An Economic OverviewAn Economic Overviewampamp
AnalysisAnalysis
2011 42011 4 thth Qtr Economic Review Qtr Economic ReviewEconomic SummaryEconomic Summary
Fed PolicyFed PolicyBus InvestmentBus Investment
Other Economic IndicatorsOther Economic IndicatorsEmployment AnalyticsEmployment Analytics
ldquoldquoFalling Knife -1- Employment vs SkilsrdquoFalling Knife -1- Employment vs SkilsrdquoldquoldquoFalling Knife -2- The Great In-equality of WagesrdquoFalling Knife -2- The Great In-equality of Wagesrdquo
Thought ExperimentThought ExperimentMarket Forecast Market Forecast
PicksPicksPrepared byGary Crosbie
Economic SummaryEconomic SummaryOverviewbullIn general economic conditions have shown sluggish growth through the year in a downward sloping trading range in just about every economic category Job growth has shown some improvement but not at levels necessary to yield the kind of economic growth normally seen 31 months into a recovery The most obvious example of this is reflected in GDP The peak in GDP since the inception of this recession was 4 4th Qtr 2009 The trend has been flat to down (see chart to right) since than dropping on average 23 to an avg of 17 for the year 2011
bullNormally at the end of a recession defined by the Fed as June of 2009 the following 5-8 Qtrs would normally reflect an average of 5-8 GDP growth The good news is the current recovery sees the growth of GDP increasing in 2011 the bad news is the AVG GDP growth of 17 is problematic on its own merit but more troubling hellipdecreasing from 2010 hellip
GDP increased in 2011hellipbut still down from 20092010
Economic SummaryEconomic Summarybull The current anemic recovery is best
understood when evaluated relative to previous recessions and is perfectly en-capsulated in the chart to the right which compares this recovery to every recessionary recovery post WW2 The main message in this graphic re-emphasizes not just the severity of the down turn but the persistence of the problem and while there is a recovery it is anemic in both duration and magnitude compared to other recoveries since WW2
bull The second chart is even more revealing comparing this recovery with the 19 post WW2 recoveries segmented into three categories Mildest median and Harshesthellipreflecting this recovery significantly worse than the harshest
bull It is correct to observe some improvement as we have through Jan of this year It is just as important to put that improvement into context with other recessions and to conclude the comparative differences are significant to the point that this could be appropriately summarized as a jobless and growth less recovery The average recovery would reflect a $4000 higher per capita GDP and a 5-6 unemployment rate
By Far the worst recovery of 19 post WW2 Recessions
Compare the Median of all recoveries to the currenthellipThe slope of the median is Positive the current slope is negative
Economic SummaryEconomic Summarybull The ultimate consequence of the law of diminishing returns of a huge trillion dollar (including
interest) fiscal stimulus program and targeted cash subsidy programs that provided some short term relief but left unresolved budgetary debt capital flow taxes and regulatory issues that yielded risk and uncertainty impeding capital investment and formation which is the key to improved business growth Thus average GDP growth for 2011 came in under expectations of 3-35 to aprox 17 For 2012 according to the CBO less than 2 GDP and unemployment at 89
bull The increased business risk defined above in concert with high productivity yielded significant improvements in the balance sheets of business Cash balances approached 2-25 trillion dollars with The majority of corporate cash utilization currently allocated to MampA stock buy backs and debt refinancing This just continues to re-enforce balance sheets and Mamp A which results in corporate consolidations resulting in fewer jobs and puts more downward pressure on unemployment
bull Further as will be discussed later in selective sectors currently but more significantly in the future there will significant skill gap problems The majority of the layoffs are skilled labor who took early retirement The problem is when expansion does occur and employers are back in the market placehellipthe skills will not be available to meet the skill gap or those that are skilled will not be able to re-locate due to housing issues eg underwater mortgages
Economic SummaryEconomic Summarybull New capital formation and investment by business entities is occuring but the
majority occurs in emerging markets(BRIC) where taxes and regulations are lower and more transparent and thus less of an impediment to capital formation business growth and shareholder wealth
bull Further in addition to lower taxes and less regulation double taxation impedes business from re-patriating there earnings back from foreign investment enterprises to the US for new investment in capital and labor
bull This is why 40-45 of earnings in large Cap multi-nationals come from international investments
bull Elimination of the double taxation on foreign earnings could result in approx 1-15 trillion dollars of new investment in US capital formation and labor growth(new jobs)
bull Sowith microscopic growth of less than 2 and a 83 unemployment rate it is economic incompetence to continue the double taxation on Mult-nationals
ndash You will not realize any new tax revenue because business will continue to keep 1-15 trillion dollars worth of potential capital formation and new jobs overseas rather than in the US
ndash the negative incentive encourages NEW capital formation and growth outside the UShellip
Economic SummaryEconomic SummaryOverviewbull The bottom line is unlike previous recessions that have V shape recoveries at 6-8 this is likely to be a long slow slog of 2- 25- growth thru 2012 and for some time bullEmployment growth while seeing some minor improvement is sluggish at best with an average of 137K per month over the 2011 period While Dec employment came in at 200K and Jan at 243k the employment rate needs to average 250-300k per month to impact the unemployment rate of 83 -85 to levels of 55- 65 normal for a recovery this ldquoLong in the Toothrdquo bullThe Dec number is artificially inflated due to the fact that more than 315000 individuals dropped out of the labor force totally The Bureau of labor and statistics does not measure these people so the real Unemployment rate is really 16-20Gallop currently calculated the rate at 192bull This is due to a low participation rate in the labor market These are people who have run out of unemployment insurance or who just given up The Bureau of Labor and Statistics DOESNOT count these individuals and they thus are lost in the smoke of the total unemployed
635At this participation Rate the real unemployment rate is 16-20
Economic SummaryEconomic Summarybull Market Volume has been light for a prolonged period of time indicating that
the retail investor has been sitting on the side line for a lot of the same reasons business is not spending Uncertainty risk aversion and fear has driven any significant in flows of investment away from equities to treasuries commodities and the bond market 2008 is still strong memory to the average retail trader The result is the market is more volatile driven by the professional trader amp computer generated trading strategies
bull In total the economy is at stall speed and significant improvement is not expected untill things change politically Right now existing policies are not conducive to growth due to uncertainty on taxes regulations healthcare and Demand Personal Consumption Expenditures (PCE) was -1 in Dec which was a huge disappointment given holiday expectations
bull For the foreseeable future businesses are keeping inventories and employment tight due to uncertaintyhellipThe uncertainty of the Euopean fiscal crisis Policy and regulation out of Washington to include healthcare the bond market demand and supply issues
Economic SummaryEconomic Summarybull So the question is Where are the ldquoAnimal Spirits rdquo that fuel the economic
engine Entrapanuear new starts IPOrsquos and small business growthhellipThe answer ishellipdue to the above there is a large amount of risk aversion and the Risk OFF business strategy is in place
bull Further QE-2 has ended which means the money stimulus has ended but the Fed has substituted QE2 for Operation Twist to improve the Risk on trade for investors and the banking community More about that under Fed
bull Corp earnings were up in the 4th Qtr but not as much as in 2010 Never the less the SampP valuations came in at around 12-13 times earnings (Versus an average of 15-17 times ) making equities in any analysis the investment of choice vs cash or fixed income
bull Thus markets are undervalued for 2012 and in addition with taxes due to rise significantly in 2013 will likely act as a positive stimulus for higher valuations at least through the first 6 months of the year Further fear of higher taxes in 2013 will cause some investors to move Investment decisions forward to 2012
Economic SummaryEconomic SummaryOverviewbull The bond market is projecting sluggish economic
growth 4 th Qtr GDP was 28 but the avg GDP growth for the year was 17 The CBO is projecting growth for 2012 in the 2-25 range significantly below what is necessary to grow employment
bull The objective of Fed Monetary Stimulus hellipQE1 QE2 and Current ldquoOperation Twistrdquo was three fold
bull Improve Large Cap InvestmentPut downward pressure on the 10 year (see chart)through more and more liquitity which provide a more favorable environment for both equity amp corp bond investment
bull Improve Small Business Hurdle points for new growth investments Lower yield curve rates provide lower cost of capital for new business investment
bull Housing Support a faltering housing market and thus keep mortgage interest rates low
bull Results Equity markets have responded with high volitility up 5-6 first half down 7-8 second half
bull Small Business demand for new capital is still
lacking given all the uncertainty and while mortgage rates are low-(35-4) housing starts and prices are still decreasing and threaten a housing double dip
10 Year Bond Rate
Effect on the yield curve of QE1QE2 Operation Twist
30 Year Bond RateEffect of Operation Twist has flattened the term structure of interest rates yield curve to historical levels between the 10 and 30 year bond to 100 basis points
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic SummaryOverviewbullIn general economic conditions have shown sluggish growth through the year in a downward sloping trading range in just about every economic category Job growth has shown some improvement but not at levels necessary to yield the kind of economic growth normally seen 31 months into a recovery The most obvious example of this is reflected in GDP The peak in GDP since the inception of this recession was 4 4th Qtr 2009 The trend has been flat to down (see chart to right) since than dropping on average 23 to an avg of 17 for the year 2011
bullNormally at the end of a recession defined by the Fed as June of 2009 the following 5-8 Qtrs would normally reflect an average of 5-8 GDP growth The good news is the current recovery sees the growth of GDP increasing in 2011 the bad news is the AVG GDP growth of 17 is problematic on its own merit but more troubling hellipdecreasing from 2010 hellip
