bizzXceleration: Performance, Value and Profit

It's been quite a week for the data that was and the data that was reported, starting with a much more pessimistic World Bank Report leading, allegedly, to a major market drop that was entirely recovered by a slightly more optimistic OECD report that saw a "full" recovery along with some US domestic data, e.g. consumer income, spending and savings. For the record when you actually read what was written and dig into the headlines as usual were almost completely distortionate. We sound like, and are, a broken record on this topic but will keep replaying the old songs as long as no one else is despite a desire to moving on. The chart is a short-term look at only two data indicators - real personal consumption and real retail sales and makes one of our major, critical points: the rate of decline has stopped accelerating but is still about as bad as it's ever been. Abysmal to put a word on it that's both accurate and revealing, and ignored apparently. Rather than spend this whole post on digging thru the other data and re-repeating ourselves we'll point you to this downloadable PDF file of all the recent data on both a short- and long-term basis so you can see that ever series confirms this and how bad they all are in historical context: Recent Economic Data.

The Real World Economic Outlook

In the readings you'll find addresses and excerpts for both the World Bank and OECD reports as well as some news stories. In the Markets section you'll also find discussions on BNN regarding each of the BRICs specifically. This chart encapsulates what the OECD really said and shows maps of the '09 and '10 outlook as well as graphics for the BRICs and the major developed economies. What they really said was "weak recovery in sight but damage will be long-lasting". In fact if you do some more digging around the have an associated part of the report that ALSO says that long-term economic potential has been badly damaged and will result in anemic "growth" for a long-time to come. NOT what appeared in the headlines - adjusting for differences in weighting factors their outlook is identical to the Bank's as well as that of private forecasters (another one of the BNN vidclips). The sad fact is that this not what most are reporting, seeing or acting on. You'll find graphics with more details in the readings BTW.

Structural Changes: Reversing the Virtuous Cycle to a Vicious Cycle

The World Economy has undergone tremendous structural evolution, even abrupt re-structuring, in the last decade with the BRICs as a whole crossing thresholds into entirely new economies. Those changes will remain but they are both one time events that set the stage for new secular evolutions and will proceed at slower rates in the future. If everybody's ignoring the real data the implications of these shifts are even more neglected; that is they are not reflected in investors or business executives planning. A primary driver that's going to shift is that US consumers have been the driving engine of worldwide economic demand and they are shifting from dissavers to savers as they re-build their balance sheets. They are not the only ones that will be de-leveraging and re-building their balance sheets either - the entire worldwide financial system will as well. The devil's bargain that is unraveling in front of your eyes is that the developed economies borrowed from the rapidly developing ones who, in turn, built export based economies based on that demand and exported their "excess" savings as loans to finance the excess consumption of the world's grasshoppers (puns intended). Now that set of feedback loops will be running in reverse which means that Chinese growth, for example, will be lower in the future. By some estimates as much as 2-3% or more. That means that demand for commodities won't grow like it did, impacting countries like Brazil and Australia, nor will demand for the tools and equipment that made it workable, impacting Germany and Japan for another. One of the lessons of the last lost decade is that the markets went nowhere per se but certain anomolies did well for a time, e.g. real estate, emerging markets or commodities. If the point isn't clear the under-pinnings of those anomolies just got knocked out and will stay knocked out for a long time. But, because the "common wisdom" is looking for a return to old patterns we'll likely see a short-run effort to speculate on those patterns. Which explains the recent runups in emerging markets, oil and commodities. We won't repeat an earlier NYT chart on the implosion in world trade but here's the link so you can re-examine it as statistical evidence for how these cycles have reversed: World Trade Implosion.

Structural Changes and Strains

Which is not to say that the structural shifts in the world economy won't be continuing in some form, albeit at a lower level. Bridging back to the last post on the strategic outlook for the Auto Industry we borrow this chart from one of the reports we pointed to in our update on the industry outlook in the Rapidly Emerging Economies (REE). Our friends at Booz & Co also provide this more detailed prognostication: World Auto Demand Outlook.We think those outlooks are reasonable, fact-based and are representative of the huge shifts facing every industry. Shifts it's NOT at all clear they are preparing for or able to adapt to. At the same time we think that the actual levels will be reduced and the numbers will take longer to reach. That's on the assumption that the reductions in worldwide growth and the shift in demand don't strain the socio-political institutions of the BRICs to far. On that topic we'll point you to these discussions (G-20 Persepctives: How Well Do Bears Dance ?, Brave New World: the Emerging Balance, Pluralities, & Non-zero Sums, Existential Crisis Around the Agora II: New World Stories). The fundamental points here are that the development of the BRICs (or REEs) is fragile and dependent on the institutional framework. When Chinese growth drops to 8% they are under strain, if they drop to 5-6% that's more threatening to them than a sustained -6% would be for US.

Trade, Growth and Innovation: Choices About the Future

What's enabled and sustained all this change and growth is world trade. Trade is, on the whole, unambigously beneficial to all participants though certain sectors of the economy and segments of the population suffer serious adjustment impacts and costs. For example in the '90s everybody was  afraid of the Four Tigers after been afraid of Japan during the '80s. They missed the fact that what was going on was the shift of 15thC economies to 20thC ones with labor shifting from agriculture to manufacturing. China is playing out that adjustment on a ginormous scale. As a result they shifts will continue, if they are sustained for a long...long time. When you compare China's coastal areas to their interior you are in effect making a comparison across those years. The coast is a REE and the interior is just the opposite. We are faced with several alternative paths forward which depend on maintaing stability, the continuation of trade and economic growth and renewed innovation on the part of all parties. These chart tries to capture (too many) things but shows how the gains from trade effect wealth at a point in time, how each economy changes and what might happen depending on the paths we end up on. Almost needless to say the red and yellow lines are colored for a reason - on those paths like the possibilities of severe disruption. Even the blue path, a muddling thru, will see severe strains. It's the green path we need for things to all hold together. And that requires large-scale innovation.

