Mish's Global Economic Trend Analysis

Japanese Politicians fed up with Deflation, Challenge BOJ Independence
Analysts Cut S&P 500 Profits Forecast; Earnings Estimates Still Overly Optimistic; Stocks Not Cheap
Factory Orders Drop More Than Expected, Treasuries Rally

Japanese Politicians fed up with Deflation, Challenge BOJ Independence

Posted: 04 Oct 2010 09:15 PM PDT

Things are simmering once again in Japan. The Yen is approaching all-time highs and Japanese politicians have had enough of deflation. Another round of quantitative easing is now on the front burner.

MarketWatch reports Bank of Japan may buy asset-backed paper

Japan's central bank may announce plans to buy asset-backed securities when it issues its policy decision later Tuesday, the Nikkei business daily reported. The newspaper had reported earlier in the week that the Bank of Japan may expand its low-interest loans to financial institutions. But in the report Tuesday, the Nikkei said "a growing number of board members argue that the bank should go further" and begin buying securities backed by loans to small and medium-sized enterprises. The report, which didn't cite sources, said such a move would be aimed at making more funds available to the private sector.

BOJ Independence Under Attack

Bloomberg reports BOJ Independence Challenged as Deflation Continues

Increasing risks to Japan's recovery prompted what may become the biggest threat yet to the Bank of Japan's independence as politicians seek to redress its failure to end the deflation entrenched in the economy since 1998.

Your Party, an opposition group, plans to submit a bill in the Diet session running through December that would give the government a greater role in BOJ policymaking. Ichiro Ozawa, a former challenger to Prime Minister Naoto Kan whose calls for currency intervention and enlarged fiscal stimulus have been adopted by Kan, made a similar proposal last month.

The debate comes after BOJ Governor Masaaki Shirakawa refused to expand purchases of government bonds this year even as deflation persisted. The bank may today instead widen a 30 trillion yen ($358 billion) program providing loans to banks, according to 14 of 17 economists surveyed by Bloomberg News. The effort has so far failed to stanch a contraction in lending.

Shirakawa's intransigence has incurred the ire of politicians pressing the bank to boost efforts to end deflation, which erodes corporate profits, makes debt harder to pay back, and enhances the yen's lure by lifting its purchasing power. The GDP deflator, a gauge of prices across the economy, has fallen 14 percent since 1997, according to data compiled by Bloomberg.

"Japan is the only industrialized country which has had consumer price changes of minus or zero over the past decade," Keiichiro Asao, head of policy research at Your Party, said in an Oct. 1 interview in Tokyo. "If the central bank is a guardian of stable prices, it shouldn't allow price declines."

The BOJ, which has kept its benchmark interest rate at 0.1 percent since December 2008, currently purchases 1.8 trillion a month of government bonds. At the current pace of buying, the bank's self-imposed ceiling for bond holdings will be reached in 2014, according to Barclays Capital estimates.

The Federal Reserve, by contrast, has eschewed any such ceiling and indicated last month it's prepared to add to its holdings of U.S. Treasuries. At the same time, the Fed's balance sheet, at $2.3 trillion, is smaller than Japan's relative to the size of the economy, at about 16 percent, according to data compiled by Bloomberg. The BOJ holds about $1.5 trillion, or about 26 percent of Japan's GDP.

Bank Balance Sheets Compared

ZeroHedge Asks Is The BOJ Preparing An Imminent Announcement Of Its Own Latest (And Certainly Not Greatest) QE?

The BOJ's balance sheet, which has been relatively flat when compared to peer central banks, especially since FX interventions will likely be sterilized, is about to explode and the JPY will plunge once the carry traders reorient themselves to shorting the original carry currency of choice.

As a reminder, here is how Japan has demonstrated remarkable restraint (at least recently) as everyone else has been printing.

In other words, the BOJ will continue to use FX intervention as an acute weapon every time the USDJPY drops below 83, and gradually implement asset-backed purchases as the chronic intervention against endless deflation.

Because this time it will be different. And, because, as the G-7 people promised, and everyone believed them, there will be no competitive devalution. Ever.

Politicians Know This Time is Different!

It's hard not to laugh out loud at the sarcasm in the last paragraph above.

