Six clues to recession’s end
These signs will show when the downturn is over
By Greg Ip
THE WALL STREET JOURNAL
Jan. 4 — The economy could be near a turning point. After slipping into recession early last year, then taking another hit Sept. 11, it is showing signs of healing, with the worst economic fears from the terror attack unrealized. It’s too soon to declare that a recovery is under way. Some bits of evidence suggest it is while others show the opposite, such as a just-reported jump in new claims for unemployment benefits.
BUT THE PICTURE is always muddy at turning points. This slump is a particularly tough one to read because it’s peculiar, with consumer spending holding up unusually well.
When the economy does begin a comeback, there will be telltale signs. Here are six to watch for:
1. WHEN BUSINESSES START INVESTING AGAIN, ESPECIALLY IN TECHNOLOGY.
When Manugistics Group Inc., a maker of supply-chain-management software, two weeks ago reported a big loss for the Nov. 30 quarter, investors drove its stock up sharply. Not only was the loss narrower than analysts had expected, but company executives said they were more confident about their order backlog. Manugistics had closed some big contracts and was being invited to bid on more deals. “It’s not just people talking about buying software out there,” Greg Owens, chief executive of the Rockville, Md., company told investors and analysts. “They’re actually signing contracts and buying software.”
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A downturn in business, not consumer, spending has driven this recession. Since the recession began in March, consumer spending has yet to show a single quarter of decline. Consumption might fall in the current quarter, says Peter Hooper, chief U.S. economist at Deutsche Bank, but offsetting that, “the negative trend in business spending is easing significantly.”
One sign of an upturn is fresh spending on pricey software applications such as Manugistics’ since they were among the first things deferred by strapped corporations, says Steve Milunovich, technology strategist at Merrill Lynch & Co.
Orders for high-tech equipment, which plunged more than 50 percent between May 2000 and last September, rose in both October and November. Price increases on semiconductor chips are sticking. “That’s what’s different from April, when we had a rally in the stocks and fundamentals weren’t bottoming,” says Milunovich. “Now they are.”
High-tech spending may be stabilizing simply because companies have to buy more just to replace equipment that’s wearing out or becoming obsolete. Other areas of investment are still weak. Ford Motor Co. Thursday reported a 2 percent gain in December auto sales from a year ago. But within that, fleet sales were down 23 percent, says George Pipas, Ford’s manager of sales analysis. “No amount of incentives can make [a rental company] need more cars than they have business travelers arriving at the airport,” he notes.
Spending on networking telecommunications equipment, pummeled by the collapse of upstart dot-com and telecom companies, is still tumbling. But the “telecom spending bust is almost over,” predicts Sanford C. Bernstein & Co. analyst Paul Sagawa, who was among the first analysts to predict the bust. Big phone companies, excluding wireless, have succeeded in chopping capital spending to about 15 percent of their sales, historically the lowest it gets before “the bottom of a spending cycle.”
2. WHEN COMPANIES START WARNING OF BETTER, INSTEAD OF WORSE, PROFITS.
Back in October, Goodrich Corp. announced that the slowing economy and the terror attacks’ effect on aerospace would force it to cut thousands of jobs, close plants and record profits below analysts’ expectations. On Dec. 13, the company had somewhat better news: Although the jobs still weren’t coming back, profits would be better than analysts now expected.
Goodrich thus joined a faint but potentially significant trend: a possible end to the corporate profit gloom that has seen margins shrink by a third from their peak in 1997. The margin squeeze has been a major factor behind cuts in jobs and capital spending. Figuring that analysts’ estimates give a quick read on what corporate executives are anticipating, Fed Chairman Alan Greenspan watches analysts’ changing estimates of profits closely for clues on when the capital spending slump may end.