GDP increased in 2011hellipbut still down from 20092010
Economic SummaryEconomic Summarybull The current anemic recovery is best
understood when evaluated relative to previous recessions and is perfectly en-capsulated in the chart to the right which compares this recovery to every recessionary recovery post WW2 The main message in this graphic re-emphasizes not just the severity of the down turn but the persistence of the problem and while there is a recovery it is anemic in both duration and magnitude compared to other recoveries since WW2
bull The second chart is even more revealing comparing this recovery with the 19 post WW2 recoveries segmented into three categories Mildest median and Harshesthellipreflecting this recovery significantly worse than the harshest
bull It is correct to observe some improvement as we have through Jan of this year It is just as important to put that improvement into context with other recessions and to conclude the comparative differences are significant to the point that this could be appropriately summarized as a jobless and growth less recovery The average recovery would reflect a $4000 higher per capita GDP and a 5-6 unemployment rate
By Far the worst recovery of 19 post WW2 Recessions
Compare the Median of all recoveries to the currenthellipThe slope of the median is Positive the current slope is negative
Economic SummaryEconomic Summarybull The ultimate consequence of the law of diminishing returns of a huge trillion dollar (including
interest) fiscal stimulus program and targeted cash subsidy programs that provided some short term relief but left unresolved budgetary debt capital flow taxes and regulatory issues that yielded risk and uncertainty impeding capital investment and formation which is the key to improved business growth Thus average GDP growth for 2011 came in under expectations of 3-35 to aprox 17 For 2012 according to the CBO less than 2 GDP and unemployment at 89
bull The increased business risk defined above in concert with high productivity yielded significant improvements in the balance sheets of business Cash balances approached 2-25 trillion dollars with The majority of corporate cash utilization currently allocated to MampA stock buy backs and debt refinancing This just continues to re-enforce balance sheets and Mamp A which results in corporate consolidations resulting in fewer jobs and puts more downward pressure on unemployment
bull Further as will be discussed later in selective sectors currently but more significantly in the future there will significant skill gap problems The majority of the layoffs are skilled labor who took early retirement The problem is when expansion does occur and employers are back in the market placehellipthe skills will not be available to meet the skill gap or those that are skilled will not be able to re-locate due to housing issues eg underwater mortgages
Economic SummaryEconomic Summarybull New capital formation and investment by business entities is occuring but the
majority occurs in emerging markets(BRIC) where taxes and regulations are lower and more transparent and thus less of an impediment to capital formation business growth and shareholder wealth
bull Further in addition to lower taxes and less regulation double taxation impedes business from re-patriating there earnings back from foreign investment enterprises to the US for new investment in capital and labor
bull This is why 40-45 of earnings in large Cap multi-nationals come from international investments
bull Elimination of the double taxation on foreign earnings could result in approx 1-15 trillion dollars of new investment in US capital formation and labor growth(new jobs)
bull Sowith microscopic growth of less than 2 and a 83 unemployment rate it is economic incompetence to continue the double taxation on Mult-nationals
ndash You will not realize any new tax revenue because business will continue to keep 1-15 trillion dollars worth of potential capital formation and new jobs overseas rather than in the US
ndash the negative incentive encourages NEW capital formation and growth outside the UShellip
Economic SummaryEconomic SummaryOverviewbull The bottom line is unlike previous recessions that have V shape recoveries at 6-8 this is likely to be a long slow slog of 2- 25- growth thru 2012 and for some time bullEmployment growth while seeing some minor improvement is sluggish at best with an average of 137K per month over the 2011 period While Dec employment came in at 200K and Jan at 243k the employment rate needs to average 250-300k per month to impact the unemployment rate of 83 -85 to levels of 55- 65 normal for a recovery this ldquoLong in the Toothrdquo bullThe Dec number is artificially inflated due to the fact that more than 315000 individuals dropped out of the labor force totally The Bureau of labor and statistics does not measure these people so the real Unemployment rate is really 16-20Gallop currently calculated the rate at 192bull This is due to a low participation rate in the labor market These are people who have run out of unemployment insurance or who just given up The Bureau of Labor and Statistics DOESNOT count these individuals and they thus are lost in the smoke of the total unemployed
635At this participation Rate the real unemployment rate is 16-20
Economic SummaryEconomic Summarybull Market Volume has been light for a prolonged period of time indicating that
the retail investor has been sitting on the side line for a lot of the same reasons business is not spending Uncertainty risk aversion and fear has driven any significant in flows of investment away from equities to treasuries commodities and the bond market 2008 is still strong memory to the average retail trader The result is the market is more volatile driven by the professional trader amp computer generated trading strategies
bull In total the economy is at stall speed and significant improvement is not expected untill things change politically Right now existing policies are not conducive to growth due to uncertainty on taxes regulations healthcare and Demand Personal Consumption Expenditures (PCE) was -1 in Dec which was a huge disappointment given holiday expectations
bull For the foreseeable future businesses are keeping inventories and employment tight due to uncertaintyhellipThe uncertainty of the Euopean fiscal crisis Policy and regulation out of Washington to include healthcare the bond market demand and supply issues
Economic SummaryEconomic Summarybull So the question is Where are the ldquoAnimal Spirits rdquo that fuel the economic
engine Entrapanuear new starts IPOrsquos and small business growthhellipThe answer ishellipdue to the above there is a large amount of risk aversion and the Risk OFF business strategy is in place
bull Further QE-2 has ended which means the money stimulus has ended but the Fed has substituted QE2 for Operation Twist to improve the Risk on trade for investors and the banking community More about that under Fed
bull Corp earnings were up in the 4th Qtr but not as much as in 2010 Never the less the SampP valuations came in at around 12-13 times earnings (Versus an average of 15-17 times ) making equities in any analysis the investment of choice vs cash or fixed income
bull Thus markets are undervalued for 2012 and in addition with taxes due to rise significantly in 2013 will likely act as a positive stimulus for higher valuations at least through the first 6 months of the year Further fear of higher taxes in 2013 will cause some investors to move Investment decisions forward to 2012
Economic SummaryEconomic SummaryOverviewbull The bond market is projecting sluggish economic
growth 4 th Qtr GDP was 28 but the avg GDP growth for the year was 17 The CBO is projecting growth for 2012 in the 2-25 range significantly below what is necessary to grow employment
bull The objective of Fed Monetary Stimulus hellipQE1 QE2 and Current ldquoOperation Twistrdquo was three fold
bull Improve Large Cap InvestmentPut downward pressure on the 10 year (see chart)through more and more liquitity which provide a more favorable environment for both equity amp corp bond investment
bull Improve Small Business Hurdle points for new growth investments Lower yield curve rates provide lower cost of capital for new business investment
bull Housing Support a faltering housing market and thus keep mortgage interest rates low
bull Results Equity markets have responded with high volitility up 5-6 first half down 7-8 second half
bull Small Business demand for new capital is still
lacking given all the uncertainty and while mortgage rates are low-(35-4) housing starts and prices are still decreasing and threaten a housing double dip
10 Year Bond Rate
Effect on the yield curve of QE1QE2 Operation Twist
30 Year Bond RateEffect of Operation Twist has flattened the term structure of interest rates yield curve to historical levels between the 10 and 30 year bond to 100 basis points
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic Summarybull The current anemic recovery is best
understood when evaluated relative to previous recessions and is perfectly en-capsulated in the chart to the right which compares this recovery to every recessionary recovery post WW2 The main message in this graphic re-emphasizes not just the severity of the down turn but the persistence of the problem and while there is a recovery it is anemic in both duration and magnitude compared to other recoveries since WW2
bull The second chart is even more revealing comparing this recovery with the 19 post WW2 recoveries segmented into three categories Mildest median and Harshesthellipreflecting this recovery significantly worse than the harshest
bull It is correct to observe some improvement as we have through Jan of this year It is just as important to put that improvement into context with other recessions and to conclude the comparative differences are significant to the point that this could be appropriately summarized as a jobless and growth less recovery The average recovery would reflect a $4000 higher per capita GDP and a 5-6 unemployment rate
By Far the worst recovery of 19 post WW2 Recessions
Compare the Median of all recoveries to the currenthellipThe slope of the median is Positive the current slope is negative
Economic SummaryEconomic Summarybull The ultimate consequence of the law of diminishing returns of a huge trillion dollar (including
interest) fiscal stimulus program and targeted cash subsidy programs that provided some short term relief but left unresolved budgetary debt capital flow taxes and regulatory issues that yielded risk and uncertainty impeding capital investment and formation which is the key to improved business growth Thus average GDP growth for 2011 came in under expectations of 3-35 to aprox 17 For 2012 according to the CBO less than 2 GDP and unemployment at 89
bull The increased business risk defined above in concert with high productivity yielded significant improvements in the balance sheets of business Cash balances approached 2-25 trillion dollars with The majority of corporate cash utilization currently allocated to MampA stock buy backs and debt refinancing This just continues to re-enforce balance sheets and Mamp A which results in corporate consolidations resulting in fewer jobs and puts more downward pressure on unemployment