Not only did QE fail to do what the Bank of Japan wanted (raise prices), QE has also failed to stimulate bank lending as Bernanke wants. Moreover, Japan's currency intervention efforts have not accomplished anything, ever.

But yeah... this time is different, because .... politicians know better!

By the way, this exercise in stupidity by all the central banks in question, shows just how hard it is to destroy a currency, even when you try (except against gold of course).

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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Analysts Cut S&P 500 Profits Forecast; Earnings Estimates Still Overly Optimistic; Stocks Not Cheap

Posted: 04 Oct 2010 12:28 PM PDT

Bloomberg reports S&P 500 Profits Cut for First Time in Year by Analysts.

For the first time in more than a year analysts are cutting their forecasts for Standard & Poor's 500 Index earnings, jeopardizing gains from the biggest September rally since World War II.

Estimates for S&P 500 companies' combined 2011 profit fell as low as $95.17 last month from an August high of $96.16 and posted the first quarterly reduction since the three months ended June 2009, according to more than 8,500 analyst forecasts tracked by Bloomberg. The revision came as the benchmark gauge for U.S. equities rose 8.8 percent last month, the largest September advance since 1939.

Estimates show S&P 500 earnings may rise 15 percent in 2011, down from a forecast of 20 percent growth in March, Bloomberg data show. The S&P 500 slipped 0.2 percent to 1,146.24 last week amid lingering concern that Europe's government debt crisis may threaten the economic recovery.

Companies in the S&P 500 may report profits rose 23 percent on average during the third quarter, according to forecasts tracked by Bloomberg. That's about half the 49 percent growth during the second quarter and the 52 percent increase from January through March.

Michael Levine of OppenheimerFunds Inc. says the outlook for lower earnings is already reflected in stock prices after the S&P 500 fell as much as 16 percent between April 23 and July 2. He predicts equity prices will keep rising as investors grow more confident that the U.S. economy isn't headed for the second recession in three years.

"Equities are cheap," said Levine, a money manager at New York-based OppenheimerFunds, which oversees about $165 billion. "The broader markets are assuming there's a slow but gradual recovery. As long as that's the message, the markets will be fine."

"Stocks go up and they raise their earnings estimates, the markets go down they start reducing estimates -- a lot of it has to do with the psychology," said Jeff Saut, chief investment strategist at Raymond James & Associates, which manages $235 billion in St. Petersburg, Florida. "Over the long run, investing is indeed all about the earnings, but over the short term it's all about psychology."

Earnings Estimates A Mirage

It's important to understand why earnings have gone up: Trillions of dollars of stimulus worldwide that is not sustainable. Bank earnings estimates have been inflated by massive extend-and-pretend games encouraged by the Fed with a blind eye from the FASB.

Moreover, the FASB has delayed mark-to-market accounting rules and has still not forced banks to bring SIVs and off-balance-sheet assets back on the books. Those assets are held at inflated values.

It is disgusting to hear those like Michael Levine of OppenheimerFunds Inc. says "equities are cheap". Equities only look cheap if you use absurd forward earnings estimates, and ignore future writeoffs and other "one-time" items that seem to have a way of recurring with remarkable regularity.

Stocks Not Cheap

Stocks are not cheap an besides, share prices are not always a direct function of earnings. I talked about that in Sure Thing?!

Earnings vs. Share Prices

Right now, sentiment is so bullish and earnings estimates so lofty there is room for hefty earnings expansion that falls short or estimates. Buying stocks that miss wildly optimistic earnings estimates is not likely to work out well.

Furthermore, even if earnings do come in on target, there is no historic guarantee that stock prices follow. For example, on March 31, 1973 the S& P was at 111.52 with trailing earnings of $6.80. Seven years later, on March 31, 1980 the S&P was at 102.09 with trailing earnings of $15.27.

Thus, over a span of seven years, earning rose 125% while stock prices fell 8.5%!

What happened? The PE ratio on the S&P fell from 16.40 to 6.68, that's what.

Moreover, those were real earnings then. Now, corporations hide garbage in SIVs with the blessing of the Fed and analysts cite pro-forma earnings that throw out "one-time" charges that occur with increasing regularity.

