Sunday, August 1, 2010

July Performance – Now THAT’S What I’m Talking About!

From the Desk of Joe Rollins

Notwithstanding all the gloom and doom being reported by the media these days, for investors, July was an excellent month (with only one more trading day to go this month). As you know, investors suffered a serious decline in June, but thankfully, the market rebounded in surplus of those losses during July. Through July 29, 2010, the S&P Index of 500 Stocks is virtually flat for 2010. Given that the S&P was down 6.7% at June 30th, the gain of almost 7% over the last month has been nothing short of extraordinary.

This morning, the Commerce Department reported that the GDP for the quarter ending June 30, 2010 was at 2.4%. While this certainly can’t be considered a robust number, it’s not abysmal, either. You may recall that the Federal Reserve has a target GDP growth rate of 2.5%, so this very nearly falls within that range. As such, even though the economy is growing, it is doing so at a low level. At this level, it’s unlikely that the increase in employment will be anything other than normal over the next 12 months, and certainly not high enough to absorb the current unemployment rate of 9.5%.

Most interesting about the Commerce Department’s report is that they revised the first quarter of 2010 GDP report from 2.7% all the way up to 3.7%, an almost unbelievable 40% increase. GDP reports are given in two preliminary announcements of the number for the preceding quarter. The final number was announced last month at 2.7%. It is highly unusual for the government to later change those GDP announcements after the final GDP number is announced. Accordingly, this morning’s announcement of a 40% increase for the first quarter GDP was atypical. It just goes to show that government bureaucrats do almost nothing well. Do you realize how many business and economic decisions are based on GDP numbers? Here our government missed it by a cool 40% last quarter. Once again, I ask the theoretical question: “Do you really want a bunch of bureaucrats in Washington controlling your health care plan?” I guess we will know soon.

Interest rates are returning almost nothing at the current time. If you’ve not looked at your money market account recently, you will be surprised to learn that it probably pays less than 1% annualized. I noticed yesterday that the money market accounts at Charles Schwab are returning virtually zero on an annualized basis. Even a 10-year Treasury bond today is paying 2.9% annually. Interest rates have never been this low for such an extended period of time. Therefore, investing in fixed-rate instruments is a losing proposition to inflation and nothing competes with the potential investment returns for equity and bond investments.

Corporate America will realize in the third quarter of 2010 its highest corporate profits ever! The amount of cash on corporate balance sheets is at the highest level ever recorded in U.S. finance -- $1.8 trillion in cash. All of these robust profits and massive accumulations of assets probably means higher stock prices in the future. If you haven’t invested in your future, now is an excellent time to do so.

Mortgage rates hit an all-time record low of 4.54% this week. Just think about it: you can now obtain a 30-year mortgage and tie-up a fixed rate at roughly 4.5% for 30 years. What an amazing deal for potential homeowners! If you haven’t refinanced, don’t wait any longer. These rates won’t last long.

Ironically, every single month Freddie Mac, Fannie Mae and the FHA in aggregate lose approximately $30 billion. Additionally, these government subsidized agencies are cutting out the banks from making loans. At the current time, few banks are willing to extend home mortgages because the rates are so low they feel they are only guaranteed to lose money. Therefore, the taxpayers (meaning me and you) are subsidizing governmental agencies that are loaning money at record low interest rates to the tune of $30 billion, but that is preventing the private banks from making loans. If you’re not confused yet, you can bet you will be soon!

Even though are government finances are currently being poorly managed by an inept and highly disliked Congress, there was much good news in the GDP regarding management of money by U.S. businesses. During the quarter ended June 30, 2010, business investments grew at a stunning 17%. For the first time in over two years, businesses are now investing in corporate technology, land and buildings to expand their businesses. Given their high levels of cash, it’s been easy for them to make this commitment to new capital investments. Some of the technology will surely be used to increase productivity of existing businesses, which is without question the first step towards expanding employment and hiring more people to service demand.

As I’ve pointed out on numerous occasions, it is corporate profits that lead to higher stock prices. Profits have never been higher and are continuing to grow. Almost assuredly the higher profits and increase in employment will lead to a better business environment over the next 18 months. If any theory regarding stock market valuation is true, then this should lead to higher stock prices in the coming years.

As always, the foregoing are my opinions, assumptions and forecasts. It is perfectly possible that I am wrong.