Meanwhile the readings excerpts below contain a number of vidclip excerpts from BNN, the only financial news network aside from PBS' Nightly Business Report, worth listening to IOHO. The discussions on the world outlook and the investment climate are extended and worthwhile. The sections on each of the BRICs highlight the differences, though occasionally you need to watch out for someone talking their book, e.g. Russia. Also included in that section are some grahpic summaries of world markets worth looking at. By the way the "drugged wallabies" story is also in that section. It turns out they make the crop circles but also, at least to our mind, characterize how most observers are looking at the economic, investing and geo-political situations. For the record we stand by our own last two posts on the Economy (The Vast, Ignored Difference: Economic Bottoming vs Recovery) and the Markets (Time to Fold 'em (Updates): Market Outlook vs Investment Strategies), as well as our assessment of business performance (Beyond Specifics to Principles: Business Performance Principles & Outlooks). Each component is critical in its own right but what really drives things is the interaction between the three !

UPDATES: Oil, Corporate Bonds and Investor Reality Gasps (GraspNot ?)

In case you haven't been scrolling down onto the readings there was something on the strategic outlook for oil which resonates with our basic theme here of the consensus being a drugged walleby - to wit $250 oil is a pipe dream based on things as they were not as they're going to be. Well the IEA updated it's outlook recently and confirmed that; as well Iraq held its first major oil exploration and development auctions yesterday. You'll find some added readings in the markets section along with some more superb BNN vidclips as well as a couple on the corporate bond markets. The Mike Santolli (Barron's) interview is particularly interesting for what he has to say about the deep changes in investor's view things. Lo and behold it reinforces are theme. Wonder how that happened ? :)

Continue reading "Drugged Wallabies, Crop Circles and World Economies (Refreshes)" »

Posted by dblwyo at 08:27 AM | Permalink | Comments (0)

Three weeks ago today GM filed for bankruptcy, taking an iconic company into a new chapter of its history along with its industry. GM wasn't just A company, or the world's largest manufacturer at one time. It was THE corporation. Following the filing everybody, and we mean everybody, published long and extended commentaries including the Economist, Business Week, the NYT and the WSJ. And they all said, despite being well-written, well-research and worth reading, the same thing: we saw it coming. The questions then become what lessons are to be learned ? The gist of all these commentaries was that we saw the natural, evolutionary consequences of decline and denial stretch out over decades. In some ways one of the best was the Charlie Rose interview, , where Paul Ingrassia (ex-WSJ Detroit Bureau Chief) along with Ed Altman (dean of bankruptcy) and John Stoll (of the WSJ) basically said, paraphrased, "it's a darn shame that the government had to do for Detroit what it couldn't do for itself". And further commented that the Auto Task Force did an exemplary job that was thorough, complete and rigorous and further highlighting the great irony that a Democratic Administration did what a good Private Equity firm is supposed to do.

More Great Ironies: Where Were the Naysayers When It Mattered?

We found most of the analysis to be spot on but were greatly amused at the "we saw it coming" argument that was part of all of them. Now there's been a great deal of critiscism of the of the industry for some time in the business press, to be fair. But nowhere do we recall the rather damming indictments about executive failure and the triumph of ostrich-thinking that we read. In some contrast we're on the public record for almost two years here and almost six years in writing that the Industry was on death watch. In fact we'd argue that the hand-writing has been glowing on the wall for over three decades even though Ingrassia himself wrote a book on Detroit's recovery and revival in the mid-'90s (Comeback: The Fall & Rise of the American Automobile Industry). The graphic will take you to a downloadable PDF file of all our prior blog posts plus selected readings and provide a great deal of background that we think is worth your time. In it we address market analysis and business strategy, the marketspace, product design and development, manufacturing and the industry management system as well as providing some integrated assessments of the overall status of the industry and individual players. Partly as back up but mostly to put all the machinery all in one place.

A Blueprint for Failure

Ten years ago was the height of the Tech/Telecom Bubble yet earlier this month Nortel also filed for BK. There are some real lessons beyond one company in GM's demise and the Telecom industry reinforces them. What we're seeing and saw was a failure across the board, partly thru a failure of executive leadership. If you were to take the major components of the accompanying graphic and rank the Detroiters from 1-10 for each one we think a 3 would be generous, at best. You could make a good case for much lower rankings. That's what makes GM's failure sad, poignant and a lesson. We've several friends who worked for GM and they thought this day would never come. They further objected to the idea that government had to do this - it was the companies and industry's responsibility. But they couldn't...and not because they weren't a lot of smart folks who didn't see this all coming for years. To quote Peter Drucker, who made his bones by channeling Alfred P. Sloan, in his magnum opus (Management: Tasks, Responsiblities and Practices) in his section on Managerial Organization, specifically in the chapter on "New Needs and New Approaches":

" Finally, GM has been a "managerial" rather than an "entrepreneurial" business. The strength of Sloan's approach lay in its ability to manage, and manage superbly, what was already there and known. GM has not been innovative - altogether the automotive industry has not been innovative since the days before WW1".

That was written in 1973, when the Japanese were first putting the glowing handwriting on the wall, next to the sales and marketshare reports showing the accelerating decline of the industry. The industry failed because of organizational sclerosis, or organosclerosis. It put satisfying internal political agenda ahead of the need to keep creating value and made its decisions in detachment from the marketplace. The Telecom Industry has been facing one perfect storm after another since 1999 and as a result Nortel, Lucent, Alcatel, et.al. are all in trouble and have been for decades; and for the same reasons. A failure to adapt because of the dominance of internally focused decision-making. THAT is the real lesson that should be drawn.

The Next Tsunami

And it's not over yet. In fact in some ways it may be just beginning. In the readings section you'll find some selected excerpts on GM's bankruptcy that's worth digging into in our opinion. And in the PDF file you'll find even more extensive readings excerpts that speak to each of the major components as well. The questions post-BK now become what's next ? Where are they going, how are they going to get there and who's going to lead the charges ? But a three-decade plus decline and denial thru a failure to adapt was against an old world. Also in the readings section you'll find other excerpts pointing to the next Tsunami that's beginning to build up, and has been building for years as well. That Tsuanami is a massive worldwide re-structuring of an industry that is vastly over-capacity and one facing rapidly accelerating capabilities in new, foreign competitors. Some years back we were walking thru the parking spaces after a concert and saw a Mercedes lined up, strangely in serial order, a Lexus, Honda and Hyundai. There was little or no difference in fit or finish, none discernible in functions and little in features. What happens when a foreign auto maker can deliver a quality car with all the bells and whistles for 1/2 the price ?

