The stock market assumed a decidedly bearish tone last week, in the face of apparent domestic political instability, increasing geopolitical tensions and, most important, a continued flow of hard economic data reflecting an economy that is in recession (click image to enlarge).
The SPX declined 3 out of the 4 trading days this last week to close down 1.1% from the previous Friday’s close. It’s down nearly 3% from the all-time high it hit on March 1st. Thursday’s big red bar took the SPX below the 50 dma. On all four days the SPX closed well below its intra-day high. This indicates to me that, at least for now, stock market traders are better sellers. Also of interest, for the first time in seventeen years, the stock market declined the day before the Good Friday market holiday.
The growth in loan origination to the key areas of the economy – real estate(NYSEARCA:IYR), general commercial business and the consumer – is plunging. This is due to lack of demand for new loans, not banks tightening credit. If anything, credit is getting “looser,” especially for mortgages. Since the Fed’s quantitative easing and near-zero interest rate policy took hold of yields, bank interest income – the spread on loans earned by banks (net interest margin) – has been historically low. Loan origination fees have been one of the primary drivers of bank cash flow and income generation. Those four graphs above show that the loan origination “punch bowl” is becoming empty.
HOWEVER, the Fed’s tiny interest rate hikes are not the culprit. Loan origination growth is dropping like rock off a cliff because consumers largely are “tapped out” of their capacity to assume more debt and, with corporate debt at all-time highs, business demand for loans is falling off quickly. The latter issue is being driven by a lack of new business expansion opportunities caused by a fall-off in consumer spending(NYSEARCA:XLY). If loan origination continues to fall off like this, and it likely will, bank earnings will plunge.
But it gets worse. As the economy falls further into a recession, banks will get hit with a double-whammy. Their interest and lending fee income will decline and, as businesses and consumers increasingly default on their loans, they will be forced to write-down the loans they hold on their balance sheet. 2008 all over again. (The commentary above is an excerpt from the latest Short Seller’s Journal).
Despite the propaganda coming from the media, the housing market is in trouble. 37% of all transactions in 2016 were flips. A flip double-counts a sale because the house trades twice before it ends up with the end-user. I would bet that in the $300-$600k price-bucket that close to 50% of all transactions YTD in 2017 have been flips. This is how the mid-2000’s housing bubble ended.
Today the housing starts report for March registered the biggest drop in four months. Single family starts plunged 32% in the midwest and 16% in the west. Both multi-family and single-family starts dropped. Multi-family is going to be a big problem. Prices in NYC and Miami are dropping like a rock and vacancies are soaring because of oversupply – just like in 2007. Apartment rental rates are falling quickly and vacancy rates soaring across all the major MSA’s. Manufacturing (NYSEARCA:XLI) output plunged in March, likely reflecting bulging car inventories at auto dealers, which are at a post-2009 high. OEM auto manufacturers are closing plants and laying off workers. The latter, no doubt, will miraculously fail to register in the Governments next employment report.
Meanwhile, the stock market continues disconnect from underlying economic reality.
Auto, retail and restaurant sales are plunging. The explanation for falling retail sales is simple: real average weekly earnings have dropped two months in a row. The consumer, as I’ve been suggesting, is tapped out on two fronts: disposable income and the capacity to take on more debt.
Despite the obvious intervention in the stock market by the Fed and the Government, via the Treasury’s Exchange Stabilization Fund, plenty of stocks are tanking. As an example, I recommended shorting Kate Spade (KATE) to my Short Seller Journal subscribers about a month ago at $23.50. The stock is trading at $18 this morning – 23% gain if you shorted the stock and even more if you used puts.