The above title, "Poised for Growth" is an infamous phrase from management that let's investors and shareholders know that they've seriously f^&d up and it can't possibly get any worse. Only this time around it's analysts that are optimistic, not the CEO's. Analysts are Investing on Hope that write-downs are nearing an end, but CEO of Merrill Lynch John A. Thain on his conference call today painted a surprisingly realistic picture, courtesy of the NY Time At Merrill, write-downs and More Lay Offs:

“So far the slowdown has been finance-driven,” Mr. Thain said. “What we haven’t seen yet is the impact on the consumer of falling house prices, rising energy prices, higher food prices and higher unemployment.”

This is right in line with what I broke down in Why is Market Cheer Leading So Prevalent?, so let's review:

• A housing market that could decline an additional 20%
• Estimates of up to a trillion dollars in write-downs for financial institutions
• Increasing unemployment, especially as Wall Street firms anticipate up to 25,000 in job cuts
• Deteriorating consumer confidence, with consumer spending possibly heading to minus two percent year of year. This is of course led by high debt burdens on consumers no longer able to tap into MEW's (mortgage equity withdrawls) because of declining home prices.
• Commercial real estate has already started to follow the housing market's lead; The Real Estate Epic Turns Another Page
• Major brokerage firms still cannot estimate how to value their "mark to market" assets
• Fed emergency lending programs Term Securities Lending Facility (TSLF), Term Auction Facility (TAF), Primary Credit Dealer Credit Facility (PDCF) have all failed to restore liquidity (solvency?) to markets

You can add on to that list credit card burdens on consumers, and rising food and energy costs are eating up more available income to pay that off. So far Merrill has taken roughly $30 billion in write-downs, with no logical time frame for an end, included in that was $3.1 billion of off balance sheet write-downs, which of course analysts believe they will be able to write back up. But what those off balance sheet items make up is suspect, almost like imaginary assets. Those Wall Street job loss estimates are becoming a reality,

When asked about additional layoffs, Mr. Thain said, “I think 4,000 is enough for the environment we’re in today.”

We're still in the beginning and the Fed is running out of options, especially since inflation is becoming a serious problem throughout the global economy, limiting the easing ability of interest rates of foreign central banks. This will keep our peso-dollar low relative to other currencies, making the goods in our import addicted economy more expensive.

A while back I inquired into How Indebted Are We? At the end I posed the question of whether disposable income has kept up, specifically disposable personal income. Personal income lumps to many sources of "revenue", such as inventory valuation adjustments, that is unrealistic in determining real income available for spending for the average consumer. I find compensation of employees to be a more suitable measure, since it is income from production, according to the Bureau of Economic Analysis:

"Compensation of employees, paid (1–1) shows the income accruing to employees as remuneration for their work for domestic production; it includes compensation paid to the rest of the world and excludes compensation received from the rest of the world. It is the sum of wage and salary accruals and of supplements to wages and salaries."

A better measure no doubt, in considering if our incomes have grown proportionally to our household debt, but supplemental wages distort this:



So overstated compensation in terms of the average consumer accounts for only 57% of the debt outstanding. Now that doesn't sound so bad at first, but a crucial point to remember is that consumer debt outstanding is only a portion of how leveraged consumers are, case in point is the massive increases over the past decade in food and energy costs. To borrow some info from Energy Affecting Food Prices at Mish's site:

"Nearly every food staple has seen a double-digit percentage increase over the past year, including a 38% hike for a dozen eggs, to $2.16, and a 19% jump, to $1.78, for a loaf of white bread, according to American Farm Bureau data. With Americans spending 15% of their household income on food and drinks, rising prices in the grocery aisles have spurred consumers to hunt savings."

Rising prices in the economy makes that debt outstanding more significant and now with home equity in free fall and in some cases negative equity compared with mortgages, look for a long deleveraging period.

Market Process is a useful and informative new blog created from a close associate of mine. The blog gives links to and quick excerpts from other blog posts in a "Daily Top Five", very cool. Some of the blogs referenced may look familiar (check out blogroll).



(click the title to automatically link to Market Process)

Today's headlines, among other things brought us housing starts and what others may perceive as bad news, I find good in:

March privately owned housing starts came in at 11.9% lower levels than February's numbers and 36.5% below March 2007 levels.

Considering the abundance of inventory levels of homes for sale, this is good news, home builders are finally starting to recognize the need for downscaling their operations. The oversupply of this inventory is only acting to exacerbate the problem of declining home prices. Builders created too many homes for too long as teaser rates flooded the markets with Greenspan cheer leading at their side. So to have a visual on where inventory stands I compiled two charts from census bureau data; housing starts and houses for sale.



I encourage you to investigate into Inventory, Inventory, Inventory, an article from Calculated Risk as they did an excellent job in describing what all this data means, but I will highlight some important concepts for you to note:

"the Census Bureau ignores cancellations (here is the Census Bureau description of how they handle cancellations), so during periods of rising cancellation rates, the Census Bureau overstates New Home sales and understates the increase in inventory. Conversely, during periods of declining cancellation rates, the Census Bureau understates sales. Second, new home inventory excludes many condominiums, and in certain communities (like Miami and San Diego) there are anecdotal stories of a glut of condos."



(1) According to the Census Bureau there are 35.12 million rental units in the U.S. If the rental vacancy rate declined from 9.6% to 8%, there would be 1.6% X 35.12 million units or about 560,000 units absorbed.

(2) Based on the homeowner vacancy rate declining from 2.8% to 1.7% on 75 million units.

(3) Based on a return to 5 months of hard inventory (completed or in process). 100,000 additional units are included based on rising cancellation rates."

Currently, the Census bureau is predicting there is 9.8 months supply of inventory at the current sales rate. But factoring in an additional 100k additional units based on high cancellation rates assuming constant sales would bump that number up close to 12 months. As noted in the Calculated Risk article, 5 months inventory is close to the historic level. The Calculated Risk article also looks into alternative housing measures such as rents and total existing inventory, but for our purposes here I found homes for sale a suitable metric.



A credit burdened consumer in a slowing economy should be reluctant to enter new housing contracts, so predicting an increase in home sales is a bit stretched. It seems logical to predict housing starts will have to keep plummeting further to get untangled from this mess. Please see How Indebted Are we? to get a better idea of how consumer credit stands.

Peter Schiff of Europacific Capital Management is simply the man and he's been right about the direction of our economy for years. Since I'm on a bit of a video kick, here's some more mind candy:







Peter Schiff on Current Market Conditions Jan 2008