Tuesday, January 15, 2008

RBC Economics Report

No time to do a post today so here is a RBC Economics Report that outlines some of the reasons for today's market action. These bad numbers were in addition to the massive asset writedowns at Citigroup and CIBC. Interesting times indeed.

U.S. retail sales growth dropped 0.4% in December
Rishi Sondhi, Economist

U.S. retail sales growth dropped 0.4% in December, a much weaker result than the market’s expectation of flat sales. However, the sales decline was following a very robust, although downwardly revised, 1% gain in November. Ex-autos, sales were down 0.4%, again weaker than expectations.

The drop in retail sales in December was, in part, attributable to nominal sales at gasoline service stations dropping 1.7%. However, this partly reflected a decline in gasoline prices. Excluding this component along with the volatile motor vehicle and building material components, sales were actually up 0.2%, building on November’s downwardly revised 0.8% gain (previously reported at 1.3%).

The portion of retail sales that feeds into quarterly spending — retail sales ex autos, building materials and garden equipment, and supply stores — fell a slight 0.1% after surging 1.6% in November. During the November-December holiday period, sales were up 0.3% on average, compared to 0.7% in 2006 and 0.4% in 2005.

The U.S. retail sales figures are consistent with a drop in real spending in December, which we currently estimate to be -0.1%. Despite the likely decline, November’s real spending surge makes it highly likely that spending will come in above 2.5% in the fourth quarter. Slower spending in December does suggest somewhat softer spending momentum heading into the first quarter of 2008. We expect consumer spending growth to weaken to a 1.5% annualized pace during the first three months of the year.

The softer first-quarter 2008 momentum implied by the weaker-than-expected retail sales data will likely keep the Fed aggressive with their policy actions in order to mitigate the downside risks to growth. We are expecting that the Fed will opt for 50 basis points of cuts at their January 29-30 policy meeting.

Modest decline in U.S. producer prices; core prices rise
Paul Ferley, Assistant Chief Economist

The December producer price index fell 0.1%, a substantial slowing from the 3.2% monthly increase in November. The earlier strong increases are keeping the year-over-year rate high at 6.3%, although this is down from the 7.2% recorded in the previous month. On a core, or ex food and energy, basis, December prices were up 0.2% and 2.0% during the past year. The monthly increase was down from 0.4% in November, although the year-over-year rate was unchanged from the previous month.

The moderation in the overall monthly increase was largely a reflection of the 1.9% fall in energy prices in December after surging 14.1% in November. The moderation was tempered by a 1.3% rise in food prices after recording no change in the previous month. Upward pressure was evident in a number of food components, including fresh vegetables, beef and veal, and processed fruit and vegetables.

The moderation in core prices largely reflected a 0.9% drop in passenger cars after a 0.6% jump in November. Car companies are likely cutting prices to help move out the remnants of the old car lines as the 2008 models are rolled into the showrooms.

Today’s report indicates that earlier energy price increases are keeping the annual increase in producer prices high at 6.3%. The year-over-year increase in core prices is rising a much more moderate 2%, although this is likely at the upper end of what is deemed as acceptable by the Fed. As well, Fed Chairman Bernanke has gone to great lengths to emphasize that the Fed had not taken its eye off the risk of higher energy prices putting even greater upward pressure on the core measure. However, despite these risks, the near-term focus of the central bank is to ensure that the economic expansion continues in the face of the ongoing financial market volatility and attendant credit tightening. Thus, today’s report does not alter our view that Fed funds will be lowered a further 100 basis points during the first half of this year, with the first installment, a 50-basis point cut, coming at the conclusion of the next FOMC meeting in January 29-30.

16 comments:

Dorker said...

Okay, so it looks like we are running into some core inflation. Food is getting more expensive. So should I take my money out of term deposits earning over 4% and put it in something returning more. This money is just being saved for the purpose of a downpayment later on. If housing costs are not in core inflation, do I care? As long a housing is starting to go down or inflating by anything less than 4%, then I'm still retaining the value of my money for the purpose which it is (eventually) intended. Gold and stocks seem too volitile and risky. Comments?

BearClaw said...

I never understood gold. At least there is a yield on housing. Gold just sits their and shines.

BearClaw said...

there

Strataman said...

bearclaw "I never understood gold. At least there is a yield on housing. Gold just sits their and shines."
Its easy think of it this way, if you have a million dollars worth of gold commodities you can trade that straight across for a million dollars of oil, a M of las vegas chips, a M of pork bellies, a M of housing in any country in the world. If you have a M house you can't trade it straight across for anything because you have to research the houses" market value, you have to have it appraised, you have to spend a whole lot of time evaluating wether it is actually worth a million. With gold you can do it in five minutes.

Deliverator said...

I never understood gold. At least there is a yield on housing. Gold just sits their and shines.

Gold is money. It is by definition a currency and is listed as such by the IMF. When gold is rising against all currencies (as it has been), alarm bells should be going off in your head that there is inflation afoot.

And saying gold is not a useful metal is pure nonsense. It is not widely employed because of the price at which it is valued. Gold is a wonderful material: it's extremely workable, anti-corrosive, highly conductive, etc. If it were as abundant as copper, we'd be using it instead almost anywhere copper is employed.

patriotz said...

