Good evening to you all. Please find enclosed our weekend review of the
markets and the upcoming week. Based on the data we have seen this past week,
we believe this is our most important review to date and would ask all readers
to carefully review our comments and supporting data. We would also encourage
any feedback from readers who may have questions and/or comments. Some
specifics discussed inside:
1] Trade Deficit Sets Another Record and Serves Investors Fair Warning
2] Deflation Worries Return With Latest Consumer Price Index Reports
3] More Y2K Problems Plummet More Companies
GENERAL DATA - MARKETS PERFORMANCE
PAST WEEK YEAR-TO-DATE
S&P/TSE 60 ---- 0.0% 0.00%
TSE 300 Dn 0.4% Dn 1.2%
DOW Up 0.7% Up 1.7%
S&P 500 Up 0.7% Up 0.8%
NASDAQ Dn 1.8% Up 4.1%
GOLD Dn 0.3% Up 0.5%
TED Spread 63.00 points
GENERAL COMMENTARY - MARKETS PERFORMANCE - DEFLATION FEARS ARE BACK
Contrary to last week, this past week saw the release of some very important
economic indicators. First, the US Commerce Department. reported 1998 trade
deficit figures surged to an
all-time high. The trade numbers, measuring total exports less total exports,
showed the US continued to import far more product than it exported in
1998, to
the tune of $US 170 Billion. This was 53% higher than 1997 figures and broke
the previous record set in 1997. More importantly, 1998 also brought the
first
actual decline of US exports in 13 years, which breaks their established track
record of continually increasing exports while simultaneously increasing
imports at a faster rate.
Second, the US Labor Department. reported The Consumer Price Index rose only
0.1% in January, thus reassuring investors that inflation remained under
control.
In Canada, inflation for January was reported at it's lowest levels since 1962
- 0.6%. More importantly, were it not for a cheap Canadian dollar making
imports more expensive, analysts stated prices would have actually FALLEN for
the first time since 1955. This has several economists worried that deflation
is just around the corner and calling for the Bank of Canada to decrease
interest rates. A decrease in rates would encourage further spending by both
consumers and business, thus increasing prices and avoiding the effects of
deflation.
With respect to Y2K effects on the share price of several tech companies, we
reported the following two weeks ago:
"Y2K concerns have now become reality and have commenced their attack on the
share price of public companies. The list includes JetForm, Data Mirror and
People Soft - all of whom reported extremely weak software sales due to
customer concern for Y2K issues."
We can now add GEAC Computer Corp., JD Edwards & Co. and German software giant
SAP to that list. Geac shares fell 29% on Monday after issuing a warning that
Y2K worries severely effected revenues and profits for the quarter ended
January 31. JD Edwards saw it's stock price fall 30% when it reported
software
sales were down due to Y2K, while SAP has now lost 50% of it's value since
last
summer for the same reason.
OUR COMMENTS - TRADE DEFICIT, DEFLATION OR Y2K? MARKETS WILL FALL EITHER WAY.
1] The Trade Deficit
The latest trade deficit figures should come as no surprise to AGORA readers.
For months we have been pounding the table that such "extremes can not hold".
In this instance, the US consumer continues to drive the world economic engine
by spending more than 100% of their after-tax income. As such, troubled
economies have been able to stay afloat by exporting massive amounts of goods
to the US and at extremely cheap prices due to very weak currencies around the
world. In the short term, combined with the greatest bull market of this
century, such an environment provided US consumers with the enviable position
of unlimited purchase of cheap goods while they continued to increase their
overall wealth via the stock market.
However, as we have stated since early 1998, the long-term effect of such an
environment will prove disastrous to the US and global economy.
Unfortunately,
such effects generally lag behind the effects of cheap imports and only begin
to surface months later. Specifically, we outlined the following reasons:
a) The state of global economic weakness created an environment in which most
countries were unable to continue import levels, especially in goods from the
US which are priced in expensive US dollars. On the other hand, cheap
currencies in Asia, Russia and South America created an environment in which
goods could be cheaply exported to the US. The inevitable result was going to
be a severely unbalanced trading environment.
ba) The flood of cheap imports would cripple the sales and profits of US
manufacturers who were now unable to compete on price. This would be true of
both domestic and global sales.
b) US manufacturers unable to compete neither domestically, nor
internationally, would be forced to cut costs through layoffs and reduced
capital spending. Inevitably, this would cause a slowdown in the US economy,
consumer spending and the economies of nations who were dependant on massive
exporting of goods to the US.
