Fed Still Worried About Inflation

Here's the money quote from the FOMC minutes:

All meeting participants remained concerned about the outlook for inflation. Although readings on core inflation had improved modestly since the spring, nearly all participants viewed core inflation as uncomfortably high and stressed the importance of further moderation. Participants expected core inflation to edge lower over time, in part as the pass-through of higher prices for energy and other commodities ran its course and as the moderate growth in aggregate demand likely led to a modest easing of pressures on resources. Some participants also highlighted the impact that movements in the prices of individual components of the price index, such as owners' equivalent rent and medical costs, could have on near-term readings on core inflation. More generally, participants stressed there was considerable uncertainty as to the probable pace and extent of the moderation in core inflation and that the risks around this desired downward path remained to the upside. Moreover, participants expressed concern that a failure of inflation to moderate as expected could entail significant costs if an upward drift in inflation expectations ensued.

OK -- let's translate this eco-geek talk.

1.) Everybody -- each Fed Governor -- was concerned about the inflation outlook. That means everybody from the most dovish to the most hawkish governor.

2.) Nearly everybody -- which I translate as more than a simple majority and most likely at least a super-majority (2/3) -- don't like the current inflation level.

3.) Individual CPI components -- Owner's equivalent rent and medical costs -- are raising eyebrows.

4.) The Fed has used language to the effect of "inflation will moderate over time" for the last few meetings. The problem is, "when"? We know inflation is on everybody's mind and most governor's don't like the current level. Despite the recent downward movement in CPI, the governors are still concerned.

So -- what are the Fed governors looking for? Looking at the latest CPI report, we see a gradual decline in core CPI. For overall CPI, September and October we see declines of .5% and in November we see a 0% advance. The bottom line is the raw numbers don't look half bad.

However -- let's look at the Cleveland Fed's median CPI:

According to the Federal Reserve Bank of Cleveland, the median Consumer Price Index rose 0.2% (3.0% annualized rate) in November. The median CPI is a measure of core inflation calculated by the Federal Reserve Bank of Cleveland based on data released in the Bureau of Labor Statistics’ (BLS) monthly CPI report.

Then there is the Dallas Fed's Trimmed Mean PCE:

The trimmed mean PCE inflation rate for November was an annualized 1.2 percent. According to the BEA, the overall PCE inflation rate for November was 0.1 percent, annualized, while the inflation rate for PCE excluding food and energy was 0.5 percent.

The 12-month rate of change was 2.4%. While the 12-month number has decreased for the last 3 months, it is still at an uncomfortable level for the Fed.

I am beginning to suspect these alternate inflation measures carry a bit more weight with the Fed than they are letting on.

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Chicago PMI Expands in December

From Bloomberg

Manufacturing in the U.S. unexpectedly expanded and construction spending fell less than forecast, signaling the worst of the economic slowdown is over.

The Institute for Supply Management's manufacturing index rose to 51.4 in December from 49.5 in November, when activity contracted for the first time in more than three years. Spending on construction dropped 0.2 percent in November after a 0.3 percent drop in October that was smaller than originally reported, the Commerce Department said today in Washington.

The figures suggest the economy will extend the five-year economic expansion into 2007, weathering a slump in housing and a factory downturn that weakened growth in the past three quarters. The dollar rallied, stocks extended their advance and bonds pared gains.

Let's go to the report to get the complete picture.

New orders and production increased. This is a good sign. Prices paid decreased, which should help ease a bit of the Fed's inflationary worry. Employment is an area of concern, as it is still registering a contraction. Also, exports are decreasing faster than imports. This will not help the trade deficit if it continues.

Overall, however, this is a good report. Next month will be very important as it will indicate if the drop below 50 was a 1-time situation or not.

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Construction Spending Drops .2% in November

I made a mistake with the original post. While October numbers did decrease 1%, today's release was the November number. I apologize for any inconvenience this may have caused.

Total construction spending dropped .2% in November.

Residential spending was a big part of the reason for the drop,, as it decreased 1.63%.

Total public construction increased slightly. Remember the last Congress did not pass a final budget resolution. So this number might get a nice injection of public funds when a final budget resolution is passed. Non-residential construction increased 1.43% Most nonresidential subareas (lodging, commercial, power etc...) saw increased. Remember that nonresidential is slightly more than half the size of residential, so nonresidential will really have to pick-up the pace to absorb the decrease in residential construction.

