RBA Balances Slowdown with Inflation Fears

A reminder today that inflation risks remain in the Australian economy as the TD Securities - Melbourne Institute monthly inflation gauge jumped 0.5% in June from the previous month and is now showing a 4.8% increase year over year - the largest increase in its five and half year history.

However recent interest rate hikes are clearly having an effect as the graph below shows. The RBA released private sector credit data today showing that private sector credit growth grew just 0.6% in the month of May and is 13.4% higher than a year ago. that's the slowest year on year growth rate since November 2005.


Whilst inflation is a concern it should be remembered that it is a lagging indicator. In recent months there has been some clear signs that the Australian domestic economy is slowing.

The RBA is fully expected to remain on hold at tomorrow's meeting with the futures market suggesting no chance of a rate hike. The RBA will be pleased with the slowdown in domestic demand but will no doubt keep the door open if rate hikes are needed down the road.

Analyst Earnings Forecasts Still Too Optimistic

As stated here many times, it is the prediliction of analysts to be overly optimistic in their earnings projections. This becomes even more apparent at turning points in the earnings cycle.

As shown below, even after S&P500 operating earnings fell -9.5% in 3Q07, analysts were predicting positive earnings growth of 2.9% for 4Q07 as late as the middle of November. As we now know, 4Q07 earnings plunged -30.8%.

However analysts were not deterred and returned with some rosy forecasts for 1Q08. As late as the end of February analysts were still expecting positive earnings growth. As shown below, by the end of May it was clear the analysts had it wrong as the quarter ended with a -25.8% decline in S&P operating earnings.



After clinging to forecasts of positive earnings growth for 2Q08 until the end of March, the reality of first quarter results forced analysts to get a little more realistic. As of June 24th S&P500 operating earnings are forecast to decline -9.2%.

Call me skeptical, but given analysts demonstrated track record of being behind the curve, I would estimate that the final number for 2Q08 will be closer to double the decline currently forecast.


As we enter the third quarter year over year comparisons will become much easier and that is why currently S&P500 operating earnings are expected to show positive growth for the full year. However, as can be seen below, those estimates have also been eroding, from a peak of 17.4% expected growth in February to a more modest 6.7% as of a week ago. My bet is that by the end of September, analysts will wake up to the fact that full year earnings growth will be negative.

Of course, sooner or later analyst forecasts will get too pessimistic, however we are still a long way from that point. The chart below shows S&P500 earnings from March 2008 through to December 2009. During this time there have been 2 other earnings recessions which surprise surprise, coincided with an economic recession.


The point of this chart is to show how long it took for earnings to recapture their former highs after the cycle had turned. After the peak in June 1989 earnings did not hit new records until June 1994 - a full 5 years or 20 quarters later. Earnings then peaked again in June 2000 and didn't recover to the previous peak until December 2003, a full 3 and half years or 14 quarters later.

Currenlty analysts would have us believe that the earnings peak in June 2007 will be surpassed in December 2008 of this year, just 1 and a half years or 6 quarters later. Whilst it may be true that every earnings cycle is different I doubt it will be that different.

To be sure, a lot of the over-estimation of earnings growth has been the expectation that the financial sector would recover. Drilling down to the sector level, 5 sectors out of ten are expected to post record earnings for 2Q08. However, as the credit crisis is now infecting the broader US economy, expect companies in an increasing number of sectors to post less than cheery outlooks for the second half of the year.

US Jobless Cliams Hit Fresh 4 Year Highs

The 4 week moving average of Initial Jobless claims hit their (excluding the hurricane Katrina blip) highest level in more than 4 and a half years at 378,250.

Continuing claims also hit levels not seen in almost 4 and half years at 3.1 million. Claims have pulled higher in recent weeks after being in a range for a couple of months.

The chart below comes from Paul Kasriel at Northern Trust and shows the Conference Board survey of whether jobs are hard to get. Let's see what Kasriel has to say about this particular indicator;

The spread between the percentages of respondents saying that jobs are hard to get minus the percentage saying that jobs are plentiful hit its highest level since December 2003. Chart 3 shows that there is a high correlation, 0.87, between this spread and the level of the unemployment rate. So, you might want to prepare for some pyrotechnics on Thursday morning, July 3.