Lessons in Resilience and Adaptation

The lessons of GM, Detroit and the Telecoms are that you can't just focus on today's challenges or keep on doing what you've been doing. You've got to balance that with an eye toward the future. That is, each players in each line of business has to have an answer for the "Theory of the Case". In other words what are you going to do about strategy, business model, marketing and sales, manufacturing, infrastructure, logistics and product design and development now, in five months, in five years or in ten. Sadly, it's not clear that any of the domestic manufacturers has answers for any of those challenges.

More sadly it's not clear that many other industries or companies do either ! Therewith ended the sad and dangerous lesson for this post.

UPDATES:

 The world is full of surprises, synchronicities and serendipities. On the same day we put up this post Bloomberg covered a deep-seated re-thinking Toyota, Booz had a very thoughtful piece about long-term structural changes and we discovered another wonderful BCG piece on business response asking what happens after you apply the meat-axe to emergency cost costs; in other words it ain't working, now what do you do. Taken all together these three pieces, each deserving it's own discussion and dissection in separate posts, form a whole that reinforce the fundamental messages about enterprise resilience and leadership we're trying to communicate.

1. Toyoda Asks How Many Times Toyota Errs Emulating GM Failures
2. The Best Years of the Auto Industry Are Still to Come
3. Collateral Damage: Function Focus—Leaders Have Made the Quick Cuts—Now What?  

Continue reading "Detroitosaurus: Iconic Death vs. World Industry Futures (Updates)" »

Posted by dblwyo at 10:19 AM | Permalink | Comments (0)

Well in the course of normal sequencing it is, and was, time to look at the markets and relate them to our prior take on the economy (The Vast, Ignored Difference: Economic Bottoming vs Recovery). Believe it or not we were all set to go over a week ago but when the god of timing fried our connectivity and we just got it fixed yesterday. And trying to blog, upload and link in graphics is a painful experience over the SBUX WiFi network for some reason. But, as my ex-girlfriends tried to tell me, timing is everything. What we have to say is what we were going to say and what we've been saying for about six weeks or so: this market is more than fully valued, it may run up on pure sentiment but its got nowhere to go from here. In fact based on our economic outlook its got nowhere to go for at least the next two years if not longer. That being the case if you have any profits it's time to take 'em off the table and get a drink. It's also time to re-think your investment strategies. But the involuntary delay works to our collective benefit since the markets might seem to confirm our argument so far this week, the commentariat is beginning to sound like us and today's econ data is more confirmation of sparse and wither prone green shoots. Just for the record Industrial Production was down YoY by -13.4% compared to last months -12.7%; in fact the rate of decline is still severe if slowing.

Market Assessment

Starting with the current market situation take a look at this chart composite. In the long-term (since 1990) chart you'll notice that we got two bubbles but the market has essentially gone nowhere for over a decade. It did bounce off the lower Fib level in '03 but busted it and climbed back up in the March Madness but would appear, on this scale to be failing at the next level of resistance. We're probably lucky it didn't bust the lowest level around 450. BtW S&P estimated as of early April that 2009 earnings would be $44.10 and $44.78. At a 10 PE, well you do the math...also notice that S&P is implying a zero growth in earnings as well !

the lower chart looks at the SPX since Jan08. In the first ten months we had a "normal" bear market followed by the panic in the Fall and a near total rout in March as it dawned on folks that various warnings about a very weak economic situation were indeed true. Nothing like a dose of reality to have the Bears come of their caves and the Bulls to run for cover. Thru last week we'd bubbled up a bit but so far this week that bubble has been largely erased. At best we're in a trading range. But valuations are pretty high and built on a recovery in corporate profits which is NOT in the offing at all. Like we keep saying this is going to be a long, drawn-out recovery that's a long way from getting started. The end of cliff-diving is NOT the beginnings of growth.

GDP vs Profits vs SPX

 Earlier we dissected (Beyond Specifics to Principles: Business Performance Principles & Outlooks) the relationship between aggregate/cumulative growth in the economy and corporate profits since 1950 and broke it down by Finance vs Non-Finance. The key finding was that there was a highly aberrational bubble in profits this decade, which drove apparent profits, but was due mostly to constrained hiring and investment. MUCH worse the aberrations turned out to be concentrated in Finance and had been far...far above trend since the mid-'80s (deregulation anyone ?). The bottom half of this composite reproduces the key chart on Profits vs GDP with Finance vs Non-finance broken out. The top half is the interesting one here. Interestingly, or strangely enough, we can see the two bubbles in the stock market we saw in the technical chart reproduced in this comparison of cumulative growth since 1950. Really stop and think about that for a minute....from 1950 to about 1995 GDP, Profits and the markets all grew synchronously until an investment-driven bubble pushed the markets (twice !) way over long-term trend. The markets are beginning to come back to trend but you have to wonder how far the excesses will lead to a corrective over-shoot. With a weak and jobless recovery likely to drag out over the next five years profits certainly won't be growing though they have yet to return to trend.

Long-term Valuations

We've pointed at Robert Shiller's work on long-term PE Ratios before as being the exemplar of a data-driven approach to looking at valuations. He found that PEs averaged 15.3 from about 1870 to now; and if you take his figures and net out the bubbles the average is about 14.9. By any measure the market is indeed fully valued. The last time we visited Prof. Shiller (Markets Manias: Thinking About the Year Ahead) we coupled that discussion with our favorite Graham-Dodd PE valuation formula of PE = (8.5 + 2*G) X 4.4/Y, where G is the earnings growth rate and Y the AAA corporate bond rate. That prior post reproduces our G-D tables where you'll find a 5% growth rate and a 6% interest rate yields a PE of 13.6; right in line with the other paths to enlightenment. BUT....but...but a 0-3% growth rate, which is reasonable given the economic outlook, and an 8% interest rate, which is reasonable given the downside risk factors to be properly priced, yields PEs in the range of 5-10, depending. Now look back at Shiller's chart and notice that a) we've had a tremendous bubble in PE Ratios as well as ALL the other indicators and b) every other time that's happened we've had a major corrective over-shoot. Lots and lots of different approaches seem to converge in roughly the same region, don't they ?

