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It's A Slow Grind
By: Dr. Charles Lieberman, Chief Investment Officer
Date: 7/12/2010
Economic growth in the U.S. is only moderate, which is inadequate to bring down unemployment at a satisfactory pace, even as a double dip recession remains highly unlikely. It's easy to recognize the problems with the economy, while overlooking the positives. But there's a critical distinction often lost between the unsatisfactory current state of economic affairs and the improving direction. Given time, economic growth should accelerate and lift the economy to a solid state of health.
Start with the corporate sector, which is highly profitable, and sitting on roughly $1 trillion in cash. Firms have started reinvesting in the business, acquiring competitors, or raising dividends and share buybacks. Hiring has resumed, especially for temporary workers, and the workweek has also lengthened. As conditions continue to improve, more permanent hiring should pick up steam. By keeping hiring down so far, companies are maintaining high profit margins, so there's no reason to expect the gains in the corporate sector to run out of steam.
Hiring has been disappointing because it is not strong enough to reduce the unemployment rate fast enough, not because it is inadequate to fund consumer spending. Real personal income has increased at a 3.5% pace this year, sufficient to keep spending on a respectable upward trajectory. Household cash flows should get a secondary boost from mortgage refinancing and debt paydowns. Over time, these will reinforce the rise in spending.
Much has been made over the potential for deficit reductions efforts to stymie growth, especially in Europe. But the sharp rise in the Greek retirement age reduces the budget deficit without curtailing consumer spending and other provisions kick in over time. Some investors appear to be getting carried away that the near term growth prospects will falter, which is unduly pessimistic. Low interest rates, improving credit market conditions, and low inflation are very favorable conditions for growth. They are likely to overcome fears that the economy will relapse into recession.
As suggested by the cover story is Barron's, the risk lies in the "safe" bond market, not in stocks. Bonds and stocks are already priced as if another recession is quite likely. Bond yields are very low, so any improvement in the economy implies losses to bond investors. Stocks are cheap, trading at around 12 times next year's earnings estimates versus a more normal 15 to 17 times in the postwar era. The value lies in stocks, not in bonds.
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