More bad economic news…

U.S. retail sales for April rose at the slowest rate of 2012. While the retail sector was expected to continue its torrid pace of consumer spending increases in 2012, this report proves my theory: lack of a real winter (because of much better than usual weather in January and February) on the east coast this year resulted in consumers going out and doing their spring shopping early.

To get the real picture on consumer spending, we need to remove car sales, filling up at the local gas station, and building materials from the retail sales numbers to get core retail sales. Core retail sales came in at 0.1% in April (source: Department of Commerce), well below the consensus economic forecast of 0.3%.

April core retail sales in the U.S. were at their lowest level since December of 2011—a poor sign for the fragile retail sector.

What was the big soft spot in April retail sales? It was weak sales at the clothing stores and at the department stores that weakened the retail sector considerably for April.

Sales at building materials stores in the retail sector also experienced a weak April. Obviously these areas were affected by the warm weather and Easter being moved up to March this year.

Let’s face the facts…

If economic growth was strong and the economic recovery was really taking shape, retail sales would have been stronger in April. Instead, there is no follow-through to that short burst in real sales earlier in the year.

The main problem, as I’ve cited countless times in these pages, is that real disposable income is not increasing. How can consumer spending, which is 70% of gross domestic product (GDP), grow when people’s real purchasing power is falling?

The Home Depot, Inc. (NYSE/HD), one of the key components of the retail sector, recently reported weaker than expected earnings because, despite a strong February and March due to warm weather, sales fell off more than expected in the month of April.

Do Home Depot’s financial results suggest that consumer spending will be weaker moving forward? I think they do.

With the unemployment rate remaining relatively high and real discretionary spending not rising, strong retail sales reported in February and March of this year were just an anomaly due to the warm weather.

Now that spring is here and the average consumer is worse off than he/she was before the year started, the retail sector will struggle.

Signs of the weakening U.S. economy are evident everywhere I look (see: U.S. Durable Orders Post Biggest Drop in Three Years). Again, consumer spending makes up 70% of U.S. GDP. And if consumers are not spending, GDP growth will suffer.

Michael’s Personal Notes:

When North America was coming out of its financial crisis, we were fortunate that the emerging markets—especially the growth in the Chinese economy and Indian economy—helped provide some of the growth that the world so desperately needed at the time.

A few short years later, with Europe in a recession and the U.S. economy not growing very much at all, the dependence on Asia has changed. The fact is that the Chinese economy and the economy of India are slowing measurably.

In India, manufacturing production in March 2012 fell 4.4% from a year earlier. This slowdown is blamed squarely on the recession in Europe.

What is more alarming is that the “investment indicator of capital goods output,” which measures how future investment in manufacturing is looking, fell 21% in India from last year!

If this is not an economic slowdown, I don’t know what is.

The central bank of India had forecast 7.6% growth for the coming year, but that will have to be taken down significantly in light of these numbers. The central bank of India is looking for ways to stop the economic slowdown, including lowering interest rates.

While not contracting, the Chinese economy is slowing considerably. In April, China’s industrial output slowed to its lowest level since 2009!

In April, the employment level in the manufacturing sector, which is so important to the Chinese economy, fell at the fastest rate since 2009!

The month-over-month increase in industrial output between March and April this year in the Chinese economy was 0.35%, which was the lowest growth rate ever recorded since the index was created decades ago!

In response to the economic slowdown, the People’s Bank of China reduced its banks’ reserve requirements (equivalent to cutting interest rates here in the U.S.) by one-half-of-a-percent. The People’s Bank of China sees further downside risks to the Chinese economy, which means it could cut rates further a month from now.

There is no doubt that the Chinese economy is feeling the effects of the recession in Europe in terms of its exports (as is evident by the industrial and manufacturing numbers). Retail sales in China grew at a slower pace than expected in April, further adding to the evidence of an economic slowdown in the Chinese economy.

While it helped tremendously to have the Chinese economy and Indian economy as great sources of growth when the U.S. financial crisis hit, they will not be there to support the global economy on the next leg of the downturn. (Also see: World Economic Growth Moving From Slowdown to Contraction.)