Rate change history
Changes in the Federal Reserve's target for the federal funds and discount rates going back to the early 1990s, when the last recession began.
| 1 | 2 | 3 | 4 | 5
DATE FUNDS RATE DISCOUNT RATE
12/11/01 1.75% 1.25%
11/06/01 2.00% 1.50%
10/02/01 2.50% 2.00%
09/17/01 3.00% 2.50%
08/21/01 3.50% 3.00%
06/27/01 3.75% 3.25%
05/15/01 4.00% 3.50%
04/18/01 4.50% 4.00%
03/20/01 5.00% 4.50%
01/31/01 5.50% 5.00%
01/04/01 6.00% 5.50%
| 1 | 2 | 3 | 4 | 5
DATE FUNDS RATE DISCOUNT RATE
01/03/01 6.00% 5.75%
05/16/00 6.50% 6.00%
03/21/00 6.00% 5.50%
02/02/00 5.75% 5.25%
11/16/99 5.50% 5.00%
08/24/99 5.25% 4.75%
06/30/99 5.00% 4.50%
11/17/98 4.75% 4.50%
10/15/98 5.00% 4.75%
09/29/98 5.25% 5.00%
03/25/97 5.50% 5.00%
| 1 | 2 | 3 | 4 | 5
DATE FUNDS RATE DISCOUNT RATE
01/31/96 5.25% 5.00%
12/19/95 5.50% 5.25%
07/06/95 5.75% 5.25%
02/01/95 6.00% 5.25%
11/15/94 5.50% 4.75%
08/16/94 4.75% 4.00%
05/17/94 4.25% 3.50%
04/18/94 3.75% 3.00%
03/22/94 3.50% 3.00%
02/04/94 3.25% 3.00%
09/04/92 3.00% 3.00%
| 1 | 2 | 3 | 4 | 5
DATE FUNDS RATE DISCOUNT RATE
07/02/92 3.25% 3.00%
04/09/92 3.75% 3.50%
12/20/91 4.00% 3.50%
12/06/91 4.50% 4.50%
11/06/91 4.75% 4.50%
10/30/91 5.00% 5.00%
09/13/91 5.25% 5.00%
08/06/91 5.50% 5.50%
04/30/91 5.75% 5.50%
03/08/91 6.00% 6.00%
02/01/91 6.25% 6.00%
| 1 | 2 | 3 | 4 | 5
DATE FUNDS RATE DISCOUNT RATE
01/04/91 6.75% 6.50%
12/18/90 7.00% 6.50%
12/07/90 7.25% 7.00%
11/14/90 7.50% 7.00%
10/29/90 7.75% 7.00%
07/13/90 8.00% 7.00%
SOURCE: Associated Press
Printable version
About 25 percent of corporate preannouncements of fourth-quarter earnings say results will be better than expected, rather than worse or the same. That’s not much, but it’s better than the 17 percent recorded in the previous quarter.
“In the last three weeks, it appears there may be a start of a deceleration in the rate of warnings,” says Charles Hill, director of research at Thomson Financial/First Call. The picture is still grim. Hill thinks that earnings in the current quarter will still be down about 16 percent from a year earlier. But that would be an improvement from the year-to-year earnings decline he estimates for the fourth quarter, which is 22 percent.
One encouraging phenomenon: A few companies that were warning of worse results a few months ago are doing the opposite now. Goodrich, a Charlotte, N.C., company once known for tires but now primarily in aerospace, had twice warned of lower profits last year. But in December, it said that despite cutbacks from manufacturing customers, its services and spare-parts businesses were doing better than it anticipated right after Sept. 11. Similarly, Cendant Corp., the travel, real-estate and financial-services company, cut its fourth-quarter profit estimates shortly after the Sept. 11 attacks, then raised them twice.
To be sure, many are still issuing profit warnings, among them Ford, Gap Inc., Gannett Co., Lucent Technologies Inc., McDonald’s Corp. and American Express Co., according to First Call. But Hill thinks if the signs of stabilization hold, the second quarter of this year could mark the beginning of an upswing in profits.
3. WHEN STORES AND DEALERS START COMPLAINING INVENTORIES ARE TOO LOW.
This recession has been driven partly by companies curtailing production so they could fill sales by drawing down inventories. This is despite much past speculation by economists and Fed officials that better management of inventories would diminish their role in economic cycles. In fact, inventories have played as big a role in this slump as in past ones, if not bigger.
In the fourth quarter, James Glassman, economist at J.P. Morgan Chase, estimates inventories fell at a 7 percent to 8 percent rate, the steepest in decades. They’re now at the lowest level relative to overall sales on record. At some point, this will force companies to increase production, putting people back to work.
That moment may be close. CNW Marketing Research Inc., in Bandon, Ore., estimates that at least 70,000 auto sales didn’t occur in December because dealers didn’t have the stock, forcing customers to wait until this year for the cars they wanted.
