Train Wreck in Slow Motion

The S&P500 moved up again for a weekly gain of 4.1%.  The VIX skidded again to levels not seen until just before Lehman blew up in September 2008.  The Dow crossed 9,000 regaining all the losses of 2009.

Economic data was light during this late July week.  Leading economic indicators came in slightly better than expected.  Initial claims jumped back up to 554K; continuing claims dropped again to 6.22 million.  Existing home sales came in at a rate of 4.89 million, about as expected.

The bigger news came from corporate earnings where, very much like in the prior week, many firms “beat” expectations.  But these analyst expectations were driven down so low that many firms miraculously “beat” them.  Never mind that most of these earnings expectations were far lower than the earnings from Q208.  Also, many prominent firms continued to shrink–they were losing sales and show few signs that this shrinking will end next quarter.

The technicals are, as expected, showing a positive rebound on the daily charts.  The monthlies are still in bear market territory.

A major consideration for any investor must be the choice of time frame within which to draw conclusions about the economy, the markets and individual firms.  This is important because the closer one gets up to a picture, the easier it is to get caught up in the minute details that can actually be nothing other than noise.  The other reason the choice of time frame is important is because it is perfectly plausible that in doing this analysis one can find a opposing forces at work: the tide can be going out (in the long term time frame) while at the same time, a counter wave can be coming in (in the shorter term time frame).

It appears that today’s global financial crisis and recession has created the possibility that such seemingly contradictory forces are fighting each other.

On the one hand, the root causes of the  massive credit and asset bubble burst that unleashed this recession at the end of 2007 are still not fixed.  Total credit relative to GDP is at record highs–a level that is arguably unsustainable.  Adding to this force is the massive contraction in private consumption and business investment, leading to unemployment that will easily exceed 10%; at almost 80% of GDP, this is the problem that the federal government alone is attempting to prop up. 

On the other hand, the reduction in the rate of decline of many economic indicators over the last three months has created the counter force that is leading many analysts to conclude that the recession is nearing an end.  Many of these indicators are rooted in the restocking of inventories that happens after inventories get depleted at onset of most recessions.

So the question becomes, which of these two forces will win?  And the answer seems astonishingly obvious:  the first is the tide, and it is still going out.  Not good.  The second is a wave, moving in the opposite direction of the outgoing tide.  Won’t matter.

The trick is not to be fooled by the desire to see good news in an otherwise depressing environment.  Make no mistake, our economy is still contracting; our people are not working; our corporations are shrinking.

It’s easy to be fooled by short term reports that suggest that things are getting better.  But just because the forces that are derailing our economy are happening in slow motion, doesn’t mean that the train will not get wrecked in the end.

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