Where the Market Stands; Where it’s Headed:

Update and reiteration from yesterday…

Last fall, I circulated a report that stated the stock market would start to crash in the U.S. on or about April 13, 2012. It was entitled “Next Market Crash Starts April 13, 2012.”

I was exactly two week early. From the end of April to yesterday, the Dow Jones Industrial Average has collapsed 896 points, or about seven percent.

But we should not be afraid. Money printing will save the day again.

Wednesday of this week, we got news that several members of the Federal Open Market Committee (the Federal Reserve) said that more monetary easing (money printing) may be required. As I have been predicting for months, as soon as the stock market started to pull back, QE3 would be on to the table again.

What a concept. Stock market and economy start to go down; we just print more money to get them both moving again. How long can this process go on for? How long can the Fed fight the natural forces of a secular bull market?

The bear market rally in stocks that started in March of 2009 is getting close to the end of its cycle. I have been warning my readers that the limited upside for the market may not be worth the risk.

What He Said:

The year “2000 was a turning point of consumer confidence in high tech stocks. 2006 will be remembered as the turning point of consumer confidence in the housing market. That means more for-sale signs going up, longer time periods to sell homes, bloated for-sale inventory and eventually lower prices for homes. But this time, the turnaround in consumer confidence will have a bigger impact on the economy. Hold onto your seats, this is going to be a nail biter.” Michael Lombardi in PROFIT CONFIDENTIAL, August 24, 2006. Michael started talking about and predicting the financial catastrophe we began experiencing in 2008 long before anyone else.

U.S. consumer credit jumped in March 2012 by the most in over a decade (source: Bloomberg, May 7, 2012).

Sure, we heard the usual bullish economists and election-hungry politicians say, “Here’s proof that consumer spending and consumer confidence is improving.”

But a look closer look at the number reveals more of the same for consumer confidence and what’s ahead for the remainder of 2012…

The big jump in U.S. consumer credit in March didn’t come because of consumer spending; the big jump came as a result of more student loans and more car loans.

With the U.S. unemployment rate high and youth unemployment at 13.2% here in the U.S. (source: Bureau of Labor Statistics), it is no wonder people who cannot find work are returning to school. This doesn’t feel like consumer confidence to me. (Also see: U.S. Durable Goods an Ominous Sign.)

Congress is thinking of raising interest rates dramatically on new student loans taken after July of this year; hence people are jumping on the “go back to school” bandwagon now.

As for those car loans, financial company Nomura Group just released a research note stating that the average age of cars on the road in the U.S. is more than 10 years old—the oldest on record!

The research goes on to say that strong buying of new cars is probably a necessity and not a reflection of true consumer demand, because the old clunkers will simply give out at some point.

Doesn’t sound like a vote for consumer confidence or for consumer spending going forward.

I have written in these pages about multiple studies here in the U.S. that have detailed the plight of the average American; namely, dipping into their savings or borrowing to make ends meet.

There is another study that has just been released that puts a damper on the supposed consumer confidence and consumer spending recovery.

Connecticut-based LIMRA Research conducted a survey the results of which found that 49% of Americans were not saving for retirement. More than half of those who weren’t contributing said they couldn’t afford to. An incredible 56% of those surveyed, from the ages of 18 to 34, said they were currently not contributing to a pension plan.

This is a retirement crisis, as these people will have to work during their retirement to make ends meet. How can we get consumer confidence going under this scenario?

Forget what the mainstream media and politicians are telling you; this is not a sign of consumer confidence, but consumer distress. This is not a sign of future consumer spending, but of spending contraction. (See: “Economic Recovery” Theory Debunked.)

How will the balance of 2012 go? Terrible. If the economic statistics are any indication, consumer confidence seems to be an illusion. As I have been predicting, the economy will deteriorate as we move along in 2012.

A recession is sailing into America. I just can’t figure out if it coming across the Atlantic from recession-ridden Europe or across the Pacific from economically slowing China.