bull Further as will be discussed later in selective sectors currently but more significantly in the future there will significant skill gap problems The majority of the layoffs are skilled labor who took early retirement The problem is when expansion does occur and employers are back in the market placehellipthe skills will not be available to meet the skill gap or those that are skilled will not be able to re-locate due to housing issues eg underwater mortgages
Economic SummaryEconomic Summarybull New capital formation and investment by business entities is occuring but the
majority occurs in emerging markets(BRIC) where taxes and regulations are lower and more transparent and thus less of an impediment to capital formation business growth and shareholder wealth
bull Further in addition to lower taxes and less regulation double taxation impedes business from re-patriating there earnings back from foreign investment enterprises to the US for new investment in capital and labor
bull This is why 40-45 of earnings in large Cap multi-nationals come from international investments
bull Elimination of the double taxation on foreign earnings could result in approx 1-15 trillion dollars of new investment in US capital formation and labor growth(new jobs)
bull Sowith microscopic growth of less than 2 and a 83 unemployment rate it is economic incompetence to continue the double taxation on Mult-nationals
ndash You will not realize any new tax revenue because business will continue to keep 1-15 trillion dollars worth of potential capital formation and new jobs overseas rather than in the US
ndash the negative incentive encourages NEW capital formation and growth outside the UShellip
Economic SummaryEconomic SummaryOverviewbull The bottom line is unlike previous recessions that have V shape recoveries at 6-8 this is likely to be a long slow slog of 2- 25- growth thru 2012 and for some time bullEmployment growth while seeing some minor improvement is sluggish at best with an average of 137K per month over the 2011 period While Dec employment came in at 200K and Jan at 243k the employment rate needs to average 250-300k per month to impact the unemployment rate of 83 -85 to levels of 55- 65 normal for a recovery this ldquoLong in the Toothrdquo bullThe Dec number is artificially inflated due to the fact that more than 315000 individuals dropped out of the labor force totally The Bureau of labor and statistics does not measure these people so the real Unemployment rate is really 16-20Gallop currently calculated the rate at 192bull This is due to a low participation rate in the labor market These are people who have run out of unemployment insurance or who just given up The Bureau of Labor and Statistics DOESNOT count these individuals and they thus are lost in the smoke of the total unemployed
635At this participation Rate the real unemployment rate is 16-20
Economic SummaryEconomic Summarybull Market Volume has been light for a prolonged period of time indicating that
the retail investor has been sitting on the side line for a lot of the same reasons business is not spending Uncertainty risk aversion and fear has driven any significant in flows of investment away from equities to treasuries commodities and the bond market 2008 is still strong memory to the average retail trader The result is the market is more volatile driven by the professional trader amp computer generated trading strategies
bull In total the economy is at stall speed and significant improvement is not expected untill things change politically Right now existing policies are not conducive to growth due to uncertainty on taxes regulations healthcare and Demand Personal Consumption Expenditures (PCE) was -1 in Dec which was a huge disappointment given holiday expectations
bull For the foreseeable future businesses are keeping inventories and employment tight due to uncertaintyhellipThe uncertainty of the Euopean fiscal crisis Policy and regulation out of Washington to include healthcare the bond market demand and supply issues
Economic SummaryEconomic Summarybull So the question is Where are the ldquoAnimal Spirits rdquo that fuel the economic
engine Entrapanuear new starts IPOrsquos and small business growthhellipThe answer ishellipdue to the above there is a large amount of risk aversion and the Risk OFF business strategy is in place
bull Further QE-2 has ended which means the money stimulus has ended but the Fed has substituted QE2 for Operation Twist to improve the Risk on trade for investors and the banking community More about that under Fed
bull Corp earnings were up in the 4th Qtr but not as much as in 2010 Never the less the SampP valuations came in at around 12-13 times earnings (Versus an average of 15-17 times ) making equities in any analysis the investment of choice vs cash or fixed income
bull Thus markets are undervalued for 2012 and in addition with taxes due to rise significantly in 2013 will likely act as a positive stimulus for higher valuations at least through the first 6 months of the year Further fear of higher taxes in 2013 will cause some investors to move Investment decisions forward to 2012
Economic SummaryEconomic SummaryOverviewbull The bond market is projecting sluggish economic
growth 4 th Qtr GDP was 28 but the avg GDP growth for the year was 17 The CBO is projecting growth for 2012 in the 2-25 range significantly below what is necessary to grow employment
bull The objective of Fed Monetary Stimulus hellipQE1 QE2 and Current ldquoOperation Twistrdquo was three fold
bull Improve Large Cap InvestmentPut downward pressure on the 10 year (see chart)through more and more liquitity which provide a more favorable environment for both equity amp corp bond investment
bull Improve Small Business Hurdle points for new growth investments Lower yield curve rates provide lower cost of capital for new business investment
bull Housing Support a faltering housing market and thus keep mortgage interest rates low
bull Results Equity markets have responded with high volitility up 5-6 first half down 7-8 second half
bull Small Business demand for new capital is still
lacking given all the uncertainty and while mortgage rates are low-(35-4) housing starts and prices are still decreasing and threaten a housing double dip
10 Year Bond Rate
Effect on the yield curve of QE1QE2 Operation Twist
30 Year Bond RateEffect of Operation Twist has flattened the term structure of interest rates yield curve to historical levels between the 10 and 30 year bond to 100 basis points
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic Summarybull The ultimate consequence of the law of diminishing returns of a huge trillion dollar (including
interest) fiscal stimulus program and targeted cash subsidy programs that provided some short term relief but left unresolved budgetary debt capital flow taxes and regulatory issues that yielded risk and uncertainty impeding capital investment and formation which is the key to improved business growth Thus average GDP growth for 2011 came in under expectations of 3-35 to aprox 17 For 2012 according to the CBO less than 2 GDP and unemployment at 89
bull The increased business risk defined above in concert with high productivity yielded significant improvements in the balance sheets of business Cash balances approached 2-25 trillion dollars with The majority of corporate cash utilization currently allocated to MampA stock buy backs and debt refinancing This just continues to re-enforce balance sheets and Mamp A which results in corporate consolidations resulting in fewer jobs and puts more downward pressure on unemployment
bull Further as will be discussed later in selective sectors currently but more significantly in the future there will significant skill gap problems The majority of the layoffs are skilled labor who took early retirement The problem is when expansion does occur and employers are back in the market placehellipthe skills will not be available to meet the skill gap or those that are skilled will not be able to re-locate due to housing issues eg underwater mortgages
Economic SummaryEconomic Summarybull New capital formation and investment by business entities is occuring but the
majority occurs in emerging markets(BRIC) where taxes and regulations are lower and more transparent and thus less of an impediment to capital formation business growth and shareholder wealth
bull Further in addition to lower taxes and less regulation double taxation impedes business from re-patriating there earnings back from foreign investment enterprises to the US for new investment in capital and labor
bull This is why 40-45 of earnings in large Cap multi-nationals come from international investments
bull Elimination of the double taxation on foreign earnings could result in approx 1-15 trillion dollars of new investment in US capital formation and labor growth(new jobs)
bull Sowith microscopic growth of less than 2 and a 83 unemployment rate it is economic incompetence to continue the double taxation on Mult-nationals
ndash You will not realize any new tax revenue because business will continue to keep 1-15 trillion dollars worth of potential capital formation and new jobs overseas rather than in the US
ndash the negative incentive encourages NEW capital formation and growth outside the UShellip
Economic SummaryEconomic SummaryOverviewbull The bottom line is unlike previous recessions that have V shape recoveries at 6-8 this is likely to be a long slow slog of 2- 25- growth thru 2012 and for some time bullEmployment growth while seeing some minor improvement is sluggish at best with an average of 137K per month over the 2011 period While Dec employment came in at 200K and Jan at 243k the employment rate needs to average 250-300k per month to impact the unemployment rate of 83 -85 to levels of 55- 65 normal for a recovery this ldquoLong in the Toothrdquo bullThe Dec number is artificially inflated due to the fact that more than 315000 individuals dropped out of the labor force totally The Bureau of labor and statistics does not measure these people so the real Unemployment rate is really 16-20Gallop currently calculated the rate at 192bull This is due to a low participation rate in the labor market These are people who have run out of unemployment insurance or who just given up The Bureau of Labor and Statistics DOESNOT count these individuals and they thus are lost in the smoke of the total unemployed
635At this participation Rate the real unemployment rate is 16-20
Economic SummaryEconomic Summarybull Market Volume has been light for a prolonged period of time indicating that
the retail investor has been sitting on the side line for a lot of the same reasons business is not spending Uncertainty risk aversion and fear has driven any significant in flows of investment away from equities to treasuries commodities and the bond market 2008 is still strong memory to the average retail trader The result is the market is more volatile driven by the professional trader amp computer generated trading strategies
