Investor Complacency Ends – Market Decline Underway

(Ed Note: This is an excerpt from Josef Schacter’s 15 page Energy Report)

The risk on trade of the last three months, as the central bankers announced another round of quantitative easing, now appears to have ended as worries about the US “fiscal cliff” and the ongoing debt crisis in Europe once more impacts investors. The “risk off” trade has returned. Bond prices are on the rise again, and the long US Treasury Bond would signal another round of significant “risk on” focus with a rise above 149. On November 6th the US has one of the most seminal elections in its history. Both candidates for the top job have evaded the issue of how they would cut the trillion dollar annual budget deficit and bring the overall government debt burden under control. It should be a hard fought and very tight race. The winner may in fact be a loser, as they are forced by the markets and the “fiscal cliff “cuts that take affect on January 15th, 2013, to tell the American people that the government has been living a lifestyle that can no longer be afforded and that tax increases and significant cuts to popular spending programs and entitlements would need to occur. If the winner does not take charge and make the tough choices quickly, nearly 5% of GDP will be removed (in an economy barely growing at 2%) as spending cuts and taxes rise. Another recession in the US would unfold quickly and, would in short order, drag down the world with it.

Economic Releases Warn of More Trouble Ahead

We continue to watch for “at the margin problems” in the world economy that would highlight an upcoming synchronized slowdown and problematic period. These are some of the recent events that are weakening the underpinnings of the current positive consensus view and may indicate that many parts of the world will face a pronounced slowdown and possible recession in 2013.

Europe

• France continues down its path of solving its fiscal deficit via tax increases. The marginal income tax rate is being lifted to 75% and the capital gains rate has been proposed to be doubled to 60%. Interestingly, the biggest opposition to this increase is coming from young entrepreneurs who are campaigning in favour of new business creation and the upside win if successful via capital gains. Their call of “les pigeons” or “suckers” for taking the risk of starting new businesses is gaining traction and the government is looking at taxing passive gains at the higher rate and are looking to propose a lower rate for job creating entrepreneurs.
• European car sales continue to collapse. In September sales fell 11% to 1.13M registrations, the lowest level in 19 years according to the European Automobile Manufacturer’s Association.
• Spain is edging closer to a bailout request from the ECB as bad bank loans rose to 10.5% of all loans (and larger than their equity). This amount now is 178B Euros and is larger than the proposed 100B Euro bailout for Spanish banks.
• Greece needs a new funding deal (and the next installment of new loans) from the EU/IMF in the next 30 days or it will run out of funds to pay its bills. D-day or default day is closing in again

China

• China’s auto sales fell in September 2012 by 1.8% – the first such decline in many years, as the weakening economy impacted demand and the ongoing dispute with Japan over the Diaoyu Islands escalated and plunged sales of Japanese car sales by 41%. Commercial vehicles sales in China, fell by a more disconcerting 7.6%. Overall, the dispute between China and Japan is taking a severe toll on the Japanese economy which saw overall exports fall by 10.3% in September. Japan may now be entering its second quarter of its next recession.

US

• US third quarter earnings have been somewhat disappointing and most importantly the negative guidance for Q4/12 and into 2013 has spooked investors. Such noteworthy companies as: Amazon, Caterpillar, DuPont, Google, IBM, McDonald’s Microsoft, Texas Instruments and Xerox have noted their concern for the upcoming year. Stocks had been priced for quantitative easing monetary policy heaven, and are now reacting to real world profit deterioration. A 20-30% price decline may be needed to fully discount the ongoing fiscal and economic problems. 

Markets still have big downside risk – be careful!  Hold large cash reserves. Be ready to buy during upcoming tax loss selling season into mid-December – Josef

About Josef Schacter

Josef is one of Michael Campbell’s favorite analysts. He writes research reports for:

Maison Placements Canada Inc.

2116-130 Adelaide Street West

Toronto, Ontario

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Telephone:    416.947.6040

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