Michael’s Personal Notes:

Do the politicians really have any idea what is going on?

It was only a few weeks ago that the prime minister of Spain said the country’s banks were so sound that they required no government bailouts.

Fast forward…

Last week, the government of Spain was forced to provide a government bailout for Spain’s third-largest bank; the bank with the greatest exposure to the collapsing Spanish housing market.

The problem is that Spain’s economic expansion prior to 2008 was based on a housing market boom. Spain’s banks were overleveraged in their lending practices. That is, for example, they lent out $6.00 for very $1.00 of money they actually had on their books.

In good times (like in the U.S. prior to 2007), the banks can handle this leverage, because the housing market is moving up. But when the market collapses, there is no money to pay for that debt; hence the government bailouts.

Unfortunately, unlike the U.S. that can print money to bail out its banks, Spain cannot provide the government bailout money required, because it simply doesn’t have the money to do so. The (central) Bank of Spain is saying that the amount that Spain would need to put aside to help its troubled banks is €175 billion. But what the government bailout provision leaves out is that there is €1.4 trillion in loans that are vulnerable (source: Bloomberg, May 10, 2012).

A staggering amount of corporate and housing market debt is in jeopardy, because the Spanish banks are in trouble. The main reason why Spain’s banks are not making money is that Spain is in a recession. In the first two quarters of 2012, Spain’s GDP contracted 0.3%.

While the Spanish economy contracts, one-in-four people in Spain are unemployed and one-in-two young people are unemployed!

With the government admitting that economic growth is continuing to fall, this puts pressure on corporations in Spain and on their debt, which the Spanish banks are exposed to, potentially requiring further government bailouts.

The Spanish housing market has lost 30% since 2008 and shows no signs of slowing as more homes are left empty and the high unemployment rate is pushing prices lower. This means the housing market debt on the books of Spain’s banks is worth less and less.

Although the Spanish government is putting on a brave front, the only way it can support the €1.4 trillion in debt is if its revenues increase or it prints money. With one in four people unemployed in Spain, government revenues are falling, not rising. As for money printing, Spain is part of the eurozone. Germany is steadfastly against printing euros because of the inflation risk money printing presents.

If this seems like a perfect death spiral, wait; there’s more!

Germany understands what is occurring and realizes that the Spanish government is going to need a government bailout from Europe, because the Spanish government doesn’t have enough money.

Germany wants Spain to stick to the austerity measures and so reduce its budget deficit. With a contracting economy and high unemployment and with government bailouts of the banks, this will not be possible.

Yes, it is a perfect death spiral. The European Union is falling apart at the seams. This will put further pressure on the earnings of American corporations and on the U.S. stock market.

Where the Market Stands; Where it’s Headed:

We are in a bear market rally in stocks that started in March of 2009. The rally is now more than three years old, so I would classify it as a typical post-crash rally. However, the bear market rally is getting old and tired.

While the purpose of a bear market rally is to lure investors back into stocks (this rally has done an excellent job of it), there are now clear signs that economies worldwide are slowing. We are getting close to a top for stocks unless the Fed drops QE3 on us faster than we thought it would.

What He Said:

“I’m getting very worried about the state of the U.S. housing market and its ramifications on the economy. The U.S. could be headed for its first outright annual decline in home prices on record, adjusted for inflation. And I really believe this could be a catastrophe for the U.S. economy.” Michael Lombardi in PROFIT CONFIDENTIAL, August 2, 2006. Michael started talking about and predicting the financial catastrophe we began experiencing in 2008 long before anyone else.

U.S. gross domestic product (GDP) growth in the first quarter of 2012 came in at 2.2%, down from the three-percent GDP growth of the fourth quarter of 2011 (source: Bureau of Economic Analysis). Economists had expected first-quarter GDP growth of 2.2%, so the numbers disappointed. But, in all reality, 2.2% GDP growth is good considering the state of other economies around the world: Europe and the U.K. are officially in a recession, while China is slowing considerably.