Thus, anyone who says stock prices will go up because earnings go up, does not understand history.

Fancy Numbers

"You need pretty fancy GDP numbers to get to $95 a share in earnings next year," said Robert Doll, vice chairman of New York-based BlackRock Inc., which oversees $3.2 trillion. "Our view is that they're still a little too high, and that nobody believes them."

Robert Doll is half-right. He's right in that "You need more that fancy earnings to get to $95 a share". He's half-right because the consensus believes. Bear in mind we could still see a bit of earnings expansion, but with the inventory replenishment and stimulus coming to an end, and with consumers heading back into a shell, it will not be sustainable.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Factory Orders Drop More Than Expected, Treasuries Rally

Posted: 04 Oct 2010 10:42 AM PDT

Curve Watchers Anonymous notes the rally in treasuries continues in the wake of the third decline in four months in factory orders and expectations of renewed Quantitative Easing by the Fed.

Yield Curve July 2008 - Present

click on chart for sharper image

Two-year (not shown above) and five-year treasuries are at record lows.

Factory Orders Drop More Than Expected

The Wall Street Journal reports Factory Orders Decline

U.S. factory orders dropped more than expected in August, marking the third decline in the last four months.

U.S. manufactured goods orders decreased by 0.5% to $408.94 billion, the Commerce Department said Monday.

Commercial airplanes drove the decline; excluding transportation, all other factory orders rose.

The report had positive data. A barometer of business capital spending increased; non-defense capital goods orders excluding airplanes rose by 5.1%.

Economists surveyed by Dow Jones Newswires had expected overall factory orders would decrease by 0.4% in August. July orders rose 0.5%, revised from a previously reported 0.1% increase.

Factory orders are either durable or non-durable. Durables are designed to last at least three years -- things such as cars. The Commerce report Monday said durables dropped by 1.5%, revised from a previously reported 1.3% decrease. Nondurables rose by 0.3%.

Capital goods orders fell 0.1%. Non-defense capital goods orders rose 0.1%.

Meanwhile, defense-related capital goods dropped by 1.8%. Excluding defense, all other factory orders decreased 0.5%.

Among industries, orders rose for electrical equipment, machinery, and computers. Demand fell for primary metals.

Transportation equipment fell 10.2% as orders for cars and commercial airplanes dropped. Orders for manufactured goods excluding transportation rose 0.9%. This was the first increase in the last five months.

Manufacturers' inventories were up by 0.1% in August, after increasing 0.9% in July.

Shipments declined 0.6%. Unfilled orders, a sign of future demand, were flat.

That is a very weak report with inventories rising and nearly everything important falling or flat.

Durable Goods Drop Should Not Have Surprised Anyone

The drop in durable goods may have surprised some but it is consistent with my July 7th post Expect Second-Half Housing and Durable Goods Crash

This should have been pretty easy to figure out. If people stop buying houses, and they have, then people will not be buying many appliances for the houses they did not buy.

Moreover, autos are big ticket items and with sentiment souring on job prospects, one might have anticipated the auto recovery (as weak as it was), would also stall.

Rear View Mirror Look

Please note that today's report is a look in the rear view mirror. Today's factory orders report reflects August data.

October ISM Recap - Looking Ahead

Let's recap a few charts from Manufacturing ISM Expands, Rate Slows, Internals Weak

September ISM Manufacturing at a Glance

New Orders June Thu September

Falloff in the rate of growth of new orders is persistent and dramatic.

Inventories June Thu September

The backlog of orders is now contracting, and judging from the persistent trend in orders, it is highly likely orders will contract next month. Meanwhile inventories continue to rise.

This situation cannot last. Production is headed for a plunge if orders and backlog start contracting in a meaningful way, as appears likely.

Manufacturing ISM has likely peaked.

More Downward Surprises Coming

Today's Factory Orders report (for August) along with the October ISM report (September data as shown above) is further evidence the glowing September ISM report (August data) was an outlier.

Expect to see more downward surprises as the vast majority of economists do not understand the implications of the recent ISM data, or the meaninglessness of the Fed's renewed quantitative easing plans.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

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Monday, October 4, 2010

Mish's Global Economic Trend Analysis

Mish's Global Economic Trend Analysis

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