Soaring sales of cars and light trucks in the past few months, amid zero-percentage-rate financing, left Bryant Henrie, vice president of Larry H. Miller Automotive in Murray, Utah, with too few of some popular models. “In Chevrolet, we’re out,” he says. At his five General Motors dealerships, stocks of extended-cab Silverado pickups and big Suburban and Tahoe sport-utility vehicles are down to about a 15-day supply from 90 days a year ago. “You’re in danger when you get too low because you’re missing sales,” he says.
Though car makers’ December sales didn’t match the incentive-driven November pace, Glassman thinks production will rise in the next few months to replenish inventories, giving the economy a fillip. Ford’s Pipas concurs. In one week of January 2001, 18 of Fords’ 22 North American plants were idle. Next week, they’re all scheduled to be up. “I think we’ll have a much more stable operating pattern in 2002 because the inventory correction is behind us,” Pipas says.
Tough times
The U.S. economy entered its 10th postwar recession in March, a panel of economists declared Nov. 26. Past recessions have averaged about 11 months each.
Recession Duration Peak jobless rate
Nov. 1948 to Oct. 1949 11 months 7.9 percent in Oct. 1949
July 1953 to May 1954 10 months 6.1 percent in Sept. 1954
Aug. 1957 to April 1958 8 months 7.5 percent in July 1958
April 1960 to Feb. 1961 10 months 7.1 percent in May 1961
Dec. 1969 to Nov. 1970 11 months 6.1 percent in Aug. 1971
Nov. 1973 to March 1975 16 months 9 percent in May 1975
Jan. 1980 to July 1980 6 months 7.8 percent in July 1980
July 1981 to Nov. 1982 16 months 10.8 percent in December 1982
July 1990 to March 1991 8 months 7.8 percent in June 1992
March 2001 to ? ? 5.4 percent (as of Oct. 2001)
Source: National Bureau of Economic Research, Bureau of Labor Statistics
Of course, before companies actually begin to add to inventories, they want to see sales picking up. Outside of the car industry, signs of that remain scant. Lazard analyst Todd Slater estimates Gap has slashed inventory per square foot by 15 percent in its latest quarter from a year earlier, but sales per square foot are down even more, an estimated 20 percent. Even chains with better sales performance aren’t about to start bulking up on inventories, Slater says. “They will wait for business to improve before they turn on the spigot.”
4. WHEN SALES OF HIGH-END HOMES STRENGTHEN IN HIGH-TECH HOTBEDS.
The bear market has been a major depressant on consumers, whose stock wealth had helped finance a lot of spending during the late 1990s boom. One of the most pronounced impacts was on the price of luxury houses in places like Seattle, Silicon Valley and Austin, Texas, hotspots of the Nasdaq boom and bust. Elsewhere, the housing market has stayed strong, buoyed in part by low mortgage rates.
The stock market, though still 27 percent below its early 2000 peak, has risen 21 percent since its Sept. 21 trough. That hasn’t triggered a new boom in conspicuous consumption, but it may be putting a floor under sales of high-end homes.
Vehicle Sales
For December : 16.5 Million
Employment Situation
For December
ECRI Future Inflation Gauge
For December
ISM Non-Mfg.Index (formerly NAPM Non-Mfg.)
For December
ECRI Weekly Leading Index
For 12/28/01
Economic Calendar
In Seattle, sales of such homes have been sluggish since April 2000, when the dot-com bubble burst, says J. Lennox Scott, president of John L. Scott Real Estate. But he is beginning to see signs of a rebound. In October, Scott says, sales were concentrated in homes priced below $350,000. In December, strength shifted to those priced at as much as $450,000.
“It’s not the euphoric wealth effect we saw during the dot-com bubble, but a moderate wealth effect that is going to be driven by the improving stock market,” Scott says. “We’re through the low ebb of the cycle, and the stock market will anticipate the turnaround in the economy.”
In Austin, at the height of the tech-stock craze “our sales were 80 percent high-tech and 20 percent Old Economy,” such as doctors, lawyers and small-business owners, says Douglas Clark, vice president of Russell Eppright Custom Homes. “That’s flipped now. We’re in a kind of normal, pre-2000 type of market.”
