Is the Stock Market Saying the Economy Will Remain Strong?

Last summer, worries that the serious global recession was going to wind up in a global depression were replaced with confidence the recession would soon end.

Global stimulus efforts began to work. Plunging home sales reversed to monthly sales gains. Job losses that had been exceeding 500,000 a month improved to only 150,000 jobs being lost monthly. Home prices began to improve. Consumer confidence began to rise. The steep decline in corporate earnings slowed its pace significantly.

You can usually depend on the stock market to provide advance notice regarding what’s going to happen in the economy. It usually tops out when everything is still looking great, and its corrections and bear markets usually end when everything is looking pretty terrible and scary. And sure enough, the oversold stock market had taken off on a tear in the spring, when conditions were at their worst and the future looked the most bleak, beginning to factor into stock prices that the recession would not worsen, but instead would soon end.

Once again the stock market was right. In the third quarter, six months after the big stock market rally began, the recession ended. After four straight quarterly declines, GDP grew 2.2% in the third quarter. Last month it was reported that GDP surged up 5.7% in the fourth quarter, the fastest quarterly growth in six years. And on Friday, fourth quarter GDP was revised even higher, to 5.9% growth.

But with its weakness beginning in January just as those positive GDP numbers were released, and so far this year, is the stock market providing another warning about the economy, that this is as good as it’s going to get, or is it just a normal ‘buy the dips’ pullback?

Global stock markets have certainly been losing their upside momentum, some for several months. The Vanguard European etf, which tracks with European markets, is down 15%. Stock markets in the strongest global economies, China and India, are down 12% and 8% respectively. Japan, the 3rd largest economy in the world, sees its stock market down 8%. Mutual funds tracking emerging markets are down 10%.

Only in the U.S. does there seem to be few worries, at least as measured by the stock market, where both the conservative Dow and the speculative Nasdaq are down only 3.7%.

The nervousness in global markets is understandable. After all, there was the surprise report from Europe several weeks ago that GDP growth in the 16 Eurozone countries slowed to being up only 0.1% in the fourth quarter, as close to zero as you can get. That raises concerns that Europe may already be slipping back into recession. That worry was not lessened any by subsequent reports that the German Business Confidence Index fell in January for the first time since last April, and the well publicized reports of serious debt problems in Greece, Italy, Spain, Portugal, and Ireland.

No less worrisome have been the several announcements by China that it is making fiscal and regulatory moves to deliberately cool off its overheated economy, on which many countries have been pinning their hopes for continued export sales.

But is a positive outlook for the U.S. economy that much more assured?

After all, two weeks ago the bi-partisan Congressional Oversight Panel released a report saying that 2,988 U.S. banks, almost 40% of the 8,000 banks in the U.S., are about to “get hit by a tidal wave of commercial-real estate loan failures.” There was also this week’s report that the Consumer Confidence Index unexpectedly fell off a cliff, falling from 56.5 in January to just 46 in February. (Consumer spending accounts for 70% of the spending that drives the economy.)

This week it was also reported that new home sales unexpectedly plunged 11.2% in January, to the lowest level since at least 1963, and existing home sales declined 7.2%, the second straight unexpected monthly decline. Economists had expected both numbers to show increases, since the government program of sizable rebates to home-buyers is still in effect.

Adding to the concerns, apparently both inside and outside of the Federal Reserve, is what will happen to the housing industry, so important to the economic recovery, when the refunds to home-buyers program ends in April, along with the announced end of the Fed’s year-long massive purchases of $1.2 trillion of mortgage-backed securities, which has been very successful in lowering mortgage rates from 6% to 5%. 
It seems like U.S. and global economies are slowing again, and that it will worsen.

But here’s something to consider.

Economists have been positive for several months that economic growth in the U.S. will slow over coming quarters, with some predicting it will slow all the way into a double-dip recession. They correctly forecasted strong fourth quarter GDP growth, but also correctly said it would be mostly due to the temporary rebuilding of business inventories, and government stimulus spending, which would not be sustainable. 
But the stock market has a better track record than economists, and is usually well ahead of the curve, predicting economic changes six to nine months in advance. Yet it has not fallen in anticipation of a serious slowdown, at least not yet.

Could it be that economists, although seeming to have it right so far, have got it wrong, and that by being so resilient even in the face of the pile-up of negative economic worries, that the stock market is saying the economy will fool everyone by remaining strong through the year?

Just a thought.

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