Re-Thinking Investment Strategies

The mantras that everybody has followed for the last three decades are buy-n-hold combined with asset allocation and those have been based on the "efficient markets hypothesis". In the readings you'll find several selections on the current market situation that (finally) raise exactly the questions you can find us raising about the markets about twice/month since at least January. MUCH more importantly are a key set of readings on the long-term strategic re-thinkings that are beginning to go on. These include two pieces from Mohammad El-Arrian of PIMCO plus another one from Bill Gross and a piece from Joe Nocera of the NYT pointing toward a growing set of challenges to the efficient markets concept. Markets may in fact be efficient if a) they're not distorted and b) all the information about them is available. When those assumptions fail so does the EMT (that's Efficient Markets Theory not emergency medical technician but one wonders). The accompanying graphic is our most recently updated assessment of the markets situation for the four fundamental factors we like to look at: Structure, Fundamentals, Technicals and Sentiment. Each category shows the immediate prior assessment compared to this one. For the record the immediate prior assessment was from Jun08 since the disequilibriums of the Fall and Winter swamped our concerns with updating them. If you'll click on the graphic what you'll actually pull up will be a downloadable PDF copy which we suggest you do dload, read AND think about. The two prior assessment summaries are here and here.

 Alternative Strategies

So what does that mean for your investing strategies ? We think several critical things that are going to be painful and a lot of hard work but less painful than continuing to worship dead shibboleths. For well over five years we've been suggesting that Buy-n-Hold was a dead strategy because we were in a low-return world and one where markets were, being polite, generating a lot of anomalies. Our 2004 take on re-thinking portfolio and asset class strategies against timeframes  is, IOHO, worth revisting for several reasons. (Portfolio Strategy:Mar04). Among those are the structure, timeframes and asset classes. Also among them are the things we got right and wrong, in retrospect, though we'd argue that there was more right than badly wrong and they were good guesses at the time. We took another pass at re-thinking strategies in Jan08 and dedicated a whole post to it. The resulting re-vamped portfolio strategy put a lot of emphasis on ETFs, particularly leveraged and inverse ETFs. (Portfolio Strategy:Jan08). We discussed the reasons and rationales extensively in this post:This One's for Jay: Investing Strategies for a Dicey Market.

Our bottomline is that you need to re-think and re-structure, be more active and look for anomolies and trends. Anybody who followed our Jan08 recommendations made a lot of money last year, and would still be making money. If we'd been all that smart way back when we'd have done better as well. This last decade was dominated by key trends: foreign markets, commodities and real estate to name some key ones. Now the question is what will they be in the future ?

A question for future investigation though right now with everybody wallowing in the same ditches nothing comes to mind. BUT repeating the same tactics that worked for the last set of inefficient anomolies won't work again. For example banking on emerging markets to be the great opportunity is, IOHO, a done and exhausted investment idea. The re-factoring of the BRICs is fully captured, with the disappearance of the US consumer the export-led growth model won't come back and that will decrease worldwide demand for commodities. All large and complex subjects. Made more so because there may be short-term opportunities to exploit everybody else's worshiping of the old shibboleths.

UPDATES:

Merrill Fund Managers Survey BNN talks to Gary Baker, co-head, international investment strategy, Banc of America Securities-Merrill Lynch.

STREET CRITIQUE - Todd Harrison TODD HARRISON, founder and CEO of Minyanville.com. Paul asks Todd about Wall Street's response to the Obama Administration's planned overhaul of the financial regulatory system. Todd also offers perspective on the current market environment.

White Paper No. 46: Is It Different This Time? During extraordinary market conditions of all kinds – good and bad – it is usual to hear people say, “It’s different this time.” Of course, every market environment is different from every other market environment, but what these people are saying is that market conditions today are so exceptional, so completely unprecedented, that investors will need to reassess everything they thought they knew about the investment process – or face serious consequences.

Continue reading "Time to Fold 'em (Updates): Market Outlook vs Investment Strategies" »

Posted by dblwyo at 07:44 PM | Permalink | Comments (0)

The readings contain sections on the current situation and purported outlook, largely from Paul Kasriel of Northern Trust, recent Consumption and Employment data, the outlook for recovery in the US and worldwide (with an illustrative reading on Germany) plus Krugman's most recent take on the non-V recovery and a potential lost decade and the credit and policy situation with Janet Yellen of the SFO Fed's assessment that the "Great Moderation" of the last two/three decades is likely gone forever. Brave New World indeed ! There are several bottomlines here that are incredibly important, not least for the fact that they are being completely ignored.

1. There is a vast difference between a bottoming process and the beginnings of recovery. The economy is stabilizing in that a panicked cliff-dive has stopped (Western Civilization is saved) but recovery won't begin until we start creating jobs again and won't be sustainable until both employment and investment begin growing significantly, if ever.

2. Consumption data on a YoY basis as well as Employment data continued to drop. Worse, the decline in job losses, is more due to really dangerous structural factors than moderation; the Employment:Population Ratio is cliff-diving as badly as it has done in three decades, indicating huge downward employment pressures, reflected in Hours Worked and the beginnings of Real Wage declines.

3. The commentariat, punditocracy, allegedly responsible economic forecasters, the investment community and business leadership (to some extent) is reacting month-to-month to the headlines, missing the vast difference, ignoring the underlying realities on trends and patterns and generally setting itself and us up for some serious disappointments. For which, worse, nobody will be prepared again.

The chart is a snapshot of some of Kasriel's latest key outlook assessment showing the Leading Indicators are bottoming, that New Orders are not shrinking anywhere near as fast, that Monetary policy is apparently very stimulative and the credit markets are self-repairing. Paul is one of only two economists in the forecasting business who's largely gotten it right (the other being Roubini), which is not to ignore Summers, Feldstein or Krugman who comment more than regularly publish assessments (and not to neglect CalculatedRisk nor ourselves who have been accurate as well). That said we think his outlook for a Q4 upturn is optimistic but in any case, as he admits, will see a drawn-out and very weak recovery that will feel more like a recession.