Residential construction has decreased continually since July. It has dropped 6% since than. Total nonresidential construction has increased 4.46% since July.

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Famine Follows Feast

The old adage of "famine follows feast" still rings true, even in the 21st century.

The post Christmas hangover of overspending is about to be felt by 30,000 people, who are likely to declare themselves bankrupt in the first quarter of 2007.

That at least is the view of Grant Thornton, which predicted a third of such cases would be a result of excessive spending in the festive season.

Mike Gerrard, head of personal insolvency service, said:

"Last year, during the period straight after Christmas, when bills started to hit the doormat, we witnessed the highest ever number of people going into personal insolvency and this year things could be even worse.

Since last Christmas, several developments such as interest rate rises, sky-high utility bills and increasing unemployment have pushed more people into financial trouble."

The figure of 30,000 insolvencies for the first quarter of this year is almost 9% higher than the third quarter total of 2006, and 25% higher than the insolvencies recorded during the first quarter of 2006.

A spokeswoman for Citizens Advice said:

"We do see evidence of a Christmas debt hangover, and this month we expect to exceed the 140,000 debt problems that Citizens Advice bureaux dealt with in January 2006."

Happy New Year!

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Third Sub-Prime Mortgage Lender Stops Making Loans

From Bloomberg

Mortgage Lenders Network USA Inc. became the third company in a month to stop issuing loans as U.S. housing sales slowed and defaults by borrowers rose.

The company, known as MLN, is ``not currently funding loans or accepting new applications,'' according to a statement on its Web site. Middletown, Connecticut-based MLN, which caters to borrowers with low credit scores, said it is ``exploring strategic alternatives'' for its wholesale unit, which typically means a company is seeking new backers or a buyer. MLN also handles billing and collections for $15.6 billion of loans.

Lenders including Ownit Mortgage Solutions Inc. and Sebring Capital Partners LP that specialize in ``sub-prime'' mortgages closed operations and cut staff in 2006 as more loans to high- risk customers soured. Nationwide, late payments on sub-prime loans rose during the third quarter to 12.56 percent of the total, the most since the first quarter of 2003, the U.S. Mortgage Bankers Association said.

This is not good news for the housing market. The last few years have seen a large increase in "sub-prime" mortgage lending. These loans are already performing poorly. More importantly, they are doing poorly earlier in the mortgage's life. This leads to what brought Ownit Mortgage down. They sold their sub-prime mortgage loans to banks and broker dealers, who in turn packaged the loans into larger pools. However these sales had a caveat that if the loan performed poorly, the purchaser could sell the loan back to Ownit mortgage. Ownit was flooded with these buyback situations, which forced them to close their doors.

The rate of sub-prime delinquencies has risen over the last few years:

Across the industry, the percent of subprime mortgages in default rose to 7.74 percent in August, up from 5.53 percent in August 2005, said analysts at Friedman Billings Ramsey Inc., who follow the securitized portion of the market.

Ownit recently filed for bankrupcy

While not all mortgage companies have filed for bankruptcy or shut their doors, we have seen an increase in lay-offs:

Ownit joins Ameriquest Mortgage Co., Countrywide Financial Corp., H&R Block Inc.'s Option One, BNC Mortgage Inc. and other lenders in shutting operations or laying off employees as the U.S. housing market slows. Delinquencies are rising, home prices are falling and borrowers of adjustable-rate mortgages are facing higher monthly payments.

If this pace of activity keeps up, the sub-prime market will be in tatters pretty quickly.

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Contract Settlement at Goodyear Sets the Pattern for 2007 Bargaining

Days before health care benefits ran out for nearly 15,000 workers at 12 Goodyear Tire & Rubber Co. plants across the nation, members of the United Steelworkers (USW) union approved a three-year contract that USW Executive Vice President Ron Hoover calls “a fair and equitable contract that protects quality health care for active and retired members.” Workers are back on the job today.

The settlement at Goodyear marks the beginning of contract expirations at major U.S. industries, including the Big Three automakers, General Electric, the Las Vegas hotel industry, grocery stores in northern and southern California and Disney World in Orlando, Fla. Major public-sector contracts also will be up for New York City teachers and state workers in Connecticut, Hawaii, Iowa, New Jersey, New York, Pennsylvania, Washington and Wisconsin.

