Tags: us | economy | double | dip

Economic Headwinds Could Turn Into Gale Force

Thursday, 05 May 2011 04:26 PM

Can you really buy a recovery? That’s been the bet taken by the U.S. Federal Reserve, which dumped upwards of $2 trillion into the economy since August 2009, in hopes that a massive credit buildup in the form of artificially cheap Treasurys would buy precious time.

And it worked, for a long while. Just about every asset under the sun — oil, stocks, metals, bonds — everything except the dollar went up and up and up. As the one-year anniversary of the Flash Crash looms (it’s Friday) investors are beginning to ask, what now?

"I think there is a chance that we put the high in for the year," Doug Kass, founder and president of Seabreeze Partners Management in Palm Beach, Florida, told Reuters. "Investors should err on the side of conservatism and be increasing their cash positions.”

Sell in May and go away? The market cliché is looking pretty prescient about now, perhaps even a self-fulfilling prophecy in the making.

Despite reasonable good earnings this quarter and news of a tentative deal in Washington to extend the debt ceiling until after elections in 2012, the hallmarks of a slowdown are building, and investors are eyeing the exits nervously.

Oil has plummeted to $98, silver is down to $35 after topping $48, gold despite the weak dollar has slipped a bit, and 10-year Treasurys actually yield less than comparable German debt, at 3.17 percent. That’s the lowest so far this year.

Meanwhile, housing officially has double-dipped, according to research firm Clear Capital. Its monthly index shows home prices now 0.7 percent below the previous record low, set in March 2009.

Housing has double dipped.
(Getty Images photo)
Coincidently, that was the month Dow Jones Industrial Average bottomed, hitting 6,547 on March 9. Since then, it has powered up more than 94 percent through the close Wednesday, then peeled off more than 139 points by the close Thursday.

Jobless claims hit an eight-month high, to 474,000 in the week ending April 30. "It is pretty unsettling to see this large of an increase," David Resler, chief economist of Nomura Securities, told CNNMoney. "It is a bit of an enigma, but it's too early to hit the panic button."

GDP in the first quarter came in disappointing low, at a 1.8 percent annual rate, although not everyone is gloom and doom about it.

Narayana Kocherlakota, president of the Minneapolis Fed, said he still expects real growth (including inflation) at between 3 percent and 3.5 percent in 2011.

Yet even he has worries about what’s ahead.

“I do still see two headwinds in the U.S. economy,” Kocherlakota said in a speech in Santa Barbara, Calif. “The first is that many households will continue to strive to rebuild their net worth positions in response to past — and possibly future — falls in residential land prices.” That is, they will save rather than spend, slowing consumer-driven growth.

Second, Kocherlakota sees continuing problems with lending. “For example, the FDIC problem bank list contains over 800 banks. Problem banks are less likely to take the risk of lending to small or young firms and other entrepreneurial activities,” he warned. "Instead, they are more likely to preserve capital ratios by limiting their asset growth and allocating their lending staff to working out loans to existing borrowers," he said. 

“Indeed, as the economy improves, I suspect that this headwind will become even more important,” he said.

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