The sole purpose of the Federal's Reserve's recent moves and
commentary is to inspire the economy 's "animal spirits." The
most recent action, known as QE3, or the third round of
quantitative easing, is simply an effort to provide a spark where
none exists.
While the Fed spent the summer contemplating if and
when to make such a move, the economy looked tired, as a series of
readings gave the impression of a cool-down from more impressive
economic reports in the spring. But as the Fed gears up for action,
the economy is beginning to show signs of an even deeper slowdown,
and it's fair to wonder if QE3 will provide much help at all
--despite the impression a rising stock market may
give.
As far as Federal Reserve Chairman Ben Bernanke is concerned,
the economy can finally break its malaise if banks step up lending
and companies start making key internal investments. So QE3's
primary impact is to lower the cost of money by placing downward
pressure on interest rates. Cheaper money often helps companies
generate a more robust rate of return. This is known as "the hurdle
rate," and as financing costs drop, the hurdle gets lowered.
Yet these companies are often sitting on ample cash
anyway
and need little incentive to put money into play. Instead, their
financing decisions
are more strictly based on expectations for demand -- and not
simply the cost of funds.
"...lately, corporate America has been trimming capital goods in
orders in fear of weaker growth, so it's not clear that companies
will tap into equities for financing new capital projects," noted
an economist at CIBC.
Exports and retail: Two pillars giving way
The only reason companies invest in new growth opportunities is if
they foresee tangible near-term and long-term benefits. That means
thriving export market opportunities, or a more free-spending
consumer here in the United States. On both fronts, there are
reasons for concern.
Few appreciate just how well U.S. exports have fared, despite
the tough global economic environment. But many warning signs are
beginning to appear. Consider this stat: The amount of exported
goods rose at least $10 billion from the prior year's month from
January 2010 until August 2011. That figure stayed in the $5-8
billion range in subsequent months. Yet in July 2012, that figure
slipped to around $4 billion for the first time in nearly three
years. In addition, the 3.3% year-over-year growth rate in monthly
exports was also the lowest in several years. Deutsche Bank
economists warn that "a key leading indicator of exports
-- the ISM new export orders -- also points to
contracting volumes." (The next report, for August 2011, is slated
for release on Oct. 11, 2012.)
U.S. Exports In the Past Two Years
It's important to note that if export opportunities are
diminishing, then companies will become increasingly reliant on the
U.S. consumers to support demand. Here again, the numbers are
troublesome. Retail sales rose a seemingly impressive 0.9% in
August 2012 when compared to a year ago. Yet much of that gain is
attributable to higher gasoline prices at the pump. Back out that
spike and retail sales actually fell 0.1%. The biggest areas of
weakness: General merchandise (-0.3%), clothing (-1.1%) and
electronics (-1.4%).
After digesting those figures, Merrill Lynch's economists now
think the U.S. economy's GDP expanded just 1.1% in the
third quarter. That would be the worst showing since the first
quarter of 2011, when it grew just 0.4%. You would have to go back
to the Great Recession of 2008 and 2009 to otherwise
find such a period of anemic growth (or outright recession).
Risks to Consider:
The U.S. economy did manage to rebound during the rest of 2011
after it slowed sharply in the first quarter, so it's important to
watch ongoing trends to see if they start to impact the fourth
quarter as well, which starts in just a few weeks.
Action to Take -->
It's now increasingly clear why the Federal Reserve would like to
help the economy. But past rounds of quantitative easing have done
more for stock prices and speculative commodities such as gold,
than they have actually done for the economy. That's why some
suspect the Fed is "pushing on a string" with its efforts and will
be unable to effectively inspire lenders to lend and businesses to
invest.
That's why you need to guard against further euphoria in today's
stock market. Until and unless we see signs of an economic rebound,
the bias remains for a more sober tone from stocks as the
next earnings season gets underway. As I've noted
before, there's no shame in locking in profits on solid recent
gainers. The case for further upside seems limited in the
near-term, and you may be able to buy these stocks back at lower
prices if the economy truly stalls out.
-- David Sterman
David Sterman does not personally hold positions in any
securities mentioned in this article. StreetAuthority LLC does not
hold positions in any securities mentioned in this article.