Over the long run gold maintains a constant real price because there's only so much of it and very little new supply is being added.

In other words it has a zero real return. Any actual investment, i.e. something that yields income, does better than that. Including housing of course.

Of course due to its gyrating price you can make money with gold if you outsmart everyone else. But everyone can't do that collectively. Like any commodity with no yield, the seller's gain is the buyer's loss. Just like baseball cards, etc.

Fencesitter said...

Off Topic:
Deliverator said...
[gold is] extremely workable, anti-corrosive, highly conductive, etc. If it were as abundant as copper, we'd be using it instead almost anywhere copper is employed.


Actually, copper is a better conductor than gold. The standard pecking order is: Silver, Copper, Gold, and then Aluminum. The beauty of gold is that it's relatively inert, so does not corrode. Just don't expect your gold speaker wires to perform better than good 'ol copper ones. :)

Deliverator said...

Actually, copper is a better conductor than gold. The standard pecking order is: Silver, Copper, Gold, and then Aluminum. The beauty of gold is that it's relatively inert, so does not corrode. Just don't expect your gold speaker wires to perform better than good 'ol copper ones. :)

Absolutely. It is Gold's inertness that would make it more useful. Imagine a house plumbed with gold - no more green stains in the tub and shower. And then there are other properties as well. Gold is incredibly malleable; an ounce of gold can be flattened to cover an acre with no holes. That's why the contacts on good stereos are made of gold.

My point wasn't to say that copper isn't useful. It was to point out that there would be many more uses for gold if it was cheaper. But it's not, and it won't be. Gold is 6 orders of magnitude below copper in terms of relative abundance in the earth's crust.

patriotz said...

But of course if gold were abundant enough for it to be an economic substitute for copper, it would have no use as money - except for fiat currency coins. It would just be another metal.

jesse said...

"alarm bells should be going off in your head that there is inflation afoot."

Oh really. Long term bond rates are not going up that much; one would expect they would in the face of higher inflation. So what does the gold market know that the bond market does not?

jesse said...

"there would be many more uses for gold if it was cheaper."

This is true with other commodities, not just gold, though gold's scarcity means its price is high. Gold is used as a currency but is subject to forces beyond just monetary policy of central banks, such as innovation of substitutes (e.g. using tin instead of gold in electronics manufacture) and new capacity (e.g. a new strike is found).

You can use gold as an inflation hedge if you want but if gold production markedly increases due to new strikes, don't be surprised if gold prices start falling, regardless of what the CPI does.

Something to consider is whether gold is currently subject to above average speculation. Gold is in many ways like housing so if you think there is a bubble in housing at least consider the same possibility for gold.

Metaldwarf said...

jesse said...

Oh really. Long term bond rates are not going up that much; one would expect they would in the face of higher inflation. So what does the gold market know that the bond market does not?


This is just my understanding of the Bond Market, I could be wrong. When people want a "safe investment " they buy Bonds. Bonds pay a set rate of return IE: 5%. As interest rates go up and bonds return higher rates ie: 7% the bond that returns 5% is worth less since it wont pay as much interest.

If my summary is correct I wonder if there are a bunch of bears that are timing the bond market. The "great collapse" hasn't happened yet, when/if it comes inflation will skyrocket, and BoC will pump up the prime rate to try and kill the inflation (ala 1980) now if I were to buy a bond today at say 5% it might be safe but when that crash comes and someone else can buy a bond at 10% my outlook isn't so great.

So essentially what I'm thinking is that maybe people are dumping money into gold, the "safest" investment and waiting for the bond rate to spike so they get a better yield?

jesse said...

"what I'm thinking is that maybe people are dumping money into gold, the 'safest' investment and waiting for the bond rate to spike so they get a better yield?"

The bond market is diverse enough that it being mis-priced to such a degree seems unlikely. You are more than welcome to speculate they have it wrong.

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M- said...

I wonder how heavily hedge funds are leveraged into gold...

A currency trading corporation I'm involved with has access to gold through our broker. Our broker lets us leverage ourselves up to 100:1. We don't go anywhere near that (we're ~15:1 this week), but we could, and if we wanted to, we could go heavily into gold.

Sure, we wouldn't physically have possession of the gold, but as long as paper money is dropping in value, our broker won't call us on it, and profits on gold trading could be recycled into other metals or currencies without liquidating the gold trade.

The question of risk comes into play, though-- what if hedge funds are doing this? If, say, copper takes a dive, my broker could issue a margin call and close all my trades. If lots of other corporations are also getting margined out of their gold positions, what happens to the price of gold?

I'm in the firm belief that gold's price right now is higher than it should be-- a bubble. The only question in my mind is how many more greater fools are going to pour money into gold before they run into trouble at home and have to turn that gold back into cash? The price could go up quite a ways before it collapses.

Drachen said...

"# The Commerce Department announced that housing starts fell 14 percent, month-over-month, in December. That's an incredible 38.2 percent lower than one year ago. And it will get worse. Building permits also fell sharply, down 8.1 percent month-over-month.

# Merrill Lynch announced a $10 billion dollar loss for the fourth quarter amid writedowns of $14.6 billion dollars of bad debt. "

From salon.com's how the world works blog.