bull In total the economy is at stall speed and significant improvement is not expected untill things change politically Right now existing policies are not conducive to growth due to uncertainty on taxes regulations healthcare and Demand Personal Consumption Expenditures (PCE) was -1 in Dec which was a huge disappointment given holiday expectations
bull For the foreseeable future businesses are keeping inventories and employment tight due to uncertaintyhellipThe uncertainty of the Euopean fiscal crisis Policy and regulation out of Washington to include healthcare the bond market demand and supply issues
Economic SummaryEconomic Summarybull So the question is Where are the ldquoAnimal Spirits rdquo that fuel the economic
engine Entrapanuear new starts IPOrsquos and small business growthhellipThe answer ishellipdue to the above there is a large amount of risk aversion and the Risk OFF business strategy is in place
bull Further QE-2 has ended which means the money stimulus has ended but the Fed has substituted QE2 for Operation Twist to improve the Risk on trade for investors and the banking community More about that under Fed
bull Corp earnings were up in the 4th Qtr but not as much as in 2010 Never the less the SampP valuations came in at around 12-13 times earnings (Versus an average of 15-17 times ) making equities in any analysis the investment of choice vs cash or fixed income
bull Thus markets are undervalued for 2012 and in addition with taxes due to rise significantly in 2013 will likely act as a positive stimulus for higher valuations at least through the first 6 months of the year Further fear of higher taxes in 2013 will cause some investors to move Investment decisions forward to 2012
Economic SummaryEconomic SummaryOverviewbull The bond market is projecting sluggish economic
growth 4 th Qtr GDP was 28 but the avg GDP growth for the year was 17 The CBO is projecting growth for 2012 in the 2-25 range significantly below what is necessary to grow employment
bull The objective of Fed Monetary Stimulus hellipQE1 QE2 and Current ldquoOperation Twistrdquo was three fold
bull Improve Large Cap InvestmentPut downward pressure on the 10 year (see chart)through more and more liquitity which provide a more favorable environment for both equity amp corp bond investment
bull Improve Small Business Hurdle points for new growth investments Lower yield curve rates provide lower cost of capital for new business investment
bull Housing Support a faltering housing market and thus keep mortgage interest rates low
bull Results Equity markets have responded with high volitility up 5-6 first half down 7-8 second half
bull Small Business demand for new capital is still
lacking given all the uncertainty and while mortgage rates are low-(35-4) housing starts and prices are still decreasing and threaten a housing double dip
10 Year Bond Rate
Effect on the yield curve of QE1QE2 Operation Twist
30 Year Bond RateEffect of Operation Twist has flattened the term structure of interest rates yield curve to historical levels between the 10 and 30 year bond to 100 basis points
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic Summarybull New capital formation and investment by business entities is occuring but the
majority occurs in emerging markets(BRIC) where taxes and regulations are lower and more transparent and thus less of an impediment to capital formation business growth and shareholder wealth
bull Further in addition to lower taxes and less regulation double taxation impedes business from re-patriating there earnings back from foreign investment enterprises to the US for new investment in capital and labor
bull This is why 40-45 of earnings in large Cap multi-nationals come from international investments
bull Elimination of the double taxation on foreign earnings could result in approx 1-15 trillion dollars of new investment in US capital formation and labor growth(new jobs)
bull Sowith microscopic growth of less than 2 and a 83 unemployment rate it is economic incompetence to continue the double taxation on Mult-nationals
ndash You will not realize any new tax revenue because business will continue to keep 1-15 trillion dollars worth of potential capital formation and new jobs overseas rather than in the US
ndash the negative incentive encourages NEW capital formation and growth outside the UShellip
Economic SummaryEconomic SummaryOverviewbull The bottom line is unlike previous recessions that have V shape recoveries at 6-8 this is likely to be a long slow slog of 2- 25- growth thru 2012 and for some time bullEmployment growth while seeing some minor improvement is sluggish at best with an average of 137K per month over the 2011 period While Dec employment came in at 200K and Jan at 243k the employment rate needs to average 250-300k per month to impact the unemployment rate of 83 -85 to levels of 55- 65 normal for a recovery this ldquoLong in the Toothrdquo bullThe Dec number is artificially inflated due to the fact that more than 315000 individuals dropped out of the labor force totally The Bureau of labor and statistics does not measure these people so the real Unemployment rate is really 16-20Gallop currently calculated the rate at 192bull This is due to a low participation rate in the labor market These are people who have run out of unemployment insurance or who just given up The Bureau of Labor and Statistics DOESNOT count these individuals and they thus are lost in the smoke of the total unemployed
635At this participation Rate the real unemployment rate is 16-20
Economic SummaryEconomic Summarybull Market Volume has been light for a prolonged period of time indicating that
the retail investor has been sitting on the side line for a lot of the same reasons business is not spending Uncertainty risk aversion and fear has driven any significant in flows of investment away from equities to treasuries commodities and the bond market 2008 is still strong memory to the average retail trader The result is the market is more volatile driven by the professional trader amp computer generated trading strategies
bull In total the economy is at stall speed and significant improvement is not expected untill things change politically Right now existing policies are not conducive to growth due to uncertainty on taxes regulations healthcare and Demand Personal Consumption Expenditures (PCE) was -1 in Dec which was a huge disappointment given holiday expectations
bull For the foreseeable future businesses are keeping inventories and employment tight due to uncertaintyhellipThe uncertainty of the Euopean fiscal crisis Policy and regulation out of Washington to include healthcare the bond market demand and supply issues
Economic SummaryEconomic Summarybull So the question is Where are the ldquoAnimal Spirits rdquo that fuel the economic
engine Entrapanuear new starts IPOrsquos and small business growthhellipThe answer ishellipdue to the above there is a large amount of risk aversion and the Risk OFF business strategy is in place
bull Further QE-2 has ended which means the money stimulus has ended but the Fed has substituted QE2 for Operation Twist to improve the Risk on trade for investors and the banking community More about that under Fed
bull Corp earnings were up in the 4th Qtr but not as much as in 2010 Never the less the SampP valuations came in at around 12-13 times earnings (Versus an average of 15-17 times ) making equities in any analysis the investment of choice vs cash or fixed income
bull Thus markets are undervalued for 2012 and in addition with taxes due to rise significantly in 2013 will likely act as a positive stimulus for higher valuations at least through the first 6 months of the year Further fear of higher taxes in 2013 will cause some investors to move Investment decisions forward to 2012
Economic SummaryEconomic SummaryOverviewbull The bond market is projecting sluggish economic
growth 4 th Qtr GDP was 28 but the avg GDP growth for the year was 17 The CBO is projecting growth for 2012 in the 2-25 range significantly below what is necessary to grow employment
bull The objective of Fed Monetary Stimulus hellipQE1 QE2 and Current ldquoOperation Twistrdquo was three fold
bull Improve Large Cap InvestmentPut downward pressure on the 10 year (see chart)through more and more liquitity which provide a more favorable environment for both equity amp corp bond investment
bull Improve Small Business Hurdle points for new growth investments Lower yield curve rates provide lower cost of capital for new business investment
bull Housing Support a faltering housing market and thus keep mortgage interest rates low
bull Results Equity markets have responded with high volitility up 5-6 first half down 7-8 second half
bull Small Business demand for new capital is still
lacking given all the uncertainty and while mortgage rates are low-(35-4) housing starts and prices are still decreasing and threaten a housing double dip
10 Year Bond Rate
Effect on the yield curve of QE1QE2 Operation Twist
30 Year Bond RateEffect of Operation Twist has flattened the term structure of interest rates yield curve to historical levels between the 10 and 30 year bond to 100 basis points
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic SummaryOverviewbull The bottom line is unlike previous recessions that have V shape recoveries at 6-8 this is likely to be a long slow slog of 2- 25- growth thru 2012 and for some time bullEmployment growth while seeing some minor improvement is sluggish at best with an average of 137K per month over the 2011 period While Dec employment came in at 200K and Jan at 243k the employment rate needs to average 250-300k per month to impact the unemployment rate of 83 -85 to levels of 55- 65 normal for a recovery this ldquoLong in the Toothrdquo bullThe Dec number is artificially inflated due to the fact that more than 315000 individuals dropped out of the labor force totally The Bureau of labor and statistics does not measure these people so the real Unemployment rate is really 16-20Gallop currently calculated the rate at 192bull This is due to a low participation rate in the labor market These are people who have run out of unemployment insurance or who just given up The Bureau of Labor and Statistics DOESNOT count these individuals and they thus are lost in the smoke of the total unemployed
635At this participation Rate the real unemployment rate is 16-20
Economic SummaryEconomic Summarybull Market Volume has been light for a prolonged period of time indicating that
the retail investor has been sitting on the side line for a lot of the same reasons business is not spending Uncertainty risk aversion and fear has driven any significant in flows of investment away from equities to treasuries commodities and the bond market 2008 is still strong memory to the average retail trader The result is the market is more volatile driven by the professional trader amp computer generated trading strategies
bull In total the economy is at stall speed and significant improvement is not expected untill things change politically Right now existing policies are not conducive to growth due to uncertainty on taxes regulations healthcare and Demand Personal Consumption Expenditures (PCE) was -1 in Dec which was a huge disappointment given holiday expectations
