Double-Dip or Soft Patch???
by James Paulsen, Chief Investment Officer, Wells Capital Management.
July 16, 2010
Consecutive monthly disappointments surrounding private job creation, a multi-month stall in the improvement in initial unemployment claims, and a recent litany of āweakā economic reports have focused investor attention on the potential for a double-dip recession. No doubt the contemporary
recovery has hit its first āsoft patch.ā Although this recovery stall could be signaling something worse, we continue to believe it is a fairly normal slowdown in what will prove to be an ongoing recovery. If this is indeed the case, any current weakness in the stock market should prove a good buying opportunity.
Evidence of Stall is Widespread... But Not Uncommon
Similar to past recoveries, a mid-cycle slowdown has arrived and may extend into the current quarter. We had expected growth of about 4 percent during the balance of this year and now believe it may be marginally softer at about 3.5 percent.
Exhibit 1 illustrates the major economic indicators which have combined to escalate double-dip fears. Real retail sales certainly stalled in the second quarter, consumer confidence measures remain very pessimistic despite a year of recovery growth, both manufacturing and services sector surveys dropped in the latest month, housing activity collapsed last month reflecting a tax credit expiration and finally, persistent improvements since the recovery began in weekly unemployment insurance claims came to a halt since spring.
Real core retail sales did stall last quarter but only after surging at an annualized growth rate of almost 10 percent in the first quarter. Overall, year-to-date, real core retail sales growth remains at a healthy annualized pace of 4.7 percent. Moreover, retail trends commonly run in fits and spurts. Isnāt what has happened to retail sales so far this year very similar to what occurred in the last half of 2003 and the during first half of 2006 or 2007āthat is, a major growth spurt followed by a stall? Neither of these previous retail stalls were signs of an impending recession.
What about consumer confidence? It remains severely depressed. We believe many financial market and economic players are suffering from a post-crisis Armageddon hypochondria. Any symptom (report) of a slower economy is instantly extrapolated toward recession or depression rather than a more reasonable interpretation. The good news is measures of household confidence have shown little or no relationship to consumer spending patterns. For example, even though confidence has remained near record lows, real consumer spending has grown by 2.6 percent in the last year.
Do the ISM reports suggest an impending collapse in both our manufacturing and services sectors? As the ISM manufacturing chart shows, at least since 1990, this survey has rarely gone above 60 which was where it was just a month ago. It couldnāt go any higher. U.S. industrial production growth has risen by 8.2 percent in the last year and at the healthy annualized pace of 6.6 percent so far this year. Both the manufacturing and services sector ISM surveys remain at levels normally associated with healthy overall economic growth. Finally, as shown, oscillations in these surveys between 50 and 60 are very common in past ongoing recoveries.
Is housing double-dipping? Far from suggesting a collapse, the chart on housing starts (Exhibit 1) reinforces an impression that a major bottoming process is underway in the housing industry with activity levels in this industry hovering about the same area for the last couple years. True, housing activity collapsed last month, but mostly for the same reason it was rising in previous monthsāthe introduction and then expiration of a tax credit.
