My weekend reading didn't produce much insight for next week. There is a lot of political noise out of US and China over the last few weeks. The economies are murky. I tend to believe that the developments are slightly positive: underneath the government supports the private sectors may be slowly adjusting for an upturn.
PIMCO's "new normal" thesis can't be ignored. It argues that we're entering a low growth period in the next years or decades due to de-leveraging, re-regulation and de-globalization. US consumers will no longer play the leading role of economic growth, banks and other financial companies will not be able to help fuel the growth with easy credit, and thus much of the globalization processes that happened before will be slowing down.
PIMCO is an astute yield curve player. Their edge is in getting the big picture more or less right. But even good arguments like these can be carried too far. US and the world economies are not homogeneous. There will be sectors, and within a certain sector some businesses, that can flourish in such environment. Technology may be one. Even within a beaten down sector such as housing, one may be able to spot one or two home builders that have adjusted to the new reality and are prepared to grow again.
In the US the place to look closely is California. Despite its fiscal disaster and high unemployment rate, it still has a vibrate tech sector, and its housing market somehow has managed to find its footing. I've lived both in the Bay Area and SoCal for the past 14 years. I think if the recovery is real for Cal, it'll be real for the US. If the "new normal" thesis is broken, it will be broken in California.
Sunday, January 31, 2010
Saturday, January 30, 2010
Not a great start for the new year, but it's just a correction
After the surge in the first week, the markets have been going down for three consecutive weeks. The best performing sectors (material, energy, technology) have turned into the worst performing ones. Is this a start of a new (down) trend? Or merely a necessary correction?
We think it's just a correction. The three sectors that have been performing well in 2009 are all tightly linked to global demands, especially in emerging markets such as China. China's extraordinary stimulus policies have largely avoided a slump that was widely believed to follow the financial crisis. But the result came with a big price: China is risking an over-heated real estate market reaching the bubble territory. The government, being an effective and anticipating manager of the economy, is trying to slow it down a bit before inflation breaks out. This has created concerns that this engine of global recovery may be running out of steam.
China is not going to slow down dramatically. It cannot afford to. It needs sufficient growth to provide employment. A small slowdown is good for the transition to a more balanced growth path, one that depends more on domestic consumption than export.
In the US, there are signs that the economy has started its slow recovery. The housing market has most likely reached some sort of bottom in parts of the country. Consumption has started to contribute to the GDP growth (4Q). US dollar may be on a new trend of strengthening, at least relative to Euro and other developed currencies. Commodities and energy may thus lose a strong support. Yet, we doubt this is going to last very long. The US recovery is still very weak. Mind-boggling national deficits will need more supports from the Fed. Consumers are still working through their debts. US will need all the helps it can get, including a weak dollar to help stimulate exports.
Emerging markets, which are fiscally much healthier than the US, should continue to grow more rapidly. We expect energy, material, and tech sectors to continue their relatively strong performance into 2010.
We think it's just a correction. The three sectors that have been performing well in 2009 are all tightly linked to global demands, especially in emerging markets such as China. China's extraordinary stimulus policies have largely avoided a slump that was widely believed to follow the financial crisis. But the result came with a big price: China is risking an over-heated real estate market reaching the bubble territory. The government, being an effective and anticipating manager of the economy, is trying to slow it down a bit before inflation breaks out. This has created concerns that this engine of global recovery may be running out of steam.
China is not going to slow down dramatically. It cannot afford to. It needs sufficient growth to provide employment. A small slowdown is good for the transition to a more balanced growth path, one that depends more on domestic consumption than export.
In the US, there are signs that the economy has started its slow recovery. The housing market has most likely reached some sort of bottom in parts of the country. Consumption has started to contribute to the GDP growth (4Q). US dollar may be on a new trend of strengthening, at least relative to Euro and other developed currencies. Commodities and energy may thus lose a strong support. Yet, we doubt this is going to last very long. The US recovery is still very weak. Mind-boggling national deficits will need more supports from the Fed. Consumers are still working through their debts. US will need all the helps it can get, including a weak dollar to help stimulate exports.
Emerging markets, which are fiscally much healthier than the US, should continue to grow more rapidly. We expect energy, material, and tech sectors to continue their relatively strong performance into 2010.
Friday, January 29, 2010
Wells Fargo may soon become the largest bank
The Obama proposal to limit bank size and activities (The "Volker Rule") has already had a differential impact on the big banks. JP Morgan, which has sought to expand both its commercial banking and investment banking operations during the financial crisis by acquiring Washington Mutual and Bear Stearn, has been pummeled. Its stock price has dropped about 10% since the announcement on January 21. Similarly, Bank of America and Citigroup have been adversely affected. On the other hand, Wells Fargo appears to be least affected, as its acquisition of Wachovia was mostly an expansion of the commercial banking franchise.
Only two weeks ago, WFC had a much lower market cap than JPM, and was behind that of BAC. This week, WFC has over-taken BAC, and has come very close to JPM's market cap of $153 billions. The market reaction is quite understandable, if the rule is designed to separate the deposit-based business from the trading-based business that came to dominate the Wall Street. If this trend continues, Wells Fargo will soon become the largest bank in terms of market cap.
JPM has been viewed as the best capitalized large bank, also as a go-to bank for the government when it needs help in closing down a failing bank. As such, JPM has benefited tremendously through the crisis and has come out stronger.
Wells, on the other hand, has always had some problems with its capital position after the merger with Wachovia. In particular, its tangible common equity ratio is thought to be the lowest among the large banks. Even though it has a superior earning power, investors have not been willing to believe that it can earn its way back to the best capitalized bank.
Much of that is of course dependent on how well the economy recovers, in particular, how well the housing market recovers. Wells, because of its focus on community-based banking, may benefit disproportionately from the recovery, more so than trading-dependent operations. Perhaps for this reason, investors now are willing to give it more credit, in light of the new political climate and recent data that the economy is slowly but surely on its way to recovery.
Only two weeks ago, WFC had a much lower market cap than JPM, and was behind that of BAC. This week, WFC has over-taken BAC, and has come very close to JPM's market cap of $153 billions. The market reaction is quite understandable, if the rule is designed to separate the deposit-based business from the trading-based business that came to dominate the Wall Street. If this trend continues, Wells Fargo will soon become the largest bank in terms of market cap.
JPM has been viewed as the best capitalized large bank, also as a go-to bank for the government when it needs help in closing down a failing bank. As such, JPM has benefited tremendously through the crisis and has come out stronger.
Wells, on the other hand, has always had some problems with its capital position after the merger with Wachovia. In particular, its tangible common equity ratio is thought to be the lowest among the large banks. Even though it has a superior earning power, investors have not been willing to believe that it can earn its way back to the best capitalized bank.
Much of that is of course dependent on how well the economy recovers, in particular, how well the housing market recovers. Wells, because of its focus on community-based banking, may benefit disproportionately from the recovery, more so than trading-dependent operations. Perhaps for this reason, investors now are willing to give it more credit, in light of the new political climate and recent data that the economy is slowly but surely on its way to recovery.
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