Incomes on the Rise

There was a report out yesterday from the Commerce Department showing that American household income increased during May. Incomes were up by a wide enough margin that both total spending and total savings were able to increase during the month. Personal consumption had been flat in April, so it's nice to see that it edged upward in May.

This comes on the heels of Friday's report that business investment was picking up, with orders for goods like computers and machinery were up by 0.9 percent in May. The question is, if business is spending all this money, and people are making more money, why isn't it showing up in the unemployment figures?

It may be that, even though the numbers are positive, they're not strongly positive. Personal consumption rose by a minuscule 0.2 percent in May, which looks good in the context of some other recent figures but isn't exactly robust. And, as we noted, the increase in income was split between spending and savings, meaning it wasn't able to make much of an appreciable difference in either area. The numbers are moving in the right direction; the next step is for them to move with enough strength to help the economy get rolling again.

Highlights from Financial Reform

As you probably heard, the financial reform bill emerged from the conference committee on Friday, newly reconciled between the House and Senate versions. The plan now is to have the president sign the bill on the Fourth of July.

We'll have a full report on how this legislation will affect your financial interests, as well as how it will affect the larger economy, on the Echelon Wealth Strategies website in the next few days. In the meantime, here are some highlights:

* The so-called Volcker Rule survived in somewhat weakened form. Banks are prohibited from investing depositors' taxpayer-insured money in proprietary trading schemes. They are still able to invest up to three percent of what's known as tier I capital in private equity and hedge funds.

* Mortgage lenders are required to hold onto 5 percent of all the mortgages they issue, in hopes of preventing them from issuing risky, subprime motrgages we saw during the housing bubble. Loans to high-quality borrowers are exempt from this rule.

* The Consumer Financial Protection Bureau will be put under the control of the Federal Reserve, although the director is technically independent.

* The decision as to whether to force brokers to follow a fiduciary standard - to be required to always put their clients' needs ahead of their own - was put off until there could be further study on the issue from the SEC. This is unfortunate. Wealth managers such as myself are pledged to follow their fiduciary duty, and brokers should too.

Can the Fed See the Future?

We looked at the Fed's regular economic outlook yesterday (which as you recall called for very slow growth moving forward). How accurate are these forecasts? Let's take a look back at the Fed's reports from 2007, prior to the onset of the recession that November. Current Fed chair Ben Bernanke was in charge back then as well. Here are some excerpts:

January 2007: Recent indicators have suggested somewhat firmer economic growth, and some tentative signs of stabilization have appeared in the housing market. Overall, the economy seems likely to expand at a moderate pace over coming quarters.

May 2007: Economic growth slowed in the first part of this year and the adjustment in the housing sector is ongoing. Nevertheless, the economy seems likely to expand at a moderate pace over coming quarters.

August 2007: Economic growth was moderate during the first half of the year. Financial markets have been volatile in recent weeks, credit conditions have become tighter for some households and businesses, and the housing correction is ongoing. Nevertheless, the economy seems likely to continue to expand at a moderate pace over coming quarters, supported by solid growth in employment and incomes and a robust global economy.

October 2007: Economic growth was solid in the third quarter, and strains in financial markets have eased somewhat on balance. However, the pace of economic expansion will likely slow in the near term, partly reflecting the intensification of the housing correction. Today’s action, combined with the policy action taken in September, should help forestall some of the adverse effects on the broader economy that might otherwise arise from the disruptions in financial markets and promote moderate growth over time.

December 2007: Incoming information suggests that economic growth is slowing, reflecting the intensification of the housing correction and some softening in business and consumer spending. Moreover, strains in financial markets have increased in recent weeks. Today’s action, combined with the policy actions taken earlier, should help promote moderate growth over time. [NOTE: The economy was already in recession by this time.]