bull For the foreseeable future businesses are keeping inventories and employment tight due to uncertaintyhellipThe uncertainty of the Euopean fiscal crisis Policy and regulation out of Washington to include healthcare the bond market demand and supply issues
Economic SummaryEconomic Summarybull So the question is Where are the ldquoAnimal Spirits rdquo that fuel the economic
engine Entrapanuear new starts IPOrsquos and small business growthhellipThe answer ishellipdue to the above there is a large amount of risk aversion and the Risk OFF business strategy is in place
bull Further QE-2 has ended which means the money stimulus has ended but the Fed has substituted QE2 for Operation Twist to improve the Risk on trade for investors and the banking community More about that under Fed
bull Corp earnings were up in the 4th Qtr but not as much as in 2010 Never the less the SampP valuations came in at around 12-13 times earnings (Versus an average of 15-17 times ) making equities in any analysis the investment of choice vs cash or fixed income
bull Thus markets are undervalued for 2012 and in addition with taxes due to rise significantly in 2013 will likely act as a positive stimulus for higher valuations at least through the first 6 months of the year Further fear of higher taxes in 2013 will cause some investors to move Investment decisions forward to 2012
Economic SummaryEconomic SummaryOverviewbull The bond market is projecting sluggish economic
growth 4 th Qtr GDP was 28 but the avg GDP growth for the year was 17 The CBO is projecting growth for 2012 in the 2-25 range significantly below what is necessary to grow employment
bull The objective of Fed Monetary Stimulus hellipQE1 QE2 and Current ldquoOperation Twistrdquo was three fold
bull Improve Large Cap InvestmentPut downward pressure on the 10 year (see chart)through more and more liquitity which provide a more favorable environment for both equity amp corp bond investment
bull Improve Small Business Hurdle points for new growth investments Lower yield curve rates provide lower cost of capital for new business investment
bull Housing Support a faltering housing market and thus keep mortgage interest rates low
bull Results Equity markets have responded with high volitility up 5-6 first half down 7-8 second half
bull Small Business demand for new capital is still
lacking given all the uncertainty and while mortgage rates are low-(35-4) housing starts and prices are still decreasing and threaten a housing double dip
10 Year Bond Rate
Effect on the yield curve of QE1QE2 Operation Twist
30 Year Bond RateEffect of Operation Twist has flattened the term structure of interest rates yield curve to historical levels between the 10 and 30 year bond to 100 basis points
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic Summarybull Market Volume has been light for a prolonged period of time indicating that
the retail investor has been sitting on the side line for a lot of the same reasons business is not spending Uncertainty risk aversion and fear has driven any significant in flows of investment away from equities to treasuries commodities and the bond market 2008 is still strong memory to the average retail trader The result is the market is more volatile driven by the professional trader amp computer generated trading strategies
bull In total the economy is at stall speed and significant improvement is not expected untill things change politically Right now existing policies are not conducive to growth due to uncertainty on taxes regulations healthcare and Demand Personal Consumption Expenditures (PCE) was -1 in Dec which was a huge disappointment given holiday expectations
bull For the foreseeable future businesses are keeping inventories and employment tight due to uncertaintyhellipThe uncertainty of the Euopean fiscal crisis Policy and regulation out of Washington to include healthcare the bond market demand and supply issues
Economic SummaryEconomic Summarybull So the question is Where are the ldquoAnimal Spirits rdquo that fuel the economic
engine Entrapanuear new starts IPOrsquos and small business growthhellipThe answer ishellipdue to the above there is a large amount of risk aversion and the Risk OFF business strategy is in place
bull Further QE-2 has ended which means the money stimulus has ended but the Fed has substituted QE2 for Operation Twist to improve the Risk on trade for investors and the banking community More about that under Fed
bull Corp earnings were up in the 4th Qtr but not as much as in 2010 Never the less the SampP valuations came in at around 12-13 times earnings (Versus an average of 15-17 times ) making equities in any analysis the investment of choice vs cash or fixed income
bull Thus markets are undervalued for 2012 and in addition with taxes due to rise significantly in 2013 will likely act as a positive stimulus for higher valuations at least through the first 6 months of the year Further fear of higher taxes in 2013 will cause some investors to move Investment decisions forward to 2012
Economic SummaryEconomic SummaryOverviewbull The bond market is projecting sluggish economic
growth 4 th Qtr GDP was 28 but the avg GDP growth for the year was 17 The CBO is projecting growth for 2012 in the 2-25 range significantly below what is necessary to grow employment
bull The objective of Fed Monetary Stimulus hellipQE1 QE2 and Current ldquoOperation Twistrdquo was three fold
bull Improve Large Cap InvestmentPut downward pressure on the 10 year (see chart)through more and more liquitity which provide a more favorable environment for both equity amp corp bond investment
bull Improve Small Business Hurdle points for new growth investments Lower yield curve rates provide lower cost of capital for new business investment
bull Housing Support a faltering housing market and thus keep mortgage interest rates low
bull Results Equity markets have responded with high volitility up 5-6 first half down 7-8 second half
bull Small Business demand for new capital is still
lacking given all the uncertainty and while mortgage rates are low-(35-4) housing starts and prices are still decreasing and threaten a housing double dip
10 Year Bond Rate
Effect on the yield curve of QE1QE2 Operation Twist
30 Year Bond RateEffect of Operation Twist has flattened the term structure of interest rates yield curve to historical levels between the 10 and 30 year bond to 100 basis points
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic Summarybull So the question is Where are the ldquoAnimal Spirits rdquo that fuel the economic
engine Entrapanuear new starts IPOrsquos and small business growthhellipThe answer ishellipdue to the above there is a large amount of risk aversion and the Risk OFF business strategy is in place
bull Further QE-2 has ended which means the money stimulus has ended but the Fed has substituted QE2 for Operation Twist to improve the Risk on trade for investors and the banking community More about that under Fed
bull Corp earnings were up in the 4th Qtr but not as much as in 2010 Never the less the SampP valuations came in at around 12-13 times earnings (Versus an average of 15-17 times ) making equities in any analysis the investment of choice vs cash or fixed income
bull Thus markets are undervalued for 2012 and in addition with taxes due to rise significantly in 2013 will likely act as a positive stimulus for higher valuations at least through the first 6 months of the year Further fear of higher taxes in 2013 will cause some investors to move Investment decisions forward to 2012
Economic SummaryEconomic SummaryOverviewbull The bond market is projecting sluggish economic
growth 4 th Qtr GDP was 28 but the avg GDP growth for the year was 17 The CBO is projecting growth for 2012 in the 2-25 range significantly below what is necessary to grow employment
bull The objective of Fed Monetary Stimulus hellipQE1 QE2 and Current ldquoOperation Twistrdquo was three fold
bull Improve Large Cap InvestmentPut downward pressure on the 10 year (see chart)through more and more liquitity which provide a more favorable environment for both equity amp corp bond investment
bull Improve Small Business Hurdle points for new growth investments Lower yield curve rates provide lower cost of capital for new business investment
bull Housing Support a faltering housing market and thus keep mortgage interest rates low
bull Results Equity markets have responded with high volitility up 5-6 first half down 7-8 second half
bull Small Business demand for new capital is still
lacking given all the uncertainty and while mortgage rates are low-(35-4) housing starts and prices are still decreasing and threaten a housing double dip
10 Year Bond Rate
Effect on the yield curve of QE1QE2 Operation Twist
30 Year Bond RateEffect of Operation Twist has flattened the term structure of interest rates yield curve to historical levels between the 10 and 30 year bond to 100 basis points
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic SummaryOverviewbull The bond market is projecting sluggish economic
growth 4 th Qtr GDP was 28 but the avg GDP growth for the year was 17 The CBO is projecting growth for 2012 in the 2-25 range significantly below what is necessary to grow employment
bull The objective of Fed Monetary Stimulus hellipQE1 QE2 and Current ldquoOperation Twistrdquo was three fold
bull Improve Large Cap InvestmentPut downward pressure on the 10 year (see chart)through more and more liquitity which provide a more favorable environment for both equity amp corp bond investment
bull Improve Small Business Hurdle points for new growth investments Lower yield curve rates provide lower cost of capital for new business investment
bull Housing Support a faltering housing market and thus keep mortgage interest rates low
bull Results Equity markets have responded with high volitility up 5-6 first half down 7-8 second half
bull Small Business demand for new capital is still
lacking given all the uncertainty and while mortgage rates are low-(35-4) housing starts and prices are still decreasing and threaten a housing double dip
10 Year Bond Rate
Effect on the yield curve of QE1QE2 Operation Twist
30 Year Bond RateEffect of Operation Twist has flattened the term structure of interest rates yield curve to historical levels between the 10 and 30 year bond to 100 basis points
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic Summarybull Euro Contagion Fear of Debt and deficit problems in Europe is
enhanced by the tendency of the EU to continually wait till the zero hour before solutions are implemented The problem is the EU is like the FED in that it can provide the liquityhellipwhich it has hellipsome 500 billion euros(although the requirement is for close to 2 trillion Euros) to provide the liquitity in addition to cutting Interest rates(sound vaguely familiar)
bull However it has no authority over members to manage sovereign fiscal issues(budgets deficits) or dictate to banks to buy country sovereign debt to recapitalize the health of countries like Greece Spain Italy etc In other words to get the Toxic assets OFF the books
bull To accomplish this requires sacrifices by Germany and significant haircuts(40-60) by investors It will eventually happendespite the pain because the fiscal viability of Europe is at stake Bottom linehellipDespite the negatives abovehellip
