Deluge
New York: July 05, 2010
By John Stephenson

The non-stop deluge of data has taken on a decidedly negative tone lately, leaving investors to worry: is this the beginning of a double dip recession? Investors have been betting that solid corporate earnings growth will help lift stock prices. But with consensus expectations for 2010 at more than 36 percent earnings growth for the S&P500—the fly in the ointment for investors may be a dramatic slowdown in the economy.

Last week's unemployment numbers were sobering. The headline, at first glance, didn't appear that bad—the overall US unemployment rate fell from 9.7% to 9.5%. But the bean counters in Washington only count you as unemployed if you've been looking for work during the last four weeks. Fail to look for work and they drop you from the rolls of the nation's unemployed. But over the last two months alone, nearly one million Americans have dropped out of the labor market—unable to find employment. Adding back in those who've been dropped from the unemployment rolls and the unemployment rate would have increased to 9.9%. Better yet, throw in the people who would take a job if they could find one, and the unemployment rate zooms to more than 11%.

The silver lining in the unemployment number was supposed to be private sector hiring. But when you combine last month's pitiful employment growth with the current figure, the private sector created just under 120,000 jobs in the last two months. Unfortunately, the economy needs to create more than 125,000 jobs per month, just to keep pace with population growth—oops.

The new homeowner tax credit helped boost new home sales for a while, but with the program's expiry, new home sales have slumped. Inventories of new homes are rising once more, topping 8.5 months of supply. Add in the dreary news from the Conference Board survey, which indicated that the number of people planning to buy a major appliance had hit a 16-year low. With 17% of people reporting that their incomes had fallen, is it any wonder that surveys are showing that from cars to appliances, consumers are postponing major purchases until their employment prospects improve.

With markets in a tizzy over the potential for future weak economic growth, companies have boosted their cash holdings as a defense against market volatility. As measured on a-cash-to-sales basis, the levels of cash for media and retailers is particularly high, offering investors a potential place to park some cash until the economic storm passes by.

For my money, I think we will witness much slower economic growth for the next six months with economic activity bottoming in the fourth quarter of this year. While economic growth may trough at 1.5 percent it won't go negative, and a worst case double dip scenario will be averted. Already two-year Treasuries yields are back at the lowest levels since the depths of the 2008/09 recession, reflecting the fact that it will be a long time in coming, before the Fed starts to raise interest rates. And while a slowly growing economy may not be particularly attractive scenario for stocks, it's still a circumstance in which investors can muddle through. A u-turn back into recessionary times would be a bad news story for stocks, which are pricing in a very optimistic growth rate in earnings. Over the next quarter, company comments and analyst reports will be scrutinized for any signs of a deteriorating business climate.

Investors, concerned about the recent deluge of negative economic reports, should boost cash levels and look towards traditionally defensive sectors as places to park their investment dollars until global economic growth begins to recover. Utilities, pipelines, telecommunication companies and consumer staple companies such as grocers are all good, defensive places in which to seek refuge from an economic storm.