Last week’s data, next year’s economy

November 28, 2011

The numbers are in. Retail sales are up two months running. Black Friday online sales were up 26% over last year. Industrial production is up. Permits for new single-family homes are at their highest point in a year and a half. Inflation is down, and the number of people applying for jobless benefits is near the lowest point since April. The economy may not be dancing a jig, but it has risen from its deathbed and is up and walking around. Few, if any, economists are predicting a double-dip recession; their consensus estimate puts fourth quarter GDP growth at 2.5%

So why was the S&P 500, the broad measure of market performance, down 4.8% for the week after being down 3.5% the previous week?

One reason is questions about the long-term sustainability of the recovery. Roughly 70% of GDP is consumer spending. And consumer spending is dependent on people having jobs. The economy added 80,000 jobs in October, down from 158,000 in September and 104,000 in August. It needs to do much better, at least 200,000 per month in order to reduce the current 9.0% unemployment rate. The growth in retail sales can’t continue unless hiring increases and wages rise. Neither of those things is happening at a self-sustaining rate.

The other reason is Europe, which promises to be a source of financial instability for the foreseeable future, and a drag on the confidence of American markets and businesses. 

In the short term the cascading series of potential failures, Greece to Italy to Spain to France, has financial markets unsettled; banks on both sides of the Atlantic own trillions in European sovereign debt.

In the medium term Europe faces the likelihood of recession, in large part due to the failed policy of budget cutting to trim deficits instead of spending to create job growth. That means decreased demand for American goods from our biggest trading partner and fewer American jobs created.

The net: uncertainty continues to reign on Wall Street, on Main Street, and across Europe, so it is important to keep your portfolio diversified. We’re watching the markets and keeping our options open to make prudent investment shifts as necessary.

James Copenhaver, Director of Investment Management