bull The combination of all this does not yield a great deal of optimism on the small business new and growth front for 2012
bull Bottom linehelliphellip it is the ldquoFear Factorrdquo rather than the actual economic impact to the US that will drive impacts to the markets and general economics
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Economic SummaryEconomic SummaryOverviewbull The equity markets were down -28
over the 4th QTR 2010
bull 1st and 2nd Qtr were up nicely but matches history which basically reflects a sell in May and go away philosophy
bull Year to year results have been trending down with uncharacteristic volatility
bull This high volatility is driven by the end of QE-2 the uncertainty around the impact of ldquoOperation Twistrdquo and the uncertainty around the Euro Fiscal crisis in Greece Portugal Spain and Italy
DJ Total Stock Mrk
DJ Total Stock Market DJ Total Stock Market
I Year -28Growth
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
bull Additional risk has been added due to a greater than 100 DebtGDP Ratio due to low growth and a debt that has increased by 5 trillion dollars over 35 years As a bench mark Bush spent 5 trillion dollars over 8 years
bull Note this risk is reflected in the volitility chart to right
ndash from Dec to June CBOE goes down indicating more investors perceive less risk and thus are buying(Buying calls) into growth early in the year to June(see 1 in chart )
ndash After June the uncertainty discussed above finds investors perceiving more risk thus selling and shorting the market (buying PUTS)reflecting lower market thru NOV hellipSentiment changed thru the end of the year but the market could not make it up and ended up as a year end loss of -28
bull However the effect of QE-2 and Operation Twist resulting in 10 year note rates at around or below 2 still make equities the investment alternative of choice with a 2 -3 dividend floor and a 4-5 growth risk premium
bull Some additional Comments
CBOE Volitility1-Volitility downhellipless perceived risk positive influence on market thru JuneJuly-
2-Volitility uphellipmore perceived risk NEGATIVE influence on market thru Nov Positive from Nov to Dec yielding positive market results
Market
Market
Economic SummaryEconomic Summary
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Fed PolicyFed Policy bull Monetary policyrdquoThe Back Droprdquo
ndash 1 ST and 2 nd Qtr 2011hellipIn response to a faltering economy and an economic recovery that to date is going in the wrong direction the Fed has implemented a new phase of quantitative easing (QE2) This translates into 600 billion dollars of monetary infusion into the monetary base thru purchase of treasuries and Mortgage backed securities The objective as mentioned in the summary was to put downward pressure on the 10 year bond rate to
bull Help a ldquodouble diprdquo prone housing market with lower mortgage rates bull put downward pressure on the dollar relative to other currencies to improve exports
and infuse some inflation bull Keep the cost of available capital low to Encourage borrowing and improve
incentives for more financial leverage and thus more velocity of moneybull Keep the comparatives between the bond market and equities favorable to equities
and corp Bonds by lowering the risk premium in favor of incentives to overweight stocks and underweight fixed income
ndash QE-2 other than providing additional liquity did not result in a significant infusion of risk cap into the economy As stated last quarter this continued pump priming is sort of the last bullet in the chamber strategy due to the failure of questionable fiscal policy initiated from the current administration over the past two years
Fed Policy Fed Policy
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
bull Monetary policy- ldquo The Future Prospectiverdquo
bull The real problem is still the velocity of money which comes from lending borrowing and investment which despite a minor up tick in the first QTR of 50 billion dollars is all but invisible Banks have much stiffer regulatory and capital requirements not with standing the number of foreclosures short sales and suspect commercial loans sitting on there balance sheets
bull Bottom line there is no incentive for banks to make loan With a 19-3 fed funds rate for 10-30 year bonds whatrsquos the incentive to loan when banks can ldquocarry traderdquo the yield curvehellipborrow at zero and than turnover the money and buy 57 10 years treasuries and earn 150 to 300 basis points with ZERO riskhelliphellipEven bankers can make money doing that
bull HoweverhelliphellipBottom line QE1 and QE 2 have not provided the needed result so
ndash As mentioned The Fed has implemented ldquoOperation Twistrdquo (QE-3) to flatten the yield curve to dis-incentivize the carry tradehelliphellipBUT
ndash There is no particular incentive on the demand side(demand for loanable funds by business) because of regulations taxes and product demand
ndash The supply side (loan availability ) by banks due to more restrictive capital requirements as a result of all the toxic assets on the balance sheet
Fed Policy Fed Policy
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Fed PolicyFed Policy bull Monetary policy- ldquo The Future Prospectiverdquo(con)
ndash So when QE-2 expired and the economy continued to flounder The Fed brought on operation Twist
ndash As mentioned previously the objective to Operation Twist was to flatten the yield curve by selling 30 year notes and buying mortgage securities
ndash The purpose here was to tighten the spread between the 2 year and lower maturity treasuries and the 30 year to minimize the carry trade which banks were using to fatten there balance sheets at zero risk rather than make loans Further flatting the yield curve would put additional downward pressure on 30 year mortgage rates thus a help to the sinking housing market Finally the flatten yield curve improves the risk premium to invest in capital both stock and new venture rather than fixed investments
ndash Howeverhellipperspective is important herehellip Outside of improvement in global demand through higher exports this addresses primarily the SUPPLY side of the equation This isnrsquot totally a supply issue hellipthe fed has 2 trillion dollars on its balance sheet(m2)
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Dollar IndexDollar Indexbull Monetary policy- The Impact
bull So we will see if Operation Twist works Right now all the Fed policy has done is encourage the incest of the carry trade and devalue the dollar There is no significant increase in the velocity of money which is the key to growth Now it does impact business investment prospectives to be discussed below
bull Finally The extended low FED funds rate exacerbated by high level of monetary stimulus has had an impact of inflation The core CPI rose 22 in 2011 slightly higher than the FEDs hurdle rate of 2 with the total CPI including food and energy 32 for 2011 portending inflation Leading indicators such as commodity prices are up and the dollar is down indicating inflation is on the horizon
Fed Policy Fed Policy
Inflation3
As Fed increases money supply Dollar is devalued AND
Inflation expectations increase
Fed Policy Fed Policy
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Business InvestmentBusiness Investmentbull Velocity of Money
ndash The velocity of capital measures the degree to which increased financial leverage increases the flow of money from those who demand it (business) to those who supply it (banks as suppliers and intermediation vehicles private equity)
ndash As discussed above (see 1 above) the problem is on both sides of demand and supply side of loanable funds
ndash On the demand side businesses still face ldquopolitical and financial uncertaintyrdquo Despite the Nov elections there is still a ldquohangoverrdquo from Fin Reg and the healthcare bill that have a significant potential impact on an uncertain future revenue base So despite the lower 10 year which is a proxy cost of capital for business new investment capital budgeting you should see significant more capital investment in new projects that now show much better cash flow prove ins But againhelliponce you get past the cash flow modelshellipyou still have to deal with the uncertainty of the political and business environment And right now the uncertainty sentiment is high
Fed increases money supply but Demand for money thru loanable funds as measured thru Velocity of money is not there
Business InvestmentBusiness Investment
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Business InvestmentBusiness Investmentndash On The Supply Side For those who
are optimistic about revenue growth and that number is growing there balance sheets still donrsquot meet new bank criteria which restricts loans to only the best of customers As stated above this is a result of the much higher capital requirements that are imposed on regional and community banks that had nothing to do with the financial crisis but have had a stifling effect on small business growth and thus employment
ndash Additionally as long as the toxic assets are still on bank balance sheets restrictions on capital availability will be high
ndash Bottom linehellipHigh money velocity flows translates in a geometric fashion to capital creation investment employment GDP and thus growth
The Demand for loanable Funds has decreased significantly
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Business InvestmentBusiness Investment
bull Quantitative Easing(QE2) and Future Stimulus(Operation Twist)
ndash We discussed Fed policy in 1 above One advantage to additional quantitative easing is the impact on lowering the yield curve thus the cost of borrowing goes down Lower borrowing costs means a lower cost of capital which means a lot of potential business growth projects that wouldnrsquot look profitable now have higher positive Net Present Value prove inrsquos due to the lower cost of capital So what the Fed is attempting to due here is trying to improve the sentiment for more investment through low borrowing costs and indirectly lower cost of capital for prospective investment
ndash Now that QE-2 has ended and the economic trends are down the Fed is discussing the potential for future stimulus envolving more purchases of Mortgage backed bonds
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Business InvestmentBusiness Investmentbull More Quantitative Easing(rdquoOpeartion Twistrdquo)
ndash There is a financial paradox here As discussed previously the Fed (thru QE2 ) wants to put downward pressure on the 10 year bond rate to keep mortgage rates down and provide incentives for investors to invest in equity alternatives rather than fixed income Thatrsquos finehellipputting the inflation issue aside for a momenthellipthe problem is the lower 10 year does not provide a sufficient risk premium for banks to lendhellipthat is to say there is no disincentive to continue to ldquocarry trade ldquo the yield curve
ndash Further there has to be more Demand for Money by small business either through expansions IPOrsquos or new start ups As stated previously this growth has been dampened by higher cost of capital through govt regulations and higher taxes
ndash Given small business contributes 45-50 of GDP and 65-75 of new employment this is obviously the critical success factor to future growth