Employment

Let's show you why by considering the Employment situation now that we have today's latest figures which, as the top sub-chart shows, is still cliff-diving on a YoY basis having dropped in the last four quarters -0.4,-1.6, -3.1 and -3.8%. That latter number certainly doesn't indicate much of an improving situation being that much larger than Q1 - though admittedly Employment is a lagging indicator. In the second sub-chart though you can see where the pressures are really showing up with an over 6% drop in Hours Worked and the YoY change in Unemployment nearing -70% !!! That's not a typo - the YoY% change for the last four quarters in Unemployment is 30,44, 63 and 70% ! Doesn't get any worse than that - well actually it might. Our e-friend and blogging colleague CalculatedRisk dives into the Employment:Population Ratio to look at the worst consequence - the number of folks being driven out of the Labor Force. His set of posts are linked in the readings are as his charts. Read 'em and weep but start paying attention. Our approach to the long-term structural consequences is to look at New Jobs, Net New Jobs (> 150K/month breakeven) and the cumulative creation of jobs. In the third sub-chart the redline tracks the latter and there are two points. The one we've made and keep making - how incredibly weak a job-creating "recovery" this was - and a new one that's really scary. New job creation has gone as badly in the tank as it has since we can apply this approach, and not be a little big either. In the last four quarters we went from being -5.2 to -6.9 to -9.4 to, now, -11.2 million jobs in the hole. 11.2 million jobs in the hole, we repeat; what do you say ? OMG seems grossly insufficient, doesn't it ? What kind of recovery is going to create 11.2 million jobs just to get back to breakeven ? And how long will it take ? And what will growth look like while we struggle with just getting back to that point ? Oh, btw, if the US consumer was the engine of worldwide growth over the last three decades and is going to go in retreat for the next decade to repair the damages what replaces them ? Where does demand for the BRICS come from ?

A High-Frequency Snapshot

Let's dial up the granularity and dive into our collection of monthly data that serves as our dashboard of the detailed current situation, starting with current Consumption and Investment. In the top sub-chart YoY Personal Consumption and Retail Sales continue to decrease though the rate of decline is leveling off (remember our first key finding !) with Consumption down about -2.0% and Sales down over -10%. Key thing to note - both dropped these last couple of months ! Investment wise new capital goods orders are truly cliff-diving, being down almost -25% YoY, Industrial Production (which is more coincident than lagging) following though the scale reduces the drop and Residential real estate improving only if you consider a change from -40% to -33% a vast positive sign. Good luck on that. The two things that drive a recovery in more normal circumstances are Consumption and Residential Investment. The former is going to be incredibly weak for a long time while the latter has enormous accumulated damage to repair. We'd say a long, drawn-out and very weak recovery is the best we can hope for.

Shifting gears what about that possible growth in future demand ? Well that's where we come full-circle. What drives Consumption is consumers ability to spend which depends on wages and employment plus their ability to borrow against their assets. At this point we hope everybody is clear that the late '90s stock bubble is never coming back and the Housing ATM that sustained spending, and the US and world economies, is likewise one with the Dodo. In fact given the state of bio-genetic research we consider it more likely that historical recovery and cloning of Dodo DNA is more likely to see the birth of new Dodos than seeing serious jumps in consumer spending for a long time. THE KEY INDICATOR is the YoY change in Real Wages plus Employment. That showed a steady drop as both weakened until Fall08 when the sudden drop in commodity-driven inflation drove up wages. Now W+E is dropping again and rather seriously. Part of that's due to the Employment pressures, which will worsen significantly over the next 18 months or so and continue to pressure spending. Worse the bad Employment situation, really coming full-circle now, is beginning to drive down Real Wages.

So now we've linked the macro-outlook to the long-term structural and secular trend picture and then to the immediate high-frequency indicators. We're in for a weak, U-shaped, recovery at best with the problems in Employment keeping the risk of an L-shaped recovery very real.

And NONE of this is being factored into any outlook or market advisories that we can see !

Continue reading "The Vast, Ignored Difference: Economic Bottoming vs Recovery" »

Posted by dblwyo at 09:23 PM | Permalink | Comments (0)

Maybe an alternative and less exalted title would be value, focus, clarity, execution and integrity; all the virtues that a business enterprise should possess and few have repeatedly demonstrated during the drunken debaucheries of the last three decades. Case in point of course being GM's BK declaration with the accompany diagnostic litanies of the accumulated consequences of denial, avoidance, missteps and pretending the wolf is NOT at the door. Sadly when business executives fail this miserably the collateral damage for employees, communities, suppliers, lenders, investors and society as a whole are serious. Last post we waltzed thru several key industries so serve as examples of bad and good performance, aside from the current easy target of Finance, to remind us that these issues aren't limited to Wall St. nor Detroit. They are widespread and endemic. The questions, as always, boil down to who's swimming naked and who's a good swimmer. Now we're going to focus on some of the general requirements and principles starting with the classic - know when there's a rip tide and learn to deal with it. Put another way - don't ignore or deny economic realities. With Fri's GDP update verses Mon's startling market rally we'd have to say denial is currently the triumphant sentiment. Just to set the stage the chart shows YoY% changes in real GDP vs annualized QtQ changes. The latter is what the headlines report but the former is what you should be looking at to understand the trends, patterns and turning points. The headlines told us the Q4 GDP change was -6.3% and Q1 was -5.8%. Wow, let's party. The YoY numbers were -0.9 and -2.5%, respectively. Hmmm, let's not and batten down the hatches instead.

Facing Realities: Brave New Worlds

One of the more fascinating surveys that floated around was the readership of the business and financial news over the last couple of years. The "trade" press covered this evolving crisis fairly well yet, by and large, nobody paid any attention. Last week David Brooks the NYT OpEd columnist devoted a column to the kind of CEO's we're going to need in this new environment with David Brooks: In Praise of Dullness.Now as it happens we don't agree with all his points but that he covers it at all is noteworthy and that he's fairly accurate is important. What we need from CEOs is not flash but execution. What we'd add is that that execution cannot be the repeated execution of what's no longer working but has to be what will work in the new world we're facing. Yesterday the BEA also updated it's data on corporate profits and we extended our recent look see at the nature of profits as a result. For decades they rose in lockstep with GDP until the leverage deliriums of this decade. When you break it down it turns out that the real economy companies had a "slight" proft bubble as they curtailed hiring and capital investing but the real "magic", stretching back to the beginnings of de-regulation, was in the Finance Industry. That tells us two major things on the deepest structural level. First, the Finance Industry of the future will look nothing like that of the last three decades. Second, the regular OpCos (operating companies) need to re-think how they run themselves just about as badly. The question is will they ? We'll take up Finance some other time and focus now on "real business" performance challenges.

