Your Economy (No Politics)

[Bullwinkle]

Has the Mid-Term Election Rally Already Started?
By Louis Navellier
Monday, September 13, 2010


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Through the first 10 days of September - statistically the "worst month in market history" - the S&P 500 is up almost 6%, which represents the best September start since 1939. But volume was relatively low, due to a late Labor Day holiday plus the Jewish New Year. Once volume starts to rev up, we may see the sweet spot of the historically strong mid-term election year rally, which typically starts in late September, so I remain confident that we'll ride through this market "hurricane season" into a stronger fourth quarter.

Stat of the Week: Shrinking Trade Deficit Points to Rising GDP

On Thursday, the Commerce Department reported that the trade deficit actually shrank by 14% in July to $42.8 billion, down from $49.8 billion in June. This was substantially better than consensus economists' expectations of $47 billion, due predominately to higher exports of manufactured goods, such as aircraft and computers. Since June's widening trade deficit was responsible for a big downward second quarter GDP revision, July's improving trade deficit bodes well for somewhat higher third quarter GDP growth.

Meanwhile, the Fed's proprietary economic survey (the Beige Book) was released on Wednesday. This monthly survey of the Fed's 12 districts revealed a slight increase in consumer spending, while "most districts reported further gains in production activity and sales across a broad spectrum of manufacturing industries." The housing sector suffered a soft patch in the second half of July and early August, due to the expiration of the popular tax credit for homebuyers, but two of the Fed's 12 districts reported rising growth rates, five districts reported continued "moderate" growth and five reported "mixed" growth.

This verdict was verified on Thursday, when the Labor Department announced that initial claims for jobless benefits fell by 27,000 to 451,000 in the week ending September 4. The four-week average also fell by 9,250 to 477,750, so there is hope that the labor market is starting to improve. The current four-week total of all jobless benefit claims is now 4.49 million, the lowest level since December of 2008.

Overall, last week's economic news confirmed that we are not entering a "double dip" recession, due to improving employment, rising U.S. exports, a slight rise in consumer spending and rising manufacturing activity. As a result, the tone of stock market is slowly turning positive. As uncertainty diminishes and as economic growth accelerates, I remain convinced that the overall stock market is poised to rally.

Germany Leads Europe, While Portugal & Ireland Struggle

Europe's biggest economy, Germany, is leading the continental recovery. A Wednesday opinion piece in The Wall Street Journal talked about "The German Miracle," citing an annual GDP growth of 9% in the second quarter. Germany's unemployment rate remains well below pre-recession levels, while the U.S. has lost virtually all the private sector jobs it created in the past decade. However, Germany's Federal Statistical Office announced on Wednesday that July imports fell 2.2%, while exports declined 1.5%, which suggests that many Germans went on early vacations, as both buying and selling took a holiday.

A couple of Europe's "PIIGS" aren't doing as well. Last Wednesday, Ireland said that the government will split Anglo Irish Bank into two units to avoid further financial problems. Specifically, Irish Finance Minister Brian Lenihan said that the Irish government would split Anglo Irish into a "funding bank" that will continue to operate, and an "asset-recovery bank" that will be wholly or partly sold over time.

Also on Wednesday, Portugal tried to calm sovereign debt fears after it sold $839 million in 3-year notes with an average yield of 4.086%, up from 3.597% in June. The bid-to-coverage ratio was only 1.9, down from 2.4 in June. Portugal's 10-year bond brought an average 5.973%, up from 4.171% in March.

Asia's economic engine is still being driven by China, which just announced that its trade surplus fell to $20.03 billion in August, down from $28.7 billion in July. Despite this August slowdown, China's exports are up 34.4% in the past 12 months, while its imports increased 35.2%. Since China's imports are growing slightly faster than its exports, the criticism that the Chinese yuan is artificially undervalued is becoming harder to support. Obviously, the Chinese economy is in no imminent danger of slowing down.

Merger Mania Slows Down, While Bond Offerings Rise

There was a lull in merger mania last week. I only saw one major deal, 7-Eleven's $40 per share ($2 billion) offer for Casey's General Stores, outbidding a previous $38.50 per share hostile bid. The Wall Street Journal reported that "companies are jamming the bond market with fresh debt." According to Dealogic and Standard & Poor's Leveraged Commentary & Data Group, $51 billion in corporate bonds and leverage loans were issued on Tuesday and Wednesday alone. Companies are obviously lowering their debt costs in this super-low interest rate environment. For instance, Allergan issued $650 million in 10-year bonds yielding only 3.375%, which represents their lowest corporate bond yield since 1995.

Another example is that Hewlett-Packard and Home Depot issued $33 billion in new corporate debt last week. Hewlett-Packard has also been on a buying spree and recently boosted its stock buyback program by $10 billion. All these actions tell me that a mountain of corporate cash continues to burn a hole in their pockets, so companies are actively buying more bargain shares or refinancing new low-cost debt.

The flip side of this equation is that if Wall Street does not price a stock properly, a company can borrow cash at low rates, buy all its shares and go private, like Burger King Holdings did a few days ago. If that happens often enough, the supply of stock on the market begins to shrink. That tends to put a very firm foundation under stock prices. This doubles as a "launching pad" as we head into the mid-term elections.

Government Sector Slowly Takes a Back Seat to Business

While corporate bond demand is rising, demand for long-term Treasury bonds is turning soft. The sale of 30-year Treasury bonds on Thursday did not go very well, as yields rose to 3.82% and foreign buyers were noticeably quiet. Wednesday's auction of 10-year Treasury bonds was also muted as yields rose to 2.67% and the bid-to-cover ratio declined a bit, compared to previous auctions. Short maturities were more popular. There was robust demand for 3-year Treasury notes as well as shorter-term debt. Overall, the yield curve between short-term and long-term Treasury securities is widening, which is usually a sign of an improving economy. It also shows that the federal government is struggling to sell long-term bonds.

At the August 10 Federal Open Market Committee (FOMC) meeting, the minutes revealed that two Fed presidents, from Dallas and Kansas City, voted to increase the discount rate by 0.25% to 1% in largely a symbolic gesture, since the discount rate is not as important as the Federal Funds rate. Clearly, as other central banks raise rates and tighten while the Fed remains accommodative, the U.S. dollar will likely remain under pressure, which is good news for U.S. companies that export their goods and services.

The budget deficit remains stubbornly high. On Wednesday, the Congressional Budget Office (CBO) reported that the federal budget deficit for the first 11 months of fiscal 2010 was $1.3 trillion, or 9.1% of GDP. This explains why the U.S. dollar remains on a slippery slope. America can't afford to raise short-term interest rates, while other countries offer investors higher income. For example, on Wednesday, the Bank of Canada raised its overnight interest rate by 0.25% to 1%. Meanwhile, a 30-day U.S. Treasury bill only yields 0.1%, so the Canadian dollar will likely continue to appreciate relative to the U.S. dollar.

Wall Street loves mid-term elections, since the minority party usually gains power, increasing "gridlock" in Washington during the second half of a President's term. This allows the private sector to drive the economic bus, because politicians are too busy fighting and campaigning to get anything done. Due to all this political infighting, I think we can conclude that the Presidential mid-term election rally on schedule.

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