ndash With low demand low growth and currency devaluation ldquothe falling Kniferdquo is inflation hellipand worse stagflationwhere inflation is higher than GDP growth
ndash The problem is hellipthe ldquofalling kniferdquo has 2 edgeshellipThe other edge is slow to non-existent and a possible double dip With the unemployment rate at 83 and GDP expected to be 18- 2 for 2012 that becomes a potential issue
ndash Since 1948 whenever there has been a rolling 12 month GDP growth rate below 2 another recession has followed within 1 -2 QTRS The current 12 month moving average is 23
ndash That obviously is the worst possible alternative and why the FED is has implemented Operation Twist
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Business InvestmentBusiness Investment
Capital Investment bull After 2008 With no demand and helped by historically low interest rates businesses rebuilt there balance sheets through turnover and refinancing there embedded debt to cut there carrying costs
bull This in conjunction with massive layoffs of human capital resulted in 17-2 trillion dollars of cash sitting on business balance sheets That cash here to fore has not been invested due to low demand and as stated previously the sentiment of ldquoUncertaintyrdquo as it applies to taxes fin regulation Heath care Cap and Tax
bull Small business in addition to the same uncertainties of bad public policy (Taxes healthcare etc) are further denied the availability of capital due to onerous financial regulation that limits capital availability
bull Large Businesses have increased capital investment in three areas
6
Industrial Production turned up in Jan but long term trend is still flat to down
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Business InvestmentBusiness Investment
bull Capital Investment (con) ndash Technology Utilized investment to substitute
capital for labor (will be discussed in the unemployment section) to improve margins
ndash Moves and Acquisitions (MampA)- To put the large amounts of cash to work large businesses have been acquiring small and Mid cap companies that are undervalued or with troubled balance sheets to compliment there business objectives The problem here is the acquisitions which generally are complimentary business functions usually result in consolidationhellipresulting in less total employment
ndash Manufacturing- The PMI(purchasing Managers Index) for Dec was 553 indicating expansion By itself that is not a bad number The problem it reflects a significant change in trend from 4th QTR 2010 of above 60See chart
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Other Economic IndicatorsOther Economic Indicators Retail Sales
Retail sales were flat0 in Decfrom the previous month a big disappointment give all the discounts given by retailers to stimulate sales
Uphellip6-62 over Dec 2010
As reflected in the charts the current numbers are only marginally above 20089 levels in Retail spending averaging aprox 35-37yr
0 Dec over Nov 62 annual
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
bull Personal consumption expenditures for Dec decreased $2 billion in Dec or - 1
bull The key is the downward trend from 4th QTR 2010
bull Consumer Confidence was 6115 up from the 4th quarter 2010 of 606 overall reflecting a trading range of 55-61 with no significant consistent breakout
bull The key to these two series in 2012 is a return to more volitility that we saw in 20082009 until there is more certainty about political realities which will have significant impact on Fiscal and monetary policy
bull This combination of these two indicators suggest an average that is flat around 55 but more uncertain about the future
Consumer Spending
Other Economic IndicatorsOther Economic Indicators
-1 in Dec
611 Jan
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Other Economic IndicatorsOther Economic Indicators bull
GDP ndash We need a 3 -35 growth rate to just stay
even in unemployment(200-250k jobs a month) and 6-8(250-350 k jobs per month) to make any significant gains at allhellip(Real gains not artificial gains due to low participation rates)
ndash The GDP growth has been down from 37 in the 1st qtr 29 in the 4th qtr 2010 to 19 1st QTR 2011 to 28 4th QTR 2011 Growth was progressive for 2011 but the trend growth (see chart) is still down
ndash Thus for all the reasonrsquos stated above there is not sufficient growth consumption and investment necessary to dramatically improve the growth and therefore the employment picture for a number of years
28 4th QTR 17 2011 avg
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate
ndash Non farm payrolls increased 243K in Jan above expectations of 200-220K This resulted in a decrease in the unemployment rate to 83 This reflects a continued increase in monthly employment since Mayreflecting a growth to rates achieved earlier in the year Jan thru April ndash The point is while the 243K is a solid number looking at the chart we have had only 7 months since the beginning of the recession in 2008 that have been 200K or larger We need multiple consecutive months of 250K to 300K employment growth to make any significant inroads to improved employment in this recession ndash The key statistic here is 63 million or aprox 44 of the unemployed have been unemployed for greater than 27 weeks Further the labor participation rate is at continued low levels of 63
83 In Jan
83 In Jan
Only 7 months since the inception of the recession were = to or gt than
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Other Economic IndicatorsOther Economic Indicators bull Unemployment Rate (con)
ndash This is why it is necessary to have months of 250-300K employment because the real unemployment rate is close to 17-20 given that almost 25-3 million people have dropped out of the labor market completely
ndash Note the correlation in the chart As the participation rate goes down the unemployment rate decreaseshellipbecause people who drop out of the labor force are not counted by the Labor Department
ndash NotehellipIf the economics improve that rate of 83 is likely to increase as those workers who dropped out of the work force make there way back in and are counted by the Labor Dept when the economy improves
ndash The unemployment issue has more fundamental complexities than in previous recessions and is not being addressed I will discuss this in the technology analytics section
Note the correlation
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Other Economic IndicatorsOther Economic Indicators bull Housing Market
ndash Interest rates have gone down 25-50 basis points during 2011 with the full impact of QE2 and Operation Twist At less than 35-4 for some 30 year loans the cost of home ownership has never been lower However now that the Fed has done about all it can due thru monetary policy mortgage rates have somewhat stabilized
ndash Absent the fear trade due to Eurpopean contagion Operation Twist will likely maintain a flattened yield curve over the term structure of interest rates Further the Fed has stated that it intends to maintain low interest rates (thru 25 fed funds rate) thru 2014 Most of the positive impact of lower rates has been realized Most who could refinance already did at the end of 2009
ndash However due to increased regulations and capitalization requirements very few individuals except those with the very best credit and income history qualify
ndash The problem continues to be further downward pressure on housing prices Foreclosures continue to increase with 13 to 40 of all mortgages underwater Even if home owners wanted to hold on they either donrsquot qualify for refinancing or canrsquot meet or want to meet the new financing requirements (who wants to put more money down on a home that is underwater) of 20 down
ndash The government has come up with another program that would require banks to refinance underwater loans for customers with current payment records through principal reduction The details are not clear at this time except to say the banks and the investor will have to assume the cost
ndash Bottom line single family residential construction is still flat to down in the 400-500 k rangehellipMultiple unit construction is in the 700-800k range
Single and Multiple family construction Flat to marginal increase
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Other Economic IndicatorsOther Economic Indicatorsbull Housing Market (con)
ndash Existing home sales are slow but improving Currently there is an 6-7 month inventory of stressed properties down from 9-11 month supply in the first half of 2011 with 11 unoccupied Existing Home sales were 46 million units reflecting a 5 increase in December and 36 above the December 2010 rate Avg median prices fell 5 in 2011 over 2010
ndash AdditionallyhellipIn 2011 thru 2013 a lot of 5 and 7 year ARMrsquos that were taken out in 2006 will come due for refinance Again many of these home owners will not be able to meet the new financing requirements which mean more downward pressure on housing prices through defaults foreclosure and short sales
ndash This translates into another 10-15 decrease in housing prices as inventories of foreclosures continues to increase
ndash Over 30 of all transactions are cash and 1 out of 5 first time buyers cannot afford the 20 down payment or meet the income or credit requirements
Existing Home sales reached 46 million units in Dec 2012 with a 6-7 month supply
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Other Economic IndicatorsOther Economic Indicators
bull Housing Market (con)
bull It is hard to see how this economy can make much progress until the housing market turns around Here in lies some of the justification for why most forecasts for growth in 2011 and in 2012 are predicting around 25 - 30
bull That is on the light side of trend line growth(3-35)hellipbut to improve the employment picture the economy needs to grow at least 4-6 a year generating 250-350 k jobs a month in the initial stages of a recovery to make any serious in roads on employment growth and investment in new capital formation
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash The current status in unemployment represents a different taxonomy to the unemployment picture than what we have seen historically ln previous recessions A lot of this can be attributed to the use of technology to maintain or improve margins in a decreasing revenue environment
ndash In the 90rsquos as an out growth of the technology boom there was a movement to improve productivity through the use of technology It was generally referred to as Process Re-Engineering The darling of MBA programs and management consultants alike
ndash The objective was to save 20-35 through substitution of capital for labor through new hardware infrastructure and software applicationshellipat least until management looked at the impact on the organization and power politicshellipthan the objective quickly dropped to hope to get 5-10 with ldquoLow Hanging Fruitrdquo
ndash Fast forward to 2008-2009hellipA recession resulting in massive reductions in the labor forcehellipAll of a sudden all those dusty Power point presorsquos generated on white boards in secluded corner conference rooms of Corp head quarters on process re-engineering were pulled from old file cabinets and re-invigorated