Key Principles Re-visited

We've spent some time comparing our approach to Buffett's and Drucker's as well as inventorying, from time-to-time, the headline exemplars of good, indifferent and bad performance. From that work we point back to this chart that combines Drucker's Fundamental Principles and the Theory of the Case. The readings section covers stories on the environment, key functions, leadership failures, human resource development and leadership changes for the future. Paul McCulley of PIMCO points out that things aren't going to get much better until 2010 and Jeff Immelt looks ahead to a business environment where performance will be challenged for many years to come; as we've just said and been saying. In the HR section we particularly want to point you a recent HBR article by our friend Bob Sutton on "How to Be a Good Boss in a Bad Economy". Superb article on the attributes in a crisis of excellent leadership - with which we have two major quibbles. Bob's checklist of ToDo's are representative of what these guys should have been doing all along, not just in a crisis they contributed to. But worse, the need to "Cowboy UP" is going to be with us for a long time. In the section on continuing leadership failures you'll find some evidence on how likely that is while in the final section you'll find some countervailing evidence of "green shoots" that may be the first indicators of the revival of management practices as we'd like to know them. You might want to pay attention to the review of Jim Collins' new book wherein he says, "hubris born of success; undisciplined pursuit of more; denial of risk and peril; grasping for salvation with a quick, big solution; and capitulation to irrelevance or death — offer a kind of instant autopsy for an economy on the stretcher. He writes that he’s come to see institutional decline as a “staged disease” The points being that the companies you're looking for are the ones who have answers instead of question marks.

Devil's Details: From Function to Synergy

We'll also point back to a simple chart that provides a conceptual illustration of how all the piece parts of the enterprise need to work together. When Michael Lewis wrote Moneyball: The Art of Winning an Unfair Game he not only documented a revolution in sports management that finally took the BoSox to two World Series titles after a multi-decade drought he started a conversation on performance management in general that's still going on. In discussion and theory, if not in actual practice. The graphic actually speaks to several of those key points: 1) it inventories each of the major functions that are essential for performance then 2) illustrates the linkages between them and their order (first basemen play first base and need those skills after all but also need to have the rest of the infield to work with) and 3) the performance of the whole enterprise is NOT just paying to much for each function, or not enough as the case may be. It IS about making all the pieces work together in the context of the whole.

In the readings you'll find selected stories on:

1) understanding how to think about telling the marketplace and your customers the right story, illustrated here by the lizard-brain messages implicit in various choices, but more broadly illustrative of the need to think about telling a true, accurate, honest story that represents real capabilities and puts the customer's needs and wants at the center of go-to-market strategies.

2) understanding and managing the realities of core operational capabilities, here illustrated with a discussion of the realities of manufacturing but also intended to make the point that core functional excellence is central to long-term business performance. Whether you make software, build cars (ahem), run retail stores or deliver packages real performance for real requirements is at the center of who and what you are. A notion that's been lost and neglected for a long time but one that the prosperers will see return to center stage in the future.

3) making sure the critical operating support functions, logistics and supply chain managment for example, meet and exceed to the requirements of the core, whether it's plants, stores or distribution operations. For almost four decades these functions have been the most sadly neglected of all yet they offer the most strategic promise for improvement. It's as if the Celtics got themselves a great center, two outstanding guards, a decent power forward and then, having spent their available salary budget decided to cut corners and recruit a junoir college player who was competent but not the kind of resource needed for the rest of the team to play up to their full potentials. Like we said and will keep repeating - performance is a team result, not a collection of individual players. There's a reason the US Men's basketball team got it's butts kicked in Athens and did so well in Beijing.

4) and another trip to the cesspit of technology management wherein the perennial lament of a continuing gap between IT and business receives yet more confirmation. Aside from logistics IT is the one major function of the enterprise that touches all others and influences their individual performance and also controls their ability to integrate with the other key functions as well as adapt to the future. Yet for decade after decade this same lament keeps getting repeated with not end in sight. We think there are two fundamental problems - Tech guys are fascinated by bright shiny things and tend to trap themselves in their silos. On the other hand Business guys are even more responsible because they're repeatedly failed to step up and provide the necessary adult supervision. The companies who have figured out how to bridge that gap are the same list of usual suspects from WMT to Fedex to Scwab who keep getting cited as strategic users of IT. Now where's the rest of the world ?

To try and pull this all together we're arguing that times are going to stay challenging for a long time, that effective responses to these challenges still seem to be all to missing in action and there's a checklist, a blueprint, of what to look for in potentially high-performing enterprises.

AND those are the ones you want to be on the lookout for !

Continue reading "Beyond Specifics to Principles: Business Performance Principles & Outlooks" »

Posted by dblwyo at 03:24 PM | Permalink | Comments (0)

All of this week's economic news should serve to confirm our earlier discussions, that is the bottom's stopped falling out, we're still in a bad place and it'll be a weak and drawn out recovery. As well as the parallel confirmation that the market is pricing in a stronger recovery, is starting to get a little queasy and completely ignoring the drawn-out and week parts of all that. In our normal cycle of major components the next thing to consider beyond the Economy and Markets is Business so we're going to turn our attention to some specific examples. Since we so recently reviewed our approach to top-down analysis (Bidding Review: Macro-environment, Disruptions, Business Performance) and followed that with a specific deep dive on the problems of the news industry (Technomedia Content Wars II: News Industry Futures (Updated 2)) we're going to focus on a few company situations and use them as examples of industry challenges.

Energy Industry

In the readings section you'll find stories on BP, Shell and OPEC all of which are wrestling with some of the fundamental conundrums of the industry. Which boil down to how to deploy their cash flows, affordably, to replace existing reserves with future production. Unfortunately many of these companies end up with several major quandaries. First off those cash flows, with the drop in oil prices, aren't sufficient to fund exploration and new field development while continuing to pay dividends. In fact the only major that's really in good shape balance-sheet wise would appear to be Exxon, which was cautious and protective during the recent bubble and is now able to buy properties and invest in new development affordably. Related to that quandry is the related one of the world wants/needs to shift to alternative forms of energy and the Oil companies should be leading the charge, instead of continuing to oppose the shift. Some of them get that and doing a lot, BP for example which now gets something like half it's output in the form of liquified natural gas we understand. The third major barrier is that the crisis has curtailed new field development and exploration which combines with the fact that most reserves are trapped behind political barriers and controlled by state oil companies and/or governments. So you get Mexico, Russia and even Saudia Arabia under-funding old field maintenance investments and not developing new resources while the majors with the money, skills and other capabilities are locked out. That whole dynamic explains China's investment in Petrobras, which is a win-win-win for Brazil, China and the future world oil markets. Overall the rest of us have some major problems which are going to come back big time if/when we get a serious long-term recovery, especially in the BRICs. The graphic represents the inter-play of all these factors. You should also ask yourself what the structural constraints are on any industry you're concerned with because they all have analogous challenges.

