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Markets: A sucker punch?
New York: November 26, 2003
By John R. Stephenson
Yesterday, saw some lackluster trading after the markets
posted some strong gains on Monday. The major indices decided
to take a break and to digest the stronger than anticipated
economic growth numbers (revised GDP in the third quarter
of 8.2%). The Conference Board, a private research group,
released some positive numbers showing that consumer confidence
had surged to year-high in November. But in spite of the good
news there remains cause for concern.
First of these concerns is the fact that the sales of existing
homes dropped sharply last month. As we have mentioned before
in this column, over the last three years, gains in tangible
assets (homes) have been offset by losses in intangible assets
(stocks and bonds). Because there are more people who are
homebuyers than there are people who are shareholders, the
wealth effect (the perception of one's overall net worth)
has been maintained or modestly improved over the last few
years because of surging house prices. A continued slowdown
in the housing sector, one of the few bright spots in the
economy, could be a bad sign for an economy that has been
wheezing along for the last little while.
Another area of concern is the growing protectionist sentiment
out of Washington. The first protectionist measure was the
imposition of a tariff on imported steel and recently, a tariff
has been slapped on Chinese textiles. The increasing protectionist
stance out of Washington further exacerbates the downward
pressure on the US dollar. In essence, protectionism is nothing
short of a currency devaluation by other means. By imposing
tariffs on foreign producers, US consumers will end up paying
more for bathrobes and other apparel made in China. The net
effect - a reduction in purchasing power. It is likely that
the protectionist sentiment out of Washington will only increase
as the US election cycle approaches. This comes at a time
when there has been a dramatic decline in the net inflows
into the US capital markets over the last few months (see
figure 1). The net capital inflows, into U.S. Stocks and Bonds
was approximately $11 billion in September, down from over
$700 billion in June of this year.
With foreign investors beginning to shun the US bond and
equity markets and a ballooning current account deficit (see
figure 2), the consequence is a weaker US dollar as investment
capital is diverted towards the Yen, Euro and Canadian dollar.
This comes at a time of reasonably strong economic data out
of the US. With smaller capital inflows into US markets by
foreigner and a reduction in liquidity (money supply), the
US dollar should continue to fall and US equity markets should
weaken in the months ahead. Investors might consider reducing
their holdings of US stocks, particularly the stocks of homebuilders,
which have enjoyed a strong run of late and appear to be over
owned and under sold.
Figure 1: Net Capital Inflows
Source: US Department of Commerce
Figure 2: Current Account Balance
Source: US Department of Commerce
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