On Apr 10, 2013, the S&P 500 index reached its all-time
high of 1589.07 breaking its previous record intra-day high of
1576.09 on Oct 11, 2007. Its market capitalization has also
swelled from just $5.9 trillion in 2009 to nearly $14.0 trillion.
Close on the heels of the S&P 500 ascendancy, almost all the
major indices except the Nasdaq Composite have hit record highs.
Although the S&P 500 index is regarded as the more accurate
measure of the U.S. stock market and the economy as a whole, the
spurt in indices across the board apparently signifies that the
recovery from recession is complete and the economy is on its way
up. Is that so? Before going further with the argument of whether
the economic recovery is a mirage, let us look into the possible
factors that have propelled the indices.
Favorable Stress Test Results
The stress test results, as revealed by the Federal Reserve in
early March, showed that 17 of the top 18 banks in the country
had the requisite wherewithal to withstand a crisis, simulated by
severe conditions such as an unemployment rate of 12.1%, housing
price decline of 20%, share price fall of 50%, and an aggregate
loss of $462 billion in the banking system. The results signified
a marked improvement in the liquidity of banks and denoted that
the economy was relatively stronger than it was four years back
when it was plagued by recession.
As part of the study, the Fed analyzed loan- and account-level
data of over two-thirds of the $4.2 trillion held in accrual
loans and leases by these banks. These included data from 350
million domestic retail loans, including credit cards and
mortgages, and more than 200,000 commercial loans.
Furthermore, the stress tests evaluated the banking system
horizontally, rather than taking each bank in isolation.
Consequently, it provided reliable information on the resilience
of the banks, thereby signifying a relatively steady economy.
Rise in Home Prices
Another outwardly positive signal in the economy has been the
continuous rise in home prices, as per the data from
S&P/Case-Shiller index. Tracking changes in the residential
real estate values across the country, the S&P/Case-Shiller
Home Price Indices are arguably one of the best measures for the
U.S. residential housing market and are calculated on a monthly
basis using a three-month moving average.
The latest data from the January report divulged that although
home prices are yet to reach the pre-recession peaks, they have
risen the fastest since 2006. The 10-city composite climbed 7.3%
in the trailing 12-month period, while the 20-city index
escalated 8.1% as all cities posted gains on a yearly basis.
The U.S. job market was also supposedly improving as according to
the latest U.S. job report, unemployment rate decreased to 7.6%
in March from 7.7% in February with about 88,000 jobs added in
the market. Although the job additions were significantly lesser
than expected, the more talked-about point in the report was the
drop in the unemployment rate, which apparently appears positive
and augurs well for the economy that is limping back to normalcy
from the wounds of a deep recession.
The Critical Analysis
However, a critical analysis would reveal that the dip in the
unemployment was primarily attributable to 500,000 Americans
dropping out of the labor force, which dragged the labor
participation rate (the percentage of the population within the
demographic age of 16 and over in the labor force) to a 34-year
low of 63.3%.
Since reaching its zenith at 67.3% in 2000, the labor
participation rate has declined over the years as discouraged and
frustrated Americans left the job market only to return when
conditions briefly improved. However, the gradual retirement of
an aging Baby Boomer population and a recession in late 2007 has
continuously pegged back the labor participation rate.
Although a smaller pool of workers looking for jobs are likely
to get them easily, it restricts potential economic growth of a
country and consequently is not a healthy sign for the U.S.
A housing recovery would also do wonders for the U.S. economy
that was plunged into one of the worst recessions ever witnessed
by the country by a subprime crisis primarily led by a housing
bubble. However, a deeper analysis would suggest that the surge
in housing prices was the fallout of bulk buying by institutional
With a substantial amount of dry powder in their kitty,
institutional buyers are making a beeline to mop-up assets in
distressed sales. Listed investment and capital management firm
The Blackstone Group LP
) as well as hedge funds and private real estate investment firms
like Colony Capital and GI Partners are amassing a huge portfolio
of single-family homes. Blackstone has already spent over $3.5
billion for more than 16,000 single-family homes and is
reportedly spending about $100 million a week to further increase
These institutional buyers typically have a profit-based approach
and their investment model is based on piling a huge pool of real
estate assets, which are then rented out to generate a fixed
monthly income with the homes serving as collaterals.
The biggest question left to ask therefore is - Would this
benefit the common man and the economy as a whole? Or is this
just a ploy of the rich to be super-rich? What also remains to be
seen are whether other asset management firms such as
Kohlberg Kravis Roberts & Co.
Affiliated Managers Group Inc.
AllianceBernstein Holding L.P.
), each carrying a Zacks Rank #2 (Buy), jump on the bandwagon.
Furthermore, although stress test results were apparently
positive, it had inherent drawbacks and was not entirely
trustworthy. The full specification of the model used for
evaluation of the stress tests is not disclosed to the banks,
making industry experts skeptical of the authenticity of the
Critics have alleged that fudged data were used to project a
shadow economic recovery and the true picture was not revealed to
continue receiving government bail-outs to avert a rerun of an
To add to the woes, the U.S. runs the risk of a debt default and
a possible reduction in credit rating when it reaches its debt
ceiling on May 19. The U.S. government voted on legislation in
January this year to raise the debt ceiling for three months as a
short-term fix to delay a debt default. Sovereign rating of the
U.S. was earlier downgraded in Aug 2011 from AAA to AA+ due to a
burgeoning debt burden and lack of concrete fiscal consolidation
Ever since then, the government has periodically increased the
debt ceiling to avert further downgrade. The government also
avoided a fiscal cliff by staving off widespread tax increases
and deep spending cuts by accepting a brokered Senate compromise,
which otherwise would have plunged the economy into a double-dip
recession with unemployment back in the 9% range.
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The obvious question then that comes to the fore now is whether
the current stock market boom then truly represents a spurt in
the economy or is this just a mirage? Are all these positive
signals worth believing or are we in for another surprise around