Auto Industry

Not least of which is the Auto Industry, which if you haven't been paying attention, is likely to see GM's filing for bankruptcy Mon. morning. Shall we all stop for a moment or more of silence - stunned silence ? In the readings you'll find URL pointers and some excerpts from stories on Ford, Chrysler, GM and on China, which has surpassed the US this year as the world's largest auto market !!! When you look at the rapidly improving quality of the Chinese cars, the growth of their home base plus the structural changes in US and European demand this perfect storm is going to be a local squall compared to the one coming along behind it. Which the US industry is no more prepared for than it was willing to face the structural shifts they've been in denial about for four decades. The top chart shows Auto Sales YoY vs Total from '76 to now and the bottom compares Sales to GDP YoY%. In both case we think we see a similar message - the Industry artificially drove up sales over innate historical growth and GDP trends largely thru financing. Which means as consumers change their behaviors that the old "norm" of ~14 million cars/year is likely to be quite a bit less, say 10-12 million ? Couple that with the changes in the worldwide industry structure AND the pressures from the Energy industry and it's not a pretty picture.

Retail Industry

The Auto industry isn't the only one going thru hard times right now nor the one facing serious structural changes for a long-time to come. The Retail Industry is, in some ways, facing equally serious conditions but hasn't yet begun the kinds of adjustments being forced on Autos. In fact while Autos were in denial for decades Retail seems to be unaware. In the readings you'll find pointers to stories on Home Depot, WMT, Target and some electronics chains. Now we've covered HD and WMT in real depth and both are, IOHO, exemplars of profound re-thinkings and re-structurings that the rest of the industry will need to go thru. Target on the other hand has a much longer and more successful history of re-factoring itself which streches back almost a decade and looks to be sustainable. The current damages to it are more due to external factors over which it has no control and to which it's adapted well. It's challenges are going to be twofold: first, will consumer spending habits in the new thrifty world allow it to grow as it has and second with WMT's US structural shifts it'll be facing more value-delivery capable competition. In other words WMT as created more capability to come onto it's home turf. HD as admitted that the Housing market is much worse than anticipated and will go on longer than it planned. Instead they are continuing to restrain capital expenditures on new building, being very cautious with their balance sheet but continuing the operational and strategic re-structurings that we think will position them well for the future. The charts give you an idea of the consequences with TGT compared to to Penney's, WMT, Sears, Kohl's and Consumer Discretionary. Notice that the latter has been flat for essentially the last ten years while the stocks have out-performed in some ways. But you have to pick 'em carefully. In Sears for example Slick Eddie Lampert sold the "new Buffett" store long enough to energize the stock but failed to re-vitalize the company. In contrast JCP went thru a huge re-structuring in the late '90s which the market started to figure out  and led to a comparable rise, except it was reality based. When you drop down to look at TGT specifically Ackman's recent challenges look beyond mis-placed and his investors are disappointed (to say the least). They've performed very well indeed. BUT...the next most important thing to notice about their stock is huge earnings increases coupled with serious PE compression. Admittedly that's down from late '90s fantasies to more realistic and grounded levels but the question is, given our economic scenarios, what's appropriate in the future ? Keeping 15 will be a challenge - returning to 20 we'd judge to be impossible short of a miracle re-thinking of their business model.

Technology Industry

In the final section you'll find readings on Sony, the Tech Industry in general, HP, Dell, Time-Warner/AOL, Google and SAP. The industry as a whole was caught more flat-footed and blind-sided than almost any other because it's numbers held up longer until they suddenly fell off a cliff in Q4 and Q1 (items we discussed in prior posts). Briefly Investment in general and Capex spending in particular lag the general economy. As GDP tanked eventually so would Tech Spending (something we fired a major warning shot here and around our network on in Jun/Jul of last year and which was almost entirely ignored). With that in mind we'll go ahead and suggest that recovery is still a ways off so tech spending is likely to keep dragging if not not dropping, a weak recovery means a poor outlook and a below long-term potential coupled with maturity, excess capacity and lowered l.t. demand means continuing problems for a long time to come. Challenges which some tech companies are prepared for but most are not. Sony for example has only just come to grips with the kind of organizational and structural changes it needs to make. HPQ on the other hand did a lot of it's re-factoring when Hurd took over but is still pessimistic; it's problem will be future new sources of revenue growth about which it's had nothing to say. Dell on the other hand is well on the way to re-thinking itself but hasn't gotten there yet and is coping with a terrible PC market in the meantime. We consider the AOL spinoff, approximately 10 years after the original merger, to be greatly ironic. It turns out that it wasn't so much a bad idea - though there are some legitimate debates - as terribly executed. And the ideas that Steve Case put on the table for re-thinking the media industry were lost in the feudal internecine warfare of the TWX organization. Sad to say Google is beginning to look to us rather like MSFT circa '95. Great core product, a ways to run, no major new breakthrus, just a lot of extensions and a business management system and model that was blindsided by it's growing maturity into serious layoffs with no prep and no warning. The chart walks thru the components of Investment from Residential (which is important here because it drives and leads GDP and will be weak for years to come), Capex and Tech specifically. Now we don't happen to see anything in the worst downturn in capital spending in 30 years that suggests that there'll be a pickup in Tech Spending any time soon - do you ? We do some evidence that some major players are prepared to survive. But look as we might - and we're open to correction - we haven't found any evidences that any Tech company is positioning for the future. In general, let alone as we see it !

Continue reading "From Leaders to Roadkill: Energy, Autos, Retail, Manf. & Tech" »

Posted by dblwyo at 09:40 AM | Permalink | Comments (0)

We started to answer that titular question two mornings ago and have 90+ min. of writing our post blew-up. Given that we were going to take a rather pessimistic view (surprise) view and the markets rallied enormously on Tu. perhaps it was for the best. Yesterday's drops brings us full circle though - what do the market see ? The runup on Tu. was, in theory, on the back of the Consumer Confidence numbers and ignored the Housing data that came out at the same time and/or any other economic data. On the other hand Treasury auctions yielded a surge in yield yesterday which allegedly drove down the markets as "inflationary" threats to the recovery made traders more wary. Sheesh....that's as bad a mis-judgment as the first, if not worse. We're so far from inflation being a problem that we don't know where to start. So we're going to come full-circle back to our original thesii and walk thru three different views of the SP500 to try and get some perspectives, albeit largely technical. We'll refer you to the prior post for the worldwide economic situation and the extent of the green shoot situation. Just for the record though consider House Prices On Track to Fall Another 10%-15%backed up with Nouriel's latest take on the worldwide economic outlook - Still more yellow weeds than green shoots as the global economy has not bottomed out yet. You'll also find two more detailed dives from CalculatedRisk on the realities of Housing in the beginnings of the readings section. That's immediately followed with a highly unusual interview with David Swensen, the Wizard of Yale, on Wealth-Track which we recommend you listen to, take notes, think about and memorize.