5. WHEN ALUMINUM SMELTERS SWITCH TO MAKING ALUMINUM AGAIN.
It seems a distant memory, but just a year ago the economy was pummeled by soaring prices for electricity, natural gas and gasoline. The recession helped reverse most of those spikes. Energy costs are back to early-2000 levels, though a recent agreement by OPEC to trim oil output suggests more relief isn’t in store.
One symptom of the energy squeeze was that early last year, many aluminum smelters in the Northwest agreed to shut down and furlough their employees. The plants were better off if they resold the electricity they had agreed to buy from Bonneville Power Administration than if they used it to make aluminum. This made sense when electricity was over $500 per megawatt hour on the spot market, as it was in December 2000, says Peter Moritzburke, an analyst for Cambridge Energy Research Associates. Now it’s about $30, not much above what the smelters need to be profitable making aluminum.
Markets at a glance
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Name Price % Chg
DOW 10,172.14 +0.98%
Dow Jones Transportation Index 2,727.50 +4.10%
Dow Jones Utilities Index 296.22 -0.51%
S&P 500 1,165.27 +0.92%
S&P 100 INDEX 595.13 +1.04%
S&P Midcap 400 INDEX 511.59 +1.00%
NASDAQ 2,044.27 +3.29%
| 1 | 2 | 3 | 4 | 5
Name Price % Chg
Nasdaq 100 INDEX 1,666.66 +3.49%
Amex Composite Index 842.25 -0.18%
Russell 2000 Stock Index 495.51 +1.71%
S&P 500/BARRA GROWTH INDEX 606.48 +1.11%
S&P 500/BARRA VALUE INDEX 557.57 +0.73%
Amex Gold Bugs Index 64.91 -0.17%
Biotechnology Index 559.60 -2.03%
| 1 | 2 | 3 | 4 | 5
Name Price % Chg
Computer Technology Index 828.83 +5.03%
Disk Drive Index 111.99 +4.11%
Natural Gas Index 181.73 -1.65%
Networking Index 356.02 +5.93%
North American Telecommunications I 862.00 +2.16%
Oil Index 517.19 -0.44%
Pharmaceutical Index 378.90 -0.55%
| 1 | 2 | 3 | 4 | 5
Name Price % Chg
Securities Broker/Dealer Index 526.72 +3.19%
Tobacco Index 408.04 -0.75%
Inter@ctive Week Internet Idx 155.67 +3.88%
Morg Stanley Commodities Index 245.60 -0.01%
Morgan Stanley Consumer Index 564.82 -0.02%
Morgan Stanley Cyclical Index 541.01 +1.49%
Morg Stan Hlthcare Payors Idx 436.25 -0.19%
| 1 | 2 | 3 | 4 | 5
Name Price % Chg
Morg Stanley Technology Index 548.35 +4.65%
PHLX SEMICONDUCTOR SECTOR INDEX 590.62 +8.28%
Pse High Technology Index 716.87 +3.03%
Source: CNBC on MSN Money and S&P Comstock
Printable version
A resumption of aluminum production would be a bullish sign for the economy. But it isn’t happening yet. Bonneville and the smelters could renegotiate contracts so that the smelters can reopen, but that isn’t imminent, primarily because of the weakness in demand for aluminum as a result of weak global growth. “None of those we have an agreement with have indicated they’re starting up any time soon,” a Bonneville spokesman says.
6. WHEN GARY CONDIT RETURNS TO THE HEADLINES.
Before Sept. 11, the news media were preoccupied with the California congressman and the disappearance of an intern, Chandra Levy, he had befriended. It was a sign of how little some Americans had to worry about.
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The attack on the U.S. changed all that. Now the war in Afghanistan has turned decisively in the U.S. favor, consumer concerns about terrorism are easing, and, perhaps as a consequence, hotels’ occupancy rates and airlines’ passenger loads are improving. The number of people who consider another terror attack “very likely” fell to 23 percent in an Associated Press poll in late December from 48 percent in October, though 47 percent still think one “somewhat likely.”
The world isn’t back to where it was. Even a police raid on O.J. Simpson’s home in connection with a drug investigation in early December barely made a splash. When celebrity gossip crowds out headlines about layoffs, bomb threats on airplanes and anthrax in mail-sorting machines, it will be a sign that consumer confidence is on the mend and with it the U.S. economy.
Sholnn Freeman, Russell Gold and Robert Gavin contributed to this article.
Copyright © 2002 Dow Jones & Company, Inc.
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