With jobless claims inching higher and with US workers saying that jobs are harder to get, we may start to see some triple digit declines in non-farm payrolls in the months ahead.

US New Home Sales down 40% Year on Year

The Spring selling season never really got off the ground as shown from the figures released by the US census bureau yesterday:

NEW RESIDENTIAL SALES IN MAY 2008
Sales of new one-family houses in May 2008 were at a seasonally adjusted annual rate of 512,000, according to estimates released jointly today by the U.S. Census Bureau and the Department of Housing and Urban Development. This is 2.5% below the revised April rate of 525,000 and is 40.3% below the May 2007 estimate of 857,000.

Months of supply continues to remain high at 10.9 months.



On the positive side, the number of houses for sale continues to fall, a good sign that inventory is being reduced. However for inventory to really start shifting you need to see a pick-up in sales - something which is unlikely anytime soon.

US Home Prices Continue to Slide

As expected home prices continue to correct in the US according to the latest data from the S&P Case-Shiller Home Price Index, from S&P;

Steep Declines in Home Prices Continued in April 2008 According to the S&P/Case-Shiller Home Price Indices

Data through April 2008, released today by Standard & Poor’s for its S&P/Case-Shiller Home Price Indices, the leading measure of U.S. home prices, show annual declines in the prices of existing single family homes across the United States continued to worsen in April 2008, with all 20 MSAs now posting annual declines, 13 of which are posting record low annual declines, and 10 of which are in double-digits.

From their peak prices for the 20 city composite are down -17.8%. On the positive side;

One possible bright side to the annual figures is that three
MSAs – Chicago, Cleveland and Denver – while still negative, showed some imprannual figures over those reported last month...

...Looking at the monthly statistics, eight areas were positive for the April-over-March reading.

The above chart shows all 20 cities in the survey. There are so many colours it's tough to see which city is which but I like to post it anyway just because it's a good piece of chart porn.

UPS Drops a Bomb

Much is made of the transports as a harbinger of the health of the economy. Yesterday after the market close UPS slashed their earnings forecasts citing the high price of oil and a weak US economy, from marketwatch.com:

UPS slashes its profit outlook due to fuel, economy

United Parcel Service Inc. said late Monday that it was slashing its second-quarter profit outlook, squeezed by soaring fuel prices and a sluggish U.S. economy.

It marks the second straight quarter that the company has warned it would not meet prior profit expectations. Its stock fell 4% in late trading.

The package-delivery giant cut its second-quarter profit forecast to a range of 83 cents to 88 cents a share. In late April, UPS had expected to earn between 97 cents and $1.04 a share. Since then, crude prices have surged from $110 to $136 a barrel.

On average, Wall Street analysts are expecting UPS (UPS) to earn 99 cents a share in the second quarter, according to a FactSet Research. The shipper will issue earnings July 22.

UPS said slow U.S. economic growth has slowed package volume in the United States and curbed sales of its premium air-delivery services. Shipments into the United States also have been affected, hurting its international-business unit.

Last week, rival FedEx Corp. (FDX) also issued a profit forecast well below Wall Street expectations. See full story.

Stocks of both companies have performed in line with the broader market. UPS shares are down 6% so far this year, while FedEx is down 10%. By comparison, the S&P 500 Index is off 10%.

This shouldn't have come as much of a surprise given the warning from Fedex last week. This is another blow to the goldilocks view of a second half turnaround for the US economy.

Aussie New Car Sales Fall in May

Sales of new motor vehicles fell a seasonally adjusted -1.6% in May. Sales have fallen for 3 of the past 4 months. Before getting carried away that this is further evidence of a slowdown in the economy we should add that new car sales are quite volatile from month to month.

Sales of 4WD's showed their biggest monthly decline since August 2006 falling -4% showing evidence that buyers are trading down from petrol guzzlers to more fuel efficient models. Sales of new passenger cars showed a healthy 1.6% increase for the month of may.

If high oil prices persist it would come as no surprise to see car sales soften in the second half of the year as consumers grapple with higher borrwing costs tighter lending standards and a slowing economy.