After two consecutive monthly declines, real disposable personal income in the U.S. (removes taxes and inflation from income to provide a better gauge of a consumer’s real purchasing power) increased by a mere 0.2% last month.

So, if consumer spending makes up 70% of U.S. GDP, and there has been no real growth in personal income, how did GDP grow 2.2% in the first quarter of this year? The answer: Consumers dipped into their savings, sending the savings rate to the lowest level since before the crisis, in 2007.

There was no strong income growth to justify consumer confidence and GDP growth; consumers dipped into their savings. I doubt consumers can keep tapping their savings for the remainder of the year to keep GDP growing.

The news gets worse. Business investment in infrastructure spending actually declined in the first quarter. So we have the consumer getting into more debt and the job creation engine of business not investing in infrastructure, which means little chance of job creation in future quarters.

“Everything’s fine with the U.S. economy and GDP growth,” is what one would believe reading the mainstream media. Be very careful, dear reader.

A total of 0.6% of the 2.2% GDP growth in the first quarter came from inventory building. This number was surprisingly high considering how inventory build-up made the fourth-quarter GDP growth numbers look stronger than they actually were.

The shelves are full of inventory, but consumers are very indebted and real disposable income is declining, which means consumer confidence will not materialize. The only hope was to create more jobs, but business investment fell in the first quarter.

Obviously, U.S. GDP growth in the first quarter outperformed that of many countries around the world, especially considering the fact that the U.K. and many countries in Europe are already back in recession. However, once the U.S. GDP growth figures are looked at closely, there really is nothing to smile or cheer about.

We are far from out of the woods with the U.S. economy. Again, many European countries are back in recession. China’s economy is slowing quickly. It will not take much for the U.S.’s already weak GDP numbers to collapse…putting us back into recession much faster than most people think possible. (See: U.S. Durable Orders Post Biggest Drop in Three Years.)

Michael’s Personal Notes:

Some are arguing that the U.S. housing market has bottomed.

U.S. homeownership fell to 65.4% in the first quarter of 2012 (source: Bloomberg, April 30, 2012). Homeownership of 65.4% means that of all the occupied housing units in the U.S. housing market, 65.4% were occupied by the actual owner. This is down from the record 69.2%, which was set at the height of the housing market bubble in 2004.

The 65.4% U.S. homeownership level is also the lowest seen in 15 years!

I believe the homeownership rate will continue to drop in the coming years. As I’ve written in these pages, more people are deciding to rent instead of buy in the U.S. housing market.

The main reasons for renting are that banks are not lending out to people. Mortgages are hard to get. Secondly, real disposable incomes are not rising at all for people to justify entering the housing market—the average American is not feeling wealthy; they feel they are just getting by. A third reason is that the record $1.0-trillion in student loans will restrict many first-time home buyers from getting a mortgage, because they already have too much debt.

Another good reason people are deciding to rent: like the stock market, after people have been burned or have family members and friends that have been burned by stocks, one tends to stay away from the stock market in general. The housing market is no different, especially after the horrible collapse of 2007 and the lingering pain many are still feeling today.

The Mortgage Bankers Association (MBA) released its latest housing market report for the fourth quarter of 2011. Its survey covers almost 44 million homes in the U.S. housing market (33% of all homes in the U.S., which is why I believe it is a dependable survey).

The MBA rated all mortgages in the U.S. for delinquency, which means that payments from homeowners are at least 30 days past due. The delinquency rate in the housing market fell to 7.6%, well below the highest level reached in 2010, 10.2%. But these numbers are still dangerously high. After recessions and in an economic recovery, this figure should be half that.

The foreclosures rate in the U.S. still remains very high, as confirmed by RealtyTrac, which estimates the numbers of homes in foreclosure at 5.6 million. As I’ve been writing in these pages, home foreclosures should continue to rise in 2012.

