May be the American Consumer
Isn’t Wrong This Time

The American consumer seems to have given up on investing in real estate or buying stocks. But maybe, just maybe, the American consumer is not wrong this time. Is this an alarming picture?

The government has thrown trillions of dollars at saving the economy. Bernanke’s Fed has pulled rabbit after rabbit out of the hat to jump start the economy, keeping interest rates artificially low and significantly increasing the money supply.

But, despite all the good intentions of the government and the Fed, despite such a favorable interest rate environment in which to make investments, household wealth in the U.S. continues to deteriorate. In fact, a report yesterday from the Federal Reserve stated that the net worth of households has not dropped for the past two straight quarters.

Hmm… Interest rates are near zero. The stock market’s been rising since 2009. They tell us that the U.S. real estate market has bottomed out. Government figures show the recession is over. So why are U.S. households getting poorer as opposed to getting richer?

The answer, my dear friend, is simple. Consumers have been on an asset-purchasing strike for three years now. They don’t care if they can get long-term mortgages at record-low interest rates. I’ve often written that retail investors missed the stock market rally that started in March of 2009. And, instead of buying real estate at depressed price levels with interest rates so low, consumers continue to avoid the U.S. housing market. (See: So They Say the U.S. Housing Market Is Getting Better? Read This.)

In the period after World War II, Americans went on a financial leveraging binge. The leveraging (borrowing money to make major purchases and investments) peaked in 2005. Since 2006, a great American consumer deleveraging has been taking place in spite of interest rates collapsing. It’s been four years now that Americans are paying down their debt instead and increasing their savings.

A household’s net worth can’t increase if a family doesn’t invest in assets that can rise in value. Home ownership, my dear reader, is passé. Retail investors have given up on stocks, too.

But maybe, just maybe, the American consumer is not wrong this time. Why buy more (or investment) real estate if interest rates are destined to rise? (See: Why We Can’t Have a Sustained Economic Recovery.) We all know investment real estate prices fall when interest rates rise. And why buy stocks? Investors have been burned so many times before in stock booms that went bust. And won’t the stock market fall when interest rates eventually rise?

This is why the economic turnaround in America is taking so long to get going. The American consumer, who accounts for 70% of U.S. GDP, is very timid. Consumers are deleveraging and increasing their savings despite record-low interest rates. It will take years for this current consumer psychology of, “I’ve been burned so many times I don’t want to take a risk,” to change, and hence years for true economic growth to return toAmerica.

Michael’s Personal Notes:

There’s nothing I love more than a good, old-fashioned, American company success story…especially since they are so are to come by these days.

Yesterday, Ford Motor Co. (NYSE/F), the number two U.S. automaker, announced that it was reinstating its dividend payments for the first time since 2006. Ford, as you may recall, was the only major car company that did not go to Washington asking for a bailout during the credit crisis.

It’s been 10 consecutive quarters of profits for Ford, now the financially strongest of the three major American car companies; strong enough to start dividend payments again.

What made the difference? What made Ford a success while the other two major car makers needed to go through bankruptcy to survive? What made Ford reinstate that dividend payment earlier than expected? Three reasons:

While 80% to 90% of businesses fail or are sold when the second generation takes over, Bill Ford is still the chairman at Ford Motor Co., a rarity that makes Ford more of a family business. The Ford family has a big interest in getting dividend payments going again. You can’t relate one individual person or family to either General Motors Co. (NYSE/GM) or Chrysler.

Secondly, leadership at Ford was strong. Alan Mulally, Ford’s CEO, steered Ford through some very turbulent times. He cut dividend payments when he needed to (September 2006). He raised cash prior to the 2008/2009 recession, anticipating the difficult times ahead. He was proactive. In business today, you need to be proactive, not reactive.

Finally, by not going to Washington and asking for bailout, Ford established itself as a smart and financially strong operator. Consumers want to buy from smart, strong companies.

In an era of very stiff competition in every American industry, the Ford story is truly inspiring. It’s an example of how a business should be run and how a company can turn around and give profits back to their patient shareholders via regular dividend payments.

To give you an idea of how well Ford is doing: for the first nine months of 2011, Ford reported net income of $6.6 billion on about $95.0 billion in sales. The company sits with a hoard of about $20.0 billion of cash on hand. Ford is well positioned to benefit from a continued turnaround of the U.S. economy.

Where the Market Stands; Where it’s Headed:

The stock market took a bit of a tumble yesterday. Sure, we heard it had to do with concerns over the eurozone again, but let’s face the facts. Some profit taking was expected to happen sooner or later.

The Dow Jones Industrial Average has traveled from 10,400 on October 2, 2011, to 12,000 today…that’s 1,600 points, or 15%, in just over two months. Who wouldn’t take some chips off the table?

The stock market remains confined to a bear market rally, which started on March 9, 2009.

What He Said:

“The Real Threat to the Economy: U.S. retail sales are falling, the producer price index is crashing, house prices, car prices are all falling—and no one is talking about deflation but me. Fed governors are still talking about inflation—they’ve got it wrong. There’s no need for me to get into the dangers of deflation, as I’ve written about them (many times) before. Let’s just put it this way: deflation is about the worst economic state a country will experience. The risks to the U.S. economy in 2007 are greater than I’ve seen in years.” Michael Lombardi in PROFIT CONFIDENTIAL, November 15, 2006. Michael was one of the first to warn of deflation. By late 2008, world economies were embedded in their worst state of deflation since the Great Depression.