Where are we today? On this past Wednesday, The Commerce Department announced
that US manufacturing remained unchanged in January, which followed a very
sluggish 1998. The Federal Reserve said this reflects reduced US exports due
to global economic weakness and the flood of cheap imports into the United
States. Currently, US industry is operating at it's lowest capacity in six
years (80.5%), which is low enough to be able to increase capacity without
incurring inflation for some time.
Furthermore, analysts now believe this weakness will eventually find it's way
into the whole US economy, thereby slowing growth.
2] Deflation
The global economy has been struggling with the possibility of deflation since
August of 1997, though Alan Greenspan and company only publicly disclosed
their
concerns in November of 1997. Deflation was a key element of The Great
Depression and economists now worry that deflation could lead the economy into
another downward spiral. The latest inflation numbers out of Canada have led
to increased worries and calls for lower interest rates.
Specifically, with prices now showing very little tendency to move upwards,
consumers and business may tend to delay purchases in anticipation of possible
lower prices. The delay in consumption leads to a slowdown in manufacturing,
which then begins the deflationary spiral of falling asset prices. On the
surface, one might think this is a good thing, however, deflationary spirals
like the one of the 1930's can turn disastrous when asset prices begin falling
below associated debt levels. To illustrate, imagine a situation where the
price of your home falls below the value of the mortgage on the house. Herein
lies the evil of deflation. That is, as asset prices fall, debt levels do
not.
Are we in danger of deflation? In Canada, a country heavily dependant on
commodities, the latest numbers clearly indicate it is a cause for concern and
immediate attention. However, the bigger question is whether this is a
concern
in the United States. After all, the US is now the undeniable engine behind
the world economy and the ultimate dictator of it's direction. Currently,
there does not appear to be any immediate urgency. However, the continued
pounding of cheap imports will inevitably lead to a slowdown in the US, which
will lead to a slowdown of those economies so dependant on the US and the
possible collapse of the global economy.
Thus, we are now in a race against time. Quite simply, the economies of Asia,
Russia and South America must sufficiently recover and diminish their
dependance of exports to the US BEFORE the US economy grinds to it's
inevitable
slowdown. Otherwise, there will be nobody left to absorb global production
and
prices will undoubtedly begin a deflationary spiral.
3] Y2K
Adding to our concerns over the current global economic climate is the Y2K
issue. It is important to state from the outset that neither AGORA, nor
anyone
else can accurately forecast the possible effects of Y2K. However, we can
reasonably assume, based on the earlier information presented by technology
companies, that a significant global slowdown in the development and purchase
of technology as most companies, both big and small, commit resources to
becoming "Y2K ready".
Moreover and perhaps most importantly, we can also reasonably assume the level
of uncertainty brought on by Y2K will lead to some level of profit taking in
North American markets as investors become much more defensive about their
wealth. Specifically,
baby-boomers have been primarily responsible for market appreciation to date
and we anticipate they will be responsible for at least some market
depreciation as we approach the year 2000. For further evidence and
support of
this matter, look no further than the low level of mutual fund contributions
over the last few months.
In Canada, mutual fund sales are were down 30% in January and this number
climbs to over 50% when you do not include the funds which were placed
directly
into money market funds. Remember, money market funds do not find their way
into equity markets and are nothing more than tax-sheltered interest bearing
accounts. We fully anticipate this trend to continue throughout the year.
GENERAL STRATEGY
We continue to remain very defensive in these markets. Quite simply, we do
not
like what we are seeing. The great levels of uncertainty relating to general
global economic health and the Y2K issue means investors can expect, at the
very least, great volatility for the remainder of the year.
For our part, we anticipate no better than sideways movement in global equity
markets and most likely a downward trend.
We hope you all had a great weekend and look forward to our next bulletin.
Regards,
Agora
agoracorp.com
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