This means that more empty homes will enter the housing market, further putting pressure on home prices. CoreLogic released its “Real House Price” Index for February 2012, which adjusts for inflation. Home prices in February of 2012 are now back to levels last seen in the housing market in May 1999. Case-Shiller’s “Real House Price” Index adjusted for inflation in March of 2012—for its 20-city composite—and is back to levels not seen in the housing market since the fourth quarter of 1998.

The ideas that the housing market has bottomed and foreclosures are a thing of the past are simple fallacies.

Where the Market Stands; Where it’s Headed:

Let’s face the facts: there is a lot of money in the financial system (thank you, Federal Reserve); 10-year U.S. Treasuries continue to yield less than two percent; and the stock market is one of the most attractive places for an investor to park his/her money.

But we must not forget that the stock market trades at a multiple of company earnings. My argument is that the economy will not get better and that it will weaken. As the economy weakens, corporate profits will fall. A policy of keeping interest rates so low for so long, coupled with $2.0 trillion in money printing, make for very inflationary factors. Inflation goes up, interest rates rise, the stock market plummets. That’s how it’s always worked. (See: Getting Ready for the Next Economic War: Interest Rates.)

We are getting close to the top of a bear market rally in stocks that started in March of 2009.

What He Said:

“Many of today’s consumers have purchased properties with very little down payment. They’ve been enticed by nothing-down, interest-only, second and third mortgages. Bottom line: The lower interest rate environment sucked consumers into the housing market big-time. And that will eventually cause us all problems.” Michael Lombardi in PROFIT CONFIDENTIAL, June 22, 2005. Michael started warning about the crisis coming in the U.S. real estate market right at the peak of the boom, now widely believed to be 2005.

The U.K. has joined the double-dip recession club in 2012. More members will be dragged into the club; kicking and screaming all along the way.

Officially, a recession is defined as two consecutive quarters of negative gross domestic product (GDP) growth. In the fourth quarter of 2012, the U.K. economy—GDP growth—shrank by 0.3%. In the first quarter of 2012, GDP growth contracted by 0.2% (source: The Telegraph, April 26, 2012).

This is the first double-dip recession the U.K. has experienced since 1975, and the citizens are not too pleased.

Since many countries within the European Union are the U.K.’s main trading partners, one area that brought down the U.K.’s GDP growth was exports to the European Union. From the fourth quarter of 2011 to the first quarter of 2012, exports of goods from the U.K. to the European Union fell 1.2%, while exports to the rest of the world were actually up (source: The Guardian, April 26, 2012).

Year-over-year, from the first quarter of 2011 to the first quarter of 2012, exports to the European Union were down 3.3%, while exports to the rest of the world were slightly higher. As a result, the U.K. manufacturing sector contracted, dragging down GDP growth.

Construction spending and retail sales were also weak in the first quarter of 2012, which illustrated the fact that the citizens of the U.K. were unable to push GDP growth figures higher.

The U.K. is attempting to implement its own version of austerity measures to reduce its level of debt. Now many are asking the government to relax its stance to focus on growth instead in order to help consumers and hopefully spur GDP growth.

Naturally, should GDP growth continue to contract, U.K. citizens would want a further reduction in interest rates and more money printing. Yes, the Federal Reserve is not the only central bank that is printing money in order to boost GDP growth. (Also see: Next European Country to Default: Why it Means More Money Printing.)

However, reducing interest rates and printing more money is an issue, because rapid inflation remains stubbornly high. The latest U.K. Consumer Price Index (CPI) reading came in at 3.5%.

Rising food and clothing prices are the main culprits behind the persistence of rapid inflation in the U.K. The government believes the rapid inflation is transitory and should come down to its two-percent rapid inflation target by the end of the year. Hmm…sounds familiar.

The problem in the U.K., link in the U.S., is that incomes are increasing at rate that is substantially below the inflation rate. In the U.K., inflation-adjusted personal income is falling by 2.4% annually.

With many countries in the eurozone in recession, with the U.K. now in recession, while China’s GDP growth rate is falling at an accelerated rate, the recession “ship” could be headed straight for the shores of the U.S. economy.