No surprise: Health care and retirement security will be prominent issues in most or all of these negotiations.

The USW action at Goodyear is an indication that union workers are ready to go on strike and do whatever it takes to maintain decent health benefits and job security, while Steelworkers at Goodyear have set a standard of commitment that other employers must live up to at the bargaining table this year.

Union members approved the settlement Dec. 29 by a more than 2–1 margin, following an 86-day strike. The walkout began Oct. 5, after the company refused to budge on its plans to close a 1,100-worker plant in Tyler, Texas, and sought to abandon its obligation to provide health care benefits for 30,000 retirees.

As a result of the strike and the nationwide support of the union and progressive movements, workers won an agreement that requires Goodyear to rescind its demand for immediate closure of its Tyler, Texas, plant and instead provide for a one-year period of transition, during which workers will have the opportunity to take advantage of sizeable retirement buyouts.

Significantly, the contract also requires Goodyear to create a $1 billion health care fund for retirees that will secure medical and prescription drug benefits for current and future retirees and dramatically increases Goodyear’s investments in union facilities. In addition, the contract:

• Enhances the ability of USW-represented plants to meet the challenges of global competition by having Goodyear triple its capital investments to at least $550 million in those plants.
• Maintains affordable, high-quality medical and prescription drug coverage for active members and retirees.
  

Goodyear says the pact will help reduce its costs by $610 million over three years and $300 million a year thereafter—and isn’t the first time workers helped out the giant tire maker. Goodyear sought to close the Tyler plant—its third plant closure in four years—despite making nearly $500 million in profit last year. In moving to close the plant, Goodyear tried to walk away from promises the company made to work in partnership with the USW and not cut jobs after union members came to Goodyear’s aid several years ago by taking wage and benefit freezes when the company experienced financial hardship.

On Dec. 16, thousands of union members and allies rallied in support of the striking workers at Goodyear tire sales outlets across the country, publicly highlighting how Goodyear planned to send jobs to China and abandon its obligation to provide health care benefits for 30,000 retirees. Many gave generously to the USW Strike Fund to help workers and their families through the holidays.

Next up for the USW are negotiations with Bridgestone-Firestone. The Steelworkers represent some 6,000 workers at eight Bridgestone-Firestone plants, including one in Oklahoma City that the tire maker closed earlier this month, putting 1,400 people out of work. No dates have been set for the next round.

Although the union is ”not entirely happy with the outcome at Tyler,” says Thomas Conway, USW vice president and chairman of the union’s Goodyear negotiations:

We were able to ensure that as long as Goodyear stays in the market for the tires built at Tyler, those tires will have to be produced at USW-represented plants in the U.S. The company simply won’t be able to outsource that work or service this market segment with imports from China or anywhere other than a USW facility.

After the ratification vote, USW President Leo W. Gerard said “credit really belongs to our members and their families, whose solidarity prevented the company from short-changing them, despite all its attempts. Gerard also said:

Special thanks go out again to all of our AFL-CIO union affiliates, activist groups, community organizations, businesses and public officials who not only understood our struggle, but stood shoulder to shoulder with us.

Negotiations between the USW and Goodyear began in June 2006, and after the July 22 expiration, USW and Goodyear reached a day-to-day extension agreement in which either party could terminate the agreement after a 72-hour notice. Lack of progress in bargaining talks forced the USW to deliver notice on Oct. 2 and 15,000 USW members in 16 plants throughout North America struck on Oct. 5.

The U.S. contract covers workers at Goodyear plants in Akron, St. Mary’s and Marysville, Ohio; Gadsden, Ala.; Buffalo, N.Y.; Lincoln, Neb.; Topeka, Kan.; Fayetteville, N.C.; Danville, Va.; Sun Prairie, Wis.; Union City, Tenn.; and Tyler.

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Lennar Posts Loss

From Bloomberg:

Lennar Corp., the fourth-largest U.S. homebuilder by revenue, will post a fiscal fourth quarter loss after taking a pretax charge of up to $500 million to write down land it no longer intends to buy.

The loss in the three months ended Nov. 30 will be between 88 cents and $1.28 a share, the Miami-based company said today in a statement.