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Employment AnalyticsEmployment Analytics bull Structural Unemployment
ndash ResulthellipCapital investment in technology increases to substitute for the labor component yielding high productivity and profitability
ndash The increased technology utilization has resulted in big margins and profiabiity(15 ndash 2 trillion dollars) on Corp balance sheets tempering the demand for labor
ndash Small business hellipexisting and new starts could help bridge the gap but for all the reasons stated above that is not forthcoming
ndash This structural unemployment issue is complicated important and not even readily identified and discussed as a problem much less solutions offered
ndash This unemployment situation is a lot more complicated than just opening another manufacturing plant or stimulating shovel ready construction jobs
ndash A significant component to solving the unemployment problem is going to have to involve the solution to this problem
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Employment AnalyticsEmployment Analytics bull Structural Unemployment ldquoThe Falling Kniferdquo
ndash Cause As indicated in large businesses the substitution of capital for labor in 2007-2008 made maximium use of technology to increase productivity and efficiency through labor reductions
ndash Effect Everyone talks about the construction trades as the driver be hind unemployment But the big changes in major corporations where a lot of older(gt50) very skilled individuals either retired early forced retirement or were just let go The strategy was that when it was time to re-hire you could move down the age scales and pay less for similar skill setsThe problem not anticpated by the business community was the individuals currently educated today do not have the skill sets or are not prepared with the academic skill sets to meet current job requirements
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Employment AnalyticsEmployment Analytics
3 ndashLong Term Unemployed It has been long recognized that the longer one remains unemployed the rate of skill degradation increases at an increasing rate
4- Skill Set GAPS Set by the trend established in 20072008 with all the implementation of new technology any growth requires more of the same high Tech analytical skill sets Those skill sets are lacking with current graduates reflecting a huge gap in engineering and similar analytical capabilities that provide the critical thinking skills that allow optimum adaptability to an environment that is ever changing The tradition
rsquoI have a college degreetherefore I deserve a good jobrsquo no longer applies
Employment AnalyticsEmployment Analytics
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
bull 5- ldquoThe Falling Knife- Part-1 ldquo Employment vs Skills
- Retired Skill Sets So structural unemployment is where you have on one end of the age spectrum a lot of older technology savy people but who have skills but been out of the workforce to long(gt27 weeks) The result of process re-engineering layoffsearly retirement packages referred to earlier
- Educated Skills vs Demand On the other end an ldquoentitlementrdquo oriented college graduate who doesnrsquot have the analytical skill sets or critical thinking skills to make a contribution to the business mission from day one This is a technology generated global environment demanding skill sets that optimize the achievement of those business goals
- Minimum Education and skills 25-28 of the work force has a college or advanced degree That leaves over 75 of the workforce competing for a diminishing demand for labor and that labor demanded requires specialized skill sets ThushellipThis puts significant pressure on overall employment
Employment AnalyticsEmployment Analytics
Unemployment for those who have college degrees or higher is less than 5
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
bull 6- ldquoThe Falling Knife- Part-2rdquo The Great In-Equality of Wage Gains
bull A lot has been written concerning the stagnation of wages for the low amp middle class over the past 30 years The implication is that benefits have been inappropriately distributed to the ldquoquote un quoterdquo Rich while the middle class and poor have suffered disproportionately A study by the Fed Reserve addresses this with an explanation that supports the comments made in the previous sections and illustrated by the following graphic
bull The blue arrow reflects the gap between those with Degrees and non-degrees Note back in 1982 the differences are virtually insignificant
bull There is also some significance in the rate of hourly wage growth within the educated or degreed segments Thisas stipulated in the previous section is due to the growth in demand for specialized skills in an analytically Technology driven economy rather than to simply have ldquoJust a Degreerdquo
Margins in real hourly wages increase from insignificant to significant due to education
Employment AnalyticsEmployment Analytics
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
bull Sohellipthis is not a case of the rich vs the ldquopoorrdquo as some would make ithellipbut rather a case of those who made the choice to not just get educated but educated in the right skill sets
bull FurtherhelliphellipA final and probably the most significant point is class Identityhellipthat ishelliphellip belonging to any class is transient for most A Fed Reserve study Shows that 40-50 of those in the lowest income class 5 years later have moved up the ladder to the middle class Equivelently those in the middle class move to the upper class while some fall back to lower class In other words the ldquoLadder of successrdquo is fluid in BOTH directionshellip movjng constantly betweenup and downhellip the wage and class ladder So to talk about wage inequality as a static identifier of individuals in one class or another is to make a false point
bull Class mobility is characteristic of a Capitalistic opportunity based system and the acquisition of education and the appropriate skill sets discussed previously simply allow a higher entry point in the wage and class scale and maximize the potential for acceleration up the ladder of success
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Employment AnalyticsEmployment Analyticsbull A ldquoThought Experimentrdquo on how to stop the ldquoFalling Kniferdquo of
structural unemployment
ndash To help incentivize job growth and Improve the education Gap hellipallow business to depreciate Labor for some period of time as a test case
bull A ldquoThought Experimentrdquo Accelerated Labor Depreciation Method(ALDM)
bull The concept would be to allow business to depreciate labor as in capital to include education costs
bull This would provide improved cash flow to small and large businesses alike BUT in particular allow business cases for entrapaneur lsquos to show positive hurdle points due to lower cost of capital
Employment AnalyticsEmployment Analytics
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Conclusion You have a huge supply 75-80 of the work force with limited skills trying to compete in an employment environment looking for very specialized skills hellip15-25 hellipand willing to pay a premium for them Conversely for the other 75 there is little demand putting significant downward pressure on non-technical wage rateshellip
If this is difficult to fathomhellipJust think of two wordshellipProfessional Sports
7- Solution This is a very complicated issue and requires a much different view of educational needs overlaid on business requirements Clearly there are gaps that will not be provided in the short run This will most likely mean more labor investment in countries where more emphasis is placed on critical thinking skills and discipline until there is a better match between graduate capabilities and business needs
Employment AnalyticsEmployment Analytics
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Employment AnalyticsEmployment Analytics bull So based on defined Labor groups
bull Analytical Skills (Engineers Math Science Computer science)- 2 years
bull Business analytical Skills-(Accounting economicseconometrics)- 3 years
bull Liberal Arts-(history Language etc)- 10 yearsbull Technical Training- Mechanics Manufacturing ndash 3 years
bull Thus like capital costs Depreciate labor over a designated timeline
bull The timelines for depreciation above are ldquoarbitrary talking pointsrdquo
bull The timelines are based on the value of the skill set based on demand and supply in the market place
bull The emphasis here should be ldquosimplictyrdquohellipset by The Federal accounting Standards board(FASB)(I know thatrsquos an inherent contradictionhellip)
Employment AnalyticsEmployment Analytics
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Market ForecastMarket Forecastbull Given the above and the Samp P at 1277 at the
end of the 2011hellip(it was 1319 at end of QTR 1)hellip The SampP markets are still 14-15 below 2008 highs(1550) before the crash
bull GDP Growth in the 2-25 range in the next six months is meager but with Positive Corp earnings price earnings multiples are still around 13 This is undervalued relative to a trend of 15-18 multiples
bull Fed Policy stipulated tondash Keep interest rates (fed funds = 25) low thru
2014
ndash A floor of 25-30 dividend with Mid and Large cap stocks
bull Equities look favorable relative to fixed income alternatives Thus expectations for the range of outcomes for the next 6 months of the year are
ndash 1- Optimistichellip SampP a trading range of aprox 6 -8 for the next 6 monthshellip helliphelliphelliphelliphelliphelliphelliphellip1350 to 1380
ndash 2- Most Likelyhellip SampP in a trading range aprox hellip4- 6 hellip for the next 6 months helliphelliphelliphelliphelliphelliphelliphellip1330 to 1350
ndash 3- PessimistichellipSampP moves flat to up aproxhellip2 to 4 hellip for the next 6 months helliphelliphelliphelliphelliphellip1310 to 1330
Double Exponential Smoothing
Optimistic
Pessimistic
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
Market ForecastMarket Forecast
bull After this next 3-6 months hellipunless growth in GDP and Jobs turn around significantly (250-300K per month) there is a implementable solution to the US and European fiscal crisis and a calmer middle east 2012 market growth will fall in the range of 2-3
bull Alternatively a major change in November would result in a 4th Qtr 10-15 market increase
bull Picksndash Large-Cap
bull Yackman-YAFFXbull Monetta Young Investors-MYIFX
ndash Mid-Capbull Brown Capital Mgt-BCMSXbull Meridian Midcap growth- MERDXbull Rydex SampP Midcap-RFG
ndash Small- Capbull Brown Capital Mgt-bull Ridgefield Small Capo-SCETX
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
bull CommoditiesTechnology (con)ndash Industrials ndashPower share-PRNndash Energy-PXIndash Pimco Global-DRGTX
ndash First Hand e-commerce-TEFQX
ndash Gold-GLD
bull Internationalndash I Shares- Latin America-ILFndash Lazzard Emerging Markets
bull Fixed Incomendash Fidelity Strategic Income-FSICXndash Artio Global High Yield-BJHXndash Metro West High Yield-MWHX
Market ForecastMarket Forecast
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