The Winds of Change?

The winds were to investors’ backs during September with the Dow Jones Industrial Average having its best performing September since 1939.  This strong performance did more than erase August’s poor performance. It also brought the major stock benchmarks into positive territory for the year.  The outsize September gains came as improving economic data helped ease fears over a double dip recession. According to the National Bureau of Economic Research, the recession that started in December of 2007 officially came to an end in June 2009.  The fact that the recession has been over for more than a year may be a surprise to many, including the approximately 9.6% unemployed individuals or the many struggling to keep businesses afloat.

Though, technically the recession is over, growth is so subtle that few are noticing the small improvements that are happening.  Many blue-chip companies are seeing positive growth yet their stock price remains flat.  We believe that this positive growth is currently being overlooked.  If this past September is an indication of more positive changes to come, it may help change the sentiment of investors and businesses in a broader market sense.  We have also read about an increase in merger and acquisition activity.  For example, a recent Star Tribune article reported that large cash-rich Minnesota companies are starting to loosen their purse strings.  The article named 3M, Donaldson Companies and Polaris as companies that sat on cash but are now beginning to put it to work.  

 Although the figures have been modest, September saw positive trends in the following:

• US retail sales increased more than expected  
• US consumer spending and income rose
• US small business optimism is rising
• US production is running at ‘expansionary levels’
• China’s production increased
• US wages and average work week rose
• US existing home prices rose in most markets
• Germany is showing strong growth

What makes this recovery feel different from other post-recessionary periods is its very slow speed.  Currently economic growth is only about 1/3 the rate of previous post-war recoveries. Since World War II, the average recovery has had gross domestic product surpassing the pre-recession high after five quarters of recession.  Today we are sitting at 11 quarters and GDP is still below what it was in fourth quarter 2007.  This anemic growth has not been limited to just the United States but to much of the developed world.   Some investors are viewing this as a sign that the Federal Reserve and other central banks will pursue additional ‘quantitative easing’.  Quantitative easing is essentially when central banks use very low interest rates and asset purchases to increase money supply and jumpstart the economy. 

Ultimately the easy money is designed to get consumers and businesses to open their wallets.  Unfortunately, uncertainty and lack of confidence in the economy is holding many back from spending even with ‘easy money’.  The Labor Department reported in their annual spending breakdown that middle class Americans made their deepest spending cuts in two decades during 2009.  These households reined in spending which reflected a broader retrenching among all consumers.  The importance of the consumer is clear when one considers that they make up 70% of the US economy.  Business spending will also be a critical piece of the recovery.  Many businesses are sitting on the sidelines until they get a better handle on the economy, the markets, taxes and the political situation with the upcoming midterm elections.

Although these uncertainties exist, there continues to be improving sectors of our economy.  If investors develop a level of confidence over the next 6 months, we may begin to see a clearer picture.  We continue to believe that we will see this market slowly get back on track.  Time will tell.  In the mean time we continue to monitor the portfolio allocation in order to keep it in line with your objectives.  None of us like uncertainty, yet we need to be reminded from time to time that uncertainty eventually brings about opportunities.  The changing winds have at least for the moment brought about some fresh air.  We are looking forward to helping guide you through the many changes in 2011.