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MARKET COMMENTARY


Let The Buyer Beware

03/26/01 11:09:46 PM PST
by Jayanthi Gopalakrishnan

Let The Buyer Beware

The chart of the consumer confidence index (CCI) says it all. Yes, consumer confidence has declined sharply -- no surprise, considering the broader market indexes are at or close to their lowest levels in two years; corporations have been announcing layoffs and cutbacks in capital spending and labor; there are problems with excess inventories; and, to top it all off, housing sales declined in January despite the drop in mortgage rates. The big question now is, "Are we in a recession?"

The CCI has become the important indicator to watch. Its sharp drop in February, to well below expectations, was enough to spook anyone. Why the emphasis on consumer confidence? Believe it or not, the average US household has a tremendous influence on the direction of the economy. Consumer confidence makes up about two-thirds of the Gross Domestic Product (GDP); as consumers get more cautious and spend less, it will mean further deterioration.

This kind of decline in consumer confidence is enough to spook anyone.


True, the CCI is a lagging indicator, and it's typical for consumer confidence to decline when GDP slows. According to a report released by Economy.com, in past recessions consumer confidence started declining two years before a recession. Based on this analysis, it is likely that the current slowdown may be warning of slow growth, which could lead to a recession. At this point, it is really not severe enough to suggest that we are in a recession, but that doesn't mean it should be ignored. The CCI will also be slow to bounce back after the economy starts its path to recovery, because consumers will be hesitant and will only increase their confidence once they are certain the recovery is in full force.

IT'S A BLEAK PICTURE, FOLKS

In addition to consumer confidence, other indicators also suggest a bleak picture. A poll conducted by The Economist revealed that forecasters have lowered their expectations of growth to 1.8%, a sharp drop from the 3% forecast in December 2000. Although growth is getting close to negative levels, it is still in positive territory, albeit modestly. New-home sales and durable goods fell in January 2001. There's weakness in the manufacturing sector, inventories have been piling up, and consumer debt has increased. The recent rise in energy prices only adds to the worsening situation.

The weak state of the economy is evident in the performance of the equity markets, not just in the US but also globally. Broader market indexes have either reached or are close to two-year lows. There is no doubt that changes in interest rates have a large impact on the stock market. With the market at such depressed levels, many are eagerly awaiting further interest rate cuts by the Federal Reserve. The easing may provide a catalyst to the sluggish markets and, for the benefit of everybody, make for a speedy recovery. However, the most recent cuts didn't dramatically affect the equity markets. To see a quick turnaround, commonly referred to as "V," which is what many are hoping for, the Fed has to cut interest rates further -- and they might have to cut more than the 50 basis points implemented in earlier rate cuts.

What does this mean for the investor? During uncertain times, especially when there is the possibility of a recession, it is best to keep your investments in relatively safe instruments such as money market funds, certificates of deposit (CDs), fixed-income instruments, and your traditional bank account -- at least until there are sure signs of recovery.

Editor Jayanthi Gopalakrishnan can be reached at Jayanthi@Traders.com.

REFERENCE

Koropeckyj, Sophia [2001]. "Confidence And Contractions," Economy.com.


Copyright © 2001 Technical Analysis, Inc. All rights reserved.




Jayanthi Gopalakrishnan

Staff Writer

Title: Staff Writer
Company: Technical Analysis, Inc.
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Seattle, WA 98116
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E-mail address: Jayanthi@traders.com

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