Rosy-colored Puzzlements

Let's start with the shorter-term market situation, starting with this 7-month daily chart of the SPX (click to enlarge). The two technical indicators are now telling us slightly different things. The SlowSto - mostly useful for over-bought and over-sold as well as turning points and the MACD - mostly useful for trend, momentum and turning point confirmation -  gave very clear and reinforcing signals earlier. The two abrupt downturns and the upturn were clearly signaled (red lines and green line) by the SS and confirmed by the MACD. For several weeks now the SS has been fluctuating in over-sold territory and throwing off confusing signals but recently has started heading down; but the MACD is NOT confirming that. Instead we see the market oscillating back and forth (actually jumping) in a fairly narrow trading range. We've outlined the three trading range rectangles we think have been at play since Nov. The red is the bigger picture and sets aside the OMG the economy's broke panic in Feb. and some/most of the banks are fixed fantasy in Mar. The blue is, IOHO, the more realistic one until we get some more clarity and the yellow is where we think we're going to be, or should be. Notice that the top of the yellow rectangle is serving as resistance right now.

Pop UP a Level for Clarity

One of the tricks we've learned from our trading friends is that when we suspect a trend or turning point at one timeframe is being signaled pop up a level and see what's being confirmed or not. In this case that means moving from a daily to a weekly time-period though in the same 7-month timeframe.  When you do that we really do think things become simpler, clearer and easier to analyze. The fundamental trading range, highlighted by the yellow rectangle, seems to us to emerge fairly clearly. Again discounting the panic/euphoria swings in Feb/Mar (why are we reminded of George Carlin's line about the '60s - "chemicals were good to me" ?). The major turning points that were tradeable were very clear as is the downturn in the SlowSto. However the MACD also clearly is still showing upward momentum, albeit a momentum that would appear to be fading. Our bottomline so far would be that the market can't make up it's mind and lacks a clear consensus on future economic trends but wants to believe the best while fearing worse. Put other ways - now is NOT the time to get back into the market unless you're prepared to stay on hold for a long....long time. This looks like a fully valued market, particularly given our recurrent investigations of earnings, PE valuations and the economic outlook. If you're in now might be a very good time to take your winnings and head for the sidelines.

Widening the Aperture

Let's stay with the same period (weekly) and widen the timeframe aperture to get a better idea of the big picture by running the weekly chart back to the beginning of 2008. We've kept the same technical indicators only now we've highlighted what we think are the major trends that went on. From Jan08 to the credit market collapse, when the fundamental structural flaws in an over-leveraged fantasy were taken beyond deniability, we had a relatively slowly emerging bear market. Offset from time-to-time by various short-term fantasies (de-coupling, China will save us, "V"-shaped recovery) all of which have no been established as false to fact. Stop us when you think any of those are being re-replicated in contradiction of the data again btw. Then we got a punctuated equilibrium in Sep/Oct after the asteroid landed and market-life as we know it was (literally) brought to the brink of extinction.  A new steady-state emerged and survived from Nov-early Feb. when a new, factually much smaller asteroid, emerged which led to another abrupt downfall. This time instead of the markets being the leading cause it was the realization of how truly weak the US and world economies were. Followed by the banks are fixed recovery...BACK to the SAME STEADY-STATE RANGE. One should also note that the banks are fixed meme that drove that culminate in a stress test that actually told us what bad shape many are truly in. While admittedly telling us which are well-run. But the vicious cycle between a week economy, debt and banking write-offs has a long way to go. All we've really done is avoid Armageddon. There's still a long way to go to get to a real recovery with organic growth.

Re-thinking Your Investing Strategy

Dave Swensen manages the endowment at Yale and has truly been a revolutionary innovator. He's written two books, one for his fellow professionals on his strategies and techniques and the other on his trying to adapt them for individuals. His primary thesis was diversifying into alternative investments but with judgement and homework. In the readings you'll find the link to the interview he just did which we really think you should listen to. The top component of the graphic gives you a sense of how truly drastically he changed investing strategy during his tenure. As he says in the interview though the private investor hasn't got access to many of the tools that endowments do (and by that he means competent, active managers for alternative investments) so the individual has the choice of either putting in the time and effort or going passive. But DON'T chase performance and listen to the talking heads. Some of his other points:

1. In a long-term perspective entering a period where equities should outperform.

2. In a crisis, which we are still in, MUST take a top-down macro approach and understand how policy, structural trends, etc. are going to influence investment performance.

3.  Diversification doesn't work in a crisis ('87, '98, now) where the only factors are risk and safety.

4. Principles are the same for institutional investors as for individuals. The difference is in access to resources and tools.

5. Can't find good active management. Quality of management in mutual funds for example is poor - they trade to much and run up transactions costs and tax exposures because they don't think about the customer. On the other hand customers chase last period's performance so one hand washes the other. Be either very active or very passive but don't compromise.

6. It's more than time to re-think your portfolio strategies - be willing to take more risk for a given timeframe (the second part of the graphic is a recommend allocation but you need to understand how and why he arrives at it). Manage risk by combining core low/no-risk positions, e.g. cash, with the edge positions as sketched.

Also in the readings, along with many other excerpts, is a recent Bloomberg interview with David Rosenberg, who just left BAC/MER who expects the Mar lows to be re-tested as the realities sink back in. As much as Swensen, listen to that interview. He has a lot to say that doesn't make it into the story. A final key reading is the one that points out that almost universally investment advisors for high net-worth investors are drastically re-considering their strategies and beginning to move away from the old shibboleths of buy-n-hold. We strongly suggest you do the same because, if our economic assessments and strategic outlooks are correct, the old free ride is dead and in the process of being buried. TANSTAFFL ! There Ain't No Such Thing As A Free Lunch .

Continue reading "What the Markets See: Yellow Weeds Thru Rosy Coke Bottles" »

Posted by dblwyo at 04:53 AM | Permalink | Comments (0)