions…
The U.S. economy and the trend in stocks will be major factors in how we invest in the next few months. And this breakout in Initial Jobless Claims is an important piece of that puzzle. It says to be cautious of the U.S. market today.
Troubles in the job market aren’t the only new worries for stocks…
According to Bloomberg Business, the five-year “binge” in share buybacks could be over. (If you’re not familiar, share buybacks are when companies purchase their own shares in the market and “retire” them. This reduces the number of shares outstanding and makes each remaining share more valuable.) From the article…
After snapping up trillions of dollars of their own stock in a five-year shopping binge that dwarfed every other buyer, U.S. companies from Apple to IBM just put on the brakes. Announced repurchases dropped 38% to $244 billion in the last four months, the biggest decline since 2009, data compiled by Birinyi Associates and Bloomberg show.
The number of companies cutting dividends has also soared to the highest levels since the financial crisis.
As we’ve discussed, share buybacks are a double-edged sword.
Under the right circumstances – particularly when shares are trading at a discount to the value of the underlying business – they can be great for investors.
But most of the time, this isn’t the case… Just like most individual investors get bullish when the market rallies and bearish when the market falls, corporate executives often choose to buy back shares after they’ve rallied and are expensive.
Worse, as real earnings have slowed in recent years, management teams have been incentivized to buy back more and more shares regardless of price. They’ve even been loading up on debt to keep the party going.
Again, this is because buybacks reduce the number of shares outstanding. By reducing share counts, the same amount of earnings is magically transformed into higher earnings per share, Wall Street’s favorite metric of profit growth.
Now it appears the slowdown in earnings may have finally reached a tipping point.
Companies may no longer be willing or able to take on more debt to buy back shares and pay dividends… meaning one of the biggest drivers of the stock market rally could be about to disappear. As Commonwealth Financial Network Chief Investment Officer Brad McMillan told Bloomberg…
If the only meaningful source of demand in the market is companies buying their own shares back, then what happens if that goes away? We should be concerned.
Regular Digest readers may recall Porter predicted exactly this scenario last summer. As he wrote in the September 4 Digest
It should be obvious to everyone that companies can’t spend more buying back shares and paying out dividends than they earn – at least not for long…
The last time the S&P 500 managers collectively spent more than they were earning on shares and dividends was the second quarter of 2007. Just a few months before the market’s last peak. The managers’ spending reached 156% of their free cash flow in the fourth quarter of 2007. You may recall the last big stock market peak was in November of 2007…
The more important thing to understand is that, when they are spending more collectively than they’re earning, their buying power is immense – enough to move the market higher by itself. When they stop buying, it’s almost certain the market will fall. And they can’t keep spending more than they’re earning, not for long.
We’ll be keeping a close eye on these warning signs for stocks and the economy… We recommend you do the same.
Justin Brill

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