``Market conditions continued to weaken throughout the fourth quarter and we have not yet seen tangible evidence of a market recovery,'' Lennar Chief Executive Officer Stuart Miller said in the statement.

Homebuilders are disposing of land they planned to build on and incurring expenses as customers cancel orders amid a housing slump. While the National Association of Realtors is forecasting that five consecutive quarterly declines of previously-owned homes will end in the first quarter, home construction companies have more land than they need and more homes than they can sell.

It's possible Lennar is loading all of its losses into one quarter. That simply means they knew they were going to take a loss anyway, so they added a bunch of other future losses at the same time, essentially getting the losses over with.

However, note this statement from the CEO: ``Market conditions continued to weaken throughout the fourth quarter and we have not yet seen tangible evidence of a market recovery,'' That doesn't sound good at all.

For more on the housing "soft landing", go to the Big Picture, where the story Economy poised to shake off housing slump (except Lennar) is at the top of the page. There are two great charts that say it all: sales are decreasing and inventory is increasing.

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House Price Prediction

Now that the New Year is upon us, the financial pundits are out in force attempting to generate some publicity for themselves and their products by making bold predictions about the coming 12 months.

One such prediction concerns that housing market. According to a poll in the FT, 30 out of 41 economists say that recent house price rises are sustainable.

11 think the market has risen too far and will fall.

Needless to say, there are others who disagree. Lombard Street Research (LSR), in a study commissioned by The Daily Telegraph, say that house prices are at their most overvalued for 15 years.

In other words, it depends on which way you want the market to go as to which survey you believe in.

Happy New Year!

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The Week Ahead

The market is closed tomorrow for the President Ford funeral.

Wednesday we have Redbook and UBS store sales. I am especially interested in the retail numbers to see how Christmas was. Not what people were going to spend, but what they actually spent. This will be a read of the Christmas season. We also get December car sales and the ISM manufacturing index. And finally we get construction spending. This will be a big day.

Thursday we get the ISM service report and jobless claims. Look at the claims numbers to see if there is a bump in construction related losses.

Finally we get the employment situation on Friday. Again pay attention to construction employment. Also keep an eye on professional (real estate agents) and financial services (mortgage brokers). We've had two sub-prime brokers go belly-up in the last month.



In short -- we're going to get a ton of information this week.

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It's a New Year -- Where Are the Markets?

On Wednesday the markets will open for the beginning of a new trading year. So -- where are the markets right now?

First -- I really don't like to talk about the DOW. Simply put, 30 stocks in a sea of 10,000 just doesn't make sense. I like far broader averages to gauge the market.

Here's a chart of the SPY's:



This is the strongest chart of the three I'll look at today. The S&P 500 is still in the middle of a strong uptrend. However, there are two points of concern right now. The first is the decreasing volume totals for December. Starting on December 11, we see a clear decrease in trading volume. This might simply be people leaving the market for an early vacation. Or it might be a decrease in actual buying interest. We don't know the underlying reason for the volume decrease; we just know one occurred. The second cause for concern is the possible formation of a double top for the SPY in December. It's not a particularly strong formation, but it exists nonetheless. It's important to remember we've had a strong uptrend for the better part of 5 months now. Simple baseball logic tells us the market is due.

Here's a chart of the Russell 2000;



This chart causes a bit more concern. Notice the volume drop-off starting in late October -- about a month and a half before the drop-off in the SPYs. This makes the rally in late November and early December more suspect for the simple reason fewer buyers caused it. Also notice we have a possible head and shoulders topping formation forming. The market may be working on the right shoulder right now.

Here's a chart for the QQQQs:



This chart should raise a few eyebrows. First, notice we have another possible double top formation with the first top in late November and the second top in mid-December. Next we have a sell-off from the double top. We have a reaction rally from the sell-off in the last week of December. But, the reaction rally has a very low volume level relative to the preceding sell-off. And we don't have a very strong reaction rally; the sell-ff has some very strong downward bars while the reaction rally has some wimpy, meandering bars. Finally, we have the QQQQ's closing below the 20 day moving average. All of these are bearish signals.

As with all technical analysis, remember this caveat: the markets will always try to humble your analysis. And the markets have a lot of ways to humble you.

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