Michael’s Personal Notes:

Orders for U.S. durable goods fell 4.2% in March from February’s level, representing the largest falloff in three years (source: Department of Commerce)!

The durable goods report is an important gauge of an economic recovery, because it focuses on big-ticket items that are purchased by businesses and consumers, which are meant to last at least three years; a sign of longer-term business and consumer spending and confidence.

Last month, I presented a chart in these pages to highlight the record amount of durable goods inventory being created in this country. Well, the record inventory levels continued into March, making it the 27th consecutive month of inventory increases. There had better be a strong economic recovery or someone will be stuck with $375.1 billion in durable goods on inventory-stacked shelves.

As my readers know, to get a better gauge of how consumer spending is faring in this economic recovery, I like to use the new orders numbers, which remove defense spending and aircraft orders out from the durable goods numbers reported. In March, non-defense capital goods excluding aircraft contracted by 0.8%, while economic expectations were for a one-percent gain.

This clearly does not bode well for consumer spending and the economic recovery in this country.

There are serious other forces at work.

U.S. durable goods by their very nature must be manufactured here in the U.S—they are goods after all. In 2010, manufacturing contributed to 1.2% to GDP growth. In 2011, manufacturing contributed only 0.5% to GDP growth (source: Bloomberg, April 25, 2012), denting the GDP numbers and economic recovery. The trend has continued thus far in 2012, with manufacturing slowing. Obviously, this is a reflection of a weak economic recovery and weak consumer spending here in the U.S.

The largest manufacturers here in the U.S. are experiencing reduced demand from China. Caterpillar Inc. (NYSE/CAT) beat analyst estimates with their first-quarter earnings report, but then noted that, for 2012, their previous forecast of five percent to 10% growth from China has now been changed to a decline (source: Financial Times, April 29, 2012)!

Luckily, they see growth in the U.S. Not from an actual economic recovery, but from the fact that construction companies need to replace their very old machinery.

E.I. du Pont de Nemours and Company (NYSE/DD) was stunned to report that, while Latin American earnings grew 23% in the first quarter, revenues from Asia fell two percent.

3M Company (NYSE/MMM) cited a considerable slowdown in both Japan and China that could impact its earnings in 2012.

For the first quarter of 2012, United Technologies Corporation (NYSE/UTX) reported 20% growth in Brazil, India and Russia, but was stunned when Chinese orders dropped by 15%.

(Also see: Many Public Companies Predicting Soft Earnings for Balance of 2012.)

Should the recessions in the eurozone continue (and they will), it will affect China, because Europe is China’s largest export market. If China experiences no economic recovery as a consequence of Europe continued economic contraction, it will affect the U.S. manufacturers that sell into China, jeopardizing the U.S. economic recovery.

Not only will the U.S. economic recovery be affected by weak U.S. consumer spending, but also exports could fall because of China. So if you want to buy this stock market rally on the hopes that the recession in Europe and the slowdown in China don’t matter to the U.S., then by all means…

Where the Market Stands; Where it’s Headed:

The Dow Jones Industrial Average opens this morning at approximately 1,000 points below its record high set in October of 2007. Quite a feat? Not really.

A multi-year history of artificially low interest rates, a 50% increase in government debt in five years, and trillions of dollars in newly printed money are the real reasons the stock market is up. Take these three factors away and corporate America would be in real trouble.

But the bottom line is that borrowing and money printing cannot go on for years, as both events cause inflation, which pushes interest rates higher. I still believe there is life left in the bear market rally that started in March of 2009, albeit limited life. Trend carefully, dear reader.

What He Said:

“When property prices start coming down in North America, it won’t be a pretty sight, because consumers are too leveraged. When consumers have over-borrowed so much that they have no more room in their credit lines to borrow more, when institutions start to get tight on lending, demand for housing will decline and so will prices. It’s only a matter of logic, reality and time.” Michael Lombardi in PROFIT CONFIDENTIAL, June 23, 2005. Michael started warning about the crisis coming in the U.S. real estate market right at the peak of the boom, now widely believed to be 2005.