Kass: The Big Picture

This column originally appeared on Real Money Pro at 8:24 a.m. EDT on March 11.

NEW YORK ( Real Money) --

It can be said with certainty that the yields for the periphery nations in Europe are lower, but it can also be said with certainty that their economies are in worse shape. The Great Disconnect not only continues but worsens. We go back to the Great Singularity, which is that the tide is still in, as caused by the world's central banks who have flooded the globe with little blue and green pieces of paper.

When I was growing up there was a maxim that "money doesn't grow on trees." Now, by God, there are Money Trees in Washington and Frankfurt. It is a miracle of nature and something to behold. Even the price of gold, the alternative currency, is now manipulated by the central banks as they sell into any rally and control the Relative Value part of the equation. Currency skirmishes are under way and denied as the fiscal alchemists ponder how to devalue all of the currencies at once.

The politicians have abandoned their posts, and the central bankers have taken charge in their absence. The inmates are now in charge of the asylum. Officials elected by no one and accountable only to their green eye shades and private investors, shoved to the sidelines, are left to scratch out a meager living searching the garbage dump for scraps.

It is a peculiar time. The land is filled with fantasy once again. The Emperors are minimized by their inadequacy. The High Lords Bernanke and Draghi have assumed the Regency!

-- Mark J. Grant, Southwest Securities

For simplicity, this morning, let's split up the world into three regions: China, Europe and the U.S.

We what see is a mixed big picture (though higher stock market valuations).


February's data announced over the weekend indicated weakening growth and worsening inflation compared to expectations. The timing of the 2013 Chinese lunar year in February (compared to January last year) distorted the monthly compares and resulted in the presentation of data to be made for the first two months of the year.

In January and February of this year, Chinese industrial production rose by 9.9%, the slowest rate of growth since September 2012. Retail sales over the two-month period increased by only 12.3%, the slowest rate of growth in nearly six years. (The Chinese government has cracked down on corruption and lavish spending.)

The February Chinese CPI rose by 3.2% compared to only up 2.0% in January 2012. Though the lunar impact lifted food prices in the month, non-food prices also rose much more than expected.

First-quarter 2013 real GDP in China should be about +8% (or slightly less), a bit above the fourth quarter's rate of growth.

Many remain skeptical about whether China's macroeconomic growth and inflation figures are accurate (and I am one of the many). An even greater issue is on a microeconomic level, as to whether the individual Chinese company profit reports are reliable.

The Shanghai Composite dropped by about 0.35% overnight, finishing in the red for the third consecutive session.

Bottom line: China's transition from investment- to consumption-based growth still seems somewhat unsteady and unsmooth and quite possibly still is in question.


The EU's recovery continues to be downgraded, and I would not be surprised if the ECB's recently lowered projections are lowered once more.

Here are highlights of some of the past weekend's sobering news stories that underscore the instability and fragility of the region's economies.

The U.S.

The domestic economy is acting a bit better than I had expected a month ago, with first-quarter 2013 real GDP trending at about +2.5%. As reflected in Friday's job report, job growth is not too hot and not to cold -- just right for the Fed to continue quantitative easing through year-end.

As for the balance of the year, I still anticipate a deceleration of U.S. GDP growth (to about +1.5% real GDP in the last three quarters of the year), reflecting the cumulative impact of the fiscal drag (government spending cuts and rising taxes) and a potentially spent-up consumer -- February retail sales are out on Wednesday. February and March retail sales will be watched closely, and I am fearful that a we will witness a bigger hit to consumer spending than is generally expected. If I am correct, many economic data points (e.g., jobs growth back to monthly gains of 150,000 or less) will be deteriorating.

Fourth-quarter 2012 S&P 500 profits were only slightly better than I had expected, but there is downside risk to the real economy (GDP) and profits are at risk from sequestration and a stronger U.S. dollar. Moreover, a stronger U.S. dollar, though good for lower inflation, is bad for export and profit growth. Finally, as I have written, first-quarter 2013 earnings guidance was generally weak and below consensus expectations.

Meanwhile, a "grand fiscal bargain" appears unlikely.


In a market that has generally been ignoring macroeconomic concerns, it has become popular to reject and even scoff at any emerging and potentially negative big-picture issues.

I think that view will prove to be a mistake -- as it almost always is. (This is especially true given the artificiality of zero interest rates and time limitations of global easing).

Big-picture concerns are real, but more importantly, they are important influences on the microeconomic picture.

Our economic world is flat and interconnected.

To believe otherwise may prove harmful to your investment well-being and health.

Mixed World Economies

  • The weaker-than-expected weekend data for China seen in a vacuum weren't terrible, but in a materially overbought market, the moderating data (especially in the consumer sector) could, at the very least, stall the U.S. stock market's momentum.
  • The same can be said for the Eurozone's economy -- weak and weakening.
  • The U.S. economy is slightly stronger than I expected earlier in the year, but a stronger U.S. dollar portends some risk to the downside for S&P profits and export growth and a deceleration in the rate of GDP growth continues as my baseline expectation.

Global Easing Embraced by Investors

  • Market participants have been eager to capitalize on the global easing theme and the slightly more favorable macroeconomic picture than I expected by taking up valuations (and P/E multiples) since the beginning of the year.

Short-Term Risks Rise as Enthusiasm Grows

  • P/E multiples have risen.
  • Stock prices have benefited from an improvement in sentiment and perception rather than by an appreciable change in fundamental (profit) expectations for 2013.
  • Given the near unprecedented consistency of the U.S. stock market's rise, the factors above could combine to halt the upward momentum over the near term.

Where I Could Go Wrong in My Forecast

I will continue to be wrong-footed regarding the U.S. stock market if:

  • the S&P's profits come in better than I am projecting;
  • investors continue to elevate P/E multiples; and/or
  • a grand fiscal bargain surprises.

At the time of publication, Kass and/or his funds short SPY, although holdings can change at any time.

Doug Kass is the president of Seabreeze Partners Management Inc. Under no circumstances does this information represent a recommendation to buy, sell or hold any security.

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