George Haligua Hermes Bancorp Examines the August Numbers

Even though there have been strong earnings reported this season the stock market has still been struggling this month. Nasdaq and the S&P hit new lows for the year this week before rallying, and the Dow broke 10,000. Direction has moved from the cyclicals to the utilities and consumer staples stocks. Some technical analysts have declared the beginning of a new force.

What has scared investors is the indication of a synchronized global economic slowdown, led by China and the United States. The latest buzz on the street is talk of the "June Swoon" in the economy, caused by gloomy jobs report, disappointing ISM data, and diminishing retail sales, a slowdown confirmed this morning with the announcement that Q2 GDP grew just 3% - far below what economists had forecasted.

Many well-known economists are scattering to cut their forecasts
for future growth in order to avoid possible criticism. We have reallocated our asset mix to position ourselves in a manner to take full advantage of the ever changing economies and geopolitics.

The old saying goes "We are what we eat", and in periods of weak stock markets it can be argued that investors are actually what they fear. When stock markets soared in January the only fears that investors had were about high-energy prices. Crude was selling at the astonishing level (for Wall Street oil analysts, economists and strategists) of $35, instead of $26; natural gas was selling at the disturbing level (for Wall Street oil analysts, economists and strategists) of $7.25.

When stock markets slid into May, the fears were worse than ever: how high would energy prices, GDP levels, inflation and the fed funds rate go? When stock markets worsened into July, a new uncertainty emerged: a fear of rising oil prices and a fear of a falling economy. Suddenly the global economy was at risk. China got the process started with its highly publicized blunderbuss approach to reining in its runaway economy. This was considered good news (by all except holders of mining, shipping, coal and steel stocks) because, for the first time in history, China was the driver of global inflation, rather than the West, or the Arab world.

Industrial metals were the first group of stocks to feel the pressure from China’s slowdown. Shares of leading mining companies sold off worldwide, even as metal prices were continuing to rise, or were consolidating near multi-year highs. Other cyclical stocks, particularly techs, remained strong. By mid-June, there was no mistaking that the slowdown that began in Beijing was migrating across the world.

Investors' fear of the economy's flying too high (the Icarus syndrome) switched suddenly into the fear of its falling too low (the Orpheus syndrome).

This was no simple turnaround, the economic data changed fast. First came reports from the Chinese authorities that their tightening was working, with second quarter GDP said to be growing at about one-fifth the rate it had reported for the first quarter (but still 9% higher than the year earlier). Those estimates confirmed external statistics long used as stand-ins for evaluating the Chinese economy, including prices of key raw materials and the Baltic Freight Index.

Then, just as it began to look as if Bush would finally have a string of great economic numbers to offset all the terrible news from Iraq, the June Nonfarm Payroll announced only 112,000 net new jobs, and May's optimistic number was thrown away. Since economists expected at least 175,000 jobs, that small number was a huge disappointment. It followed weak ISM numbers—both for manufacturing and service companies.

The figures for retail sales data were not far off. Wal-Mart and Target blamed their poor results on $2 gasoline prices, which they said hit their customers particularly hard: they had less money to spend at the cash because they were spending more of it at the pumps. This new pattern of data was no longer causing uncertainty to economists about where they were headed. In mid-July it was announced that the US Leading Indicator had turned south, joining Leading Indicators in Europe and Latin America. Since the LEI is made up of a range of statistics, its exposure hit the stock market hard, especially cyclicals.

One of the only positive numbers released through mid-July was existing home sales, which increased significantly in both number of homes sold and in median price. But even this number didn't impress the market, because, as economists observed, when mortgage rates start to climb, there's a rush to close deals before rates get too high.

Then, a ray of light: on July 27th, the Conference Board's Consumer Confidence report illustrated a surge in confidence, particularly on the outlook for jobs. This resulted in the best day for stocks since June. However, the following day the Durable Goods report showed that the good news was not a long-lasting pattern: it came in well below forecasts, and the stock market carried on its slump.