The Fed Speaks

That the Fed is going to keep interest rates low for the foreseeable future is the most immediate news that came out of Ben Bernanke's announcement yesterday, but just as significant was the Fed's outlook for the economy. As we mentioned earlier in the context of the leading economic indicators, the forecast is for the economy to contain expanding, but at an excruciatingly slow pace.

The key is in the details here: Whereas the Fed said "economic activity has continued to strengthen" in April, the last time it concluded one of these two-day meetings, now it says the economic recovery is merely "proceeding." The big issues seem to be the continuing troubles in Europe and a housing market that appears to be slowing again. While the previous Fed report noted that housing had "edged up," that language was absent from the most recent report.

Was there any good news in the Fed report? You have to look carefully, but there are a couple of things moving in the right direction. "Household spending is increasing," for one thing, and "business spending on equipment and software has risen significantly." And inflation remains something the Fed is almost entirely unconcerned about. Aside from that, we may be muddling along in our present economic situation for some time to come.

The Analysts Miss Again

There was a fascinating article on Bloomberg News yesterday pointing out that when it comes to the stock market, no one really knows what exactly the future will hold. Bloomberg went back and looked at stock analysts' recommendations from the beginning of the year and found that the stocks they liked the least have in many cases performed the best.

Wall Street was especially bearish on banks back then. Two banking companies were among the top ten stocks with the highest percentage of sell ratings: Zions Bancorporation, in Salt Lake City, and Huntington Bancshares, in Columbus, Ohio. Zions is up 86 percent on the year, and Huntington is up 66 percent. In that top ten group, seven of the stocks have advanced in 2010, despite the fact that the S&P 500 overall is down slightly on the year.

At the other end of the scale, Bloomberg found that Coca-Cola had 14 buy ratings and only one sell rating at the beginning of the year, but it's lost 8 percent of its value in 2010. Pfizer was recommended by 81 percent of the analysts Bloomberg found, but it's dropped 17 percent this year. Not that it makes sense to consciously go against the recommendation of Wall Street, but this just goes to show once again that when it comes to stocks, you never know.

Fears of a Boomer

Here's another measure of economic confidence, coming from a different direction than yesterday's survey: Allianz Life Insurance found that American baby boomers fear outliving their life savings in retirement more than they fear death itself. According to the survey, 61 percent of boomers are more afraid of living out their days penniless than they are of dying.

A lot of this is clearly the result of simply not knowing what the future holds and how to plan for it. Only about half of the baby boomers surveyed said they felt comfortable assessing how much income they'd need to live comfortably in retirement. And 31 percent say they're not even sure what their expenses would be once they're retired.

Helpfully enough, by dealing with the knowledge and strategies required to put a reasonable retirement plan in place, we can simultaneously deal with the fear of outliving your savings. If you're unsure of how much income you'll need to retire in the lifestyle you've become accustomed to, feel free to give me a call.

What Fund Managers Are Thinking

When you're interested in what people think about the economy, it's generally wise to ask those who are forced to put their money where their mouth is. BofA Merrill Lynch surveys investment fund managers worldwide every month, and the global trends there are not good. A net margin of 24 percent of June's responding fund managers* think the worldwide economy will grow over the next 12 months. That's down from a net margin of 42 percent in May and 61 percent in April.

Remember, this is the worldwide economy we're talking about, and the biggest culprit in the downward trend here is Europe. A margin of 7 percent of all fund managers in Europe expect the European economy to improve over the next year, down from 23 percent in May. The number of fund managers thinking European earnings would improve over the next year was a net of 74 percent in April; that number has fallen all the way to 20 percent.

Is there any good news in the survey? A net margin of 38 percent of all fund managers think stocks are currently undervalued, the biggest margin this survey has found in over a year. That's the kind of confidence survey that might actually have an effect on the economy - if fund managers think stocks are a good value right now, they're the people in the best position to start buying them up.

*This is the odd way BofA Merrill Lynch has chosen to report the survey numbers; it means that, in this case, the difference between the number of fund managers expecting the economy to grow and those expecting it to shrink is 24 percentage points.