Following are what I think are the widely held beliefs for 2006.
I expect all of them to be proven false, some sooner than others.
- The yield curve does not matter
- No recession as far as the eye can see
- China is now close to self-sustaining
- Stocks are undervalued and poised for a strong rise
- The housing slowdown will be mild
- Capex spending will pick up
- Consumer spending slowdown will not matter
- We are poised for strong wage growth
- Earnings growth will pick up
- Employment will pick up steam
- Commodities have a one way ticket up
- The future is inflation not deflation
- There will be a huge slowing of the US economy. A recession will hit later in the year but it may not be acknowledged until 2007 or even later. GDP hedonics will be used to mask the start of the recession. The recession will be so huge that it can not be masked forever.
- The widely expected capex boom of 2006 will not happen. No one realizes it but we already had that corporate capex boom with tax credits that expired at the end of 2004. There is no compelling reason for companies to increase capex in the midst of a consumer slowdown. Instead they will blow a lot of that "sideline cash" on stock buybacks at absurd prices in an attempt to support the market. By the end of the year, that strategy will fail.
- The long anticipated consumer slowdown finally hits. The FED acted to prevent that slowdown in 2000. It will happen now. In fact the FED will be facing their worst fears of 2000, a turn down in capex spending and a turndown in consumer spending at the same time. Worse yet will be turndown in housing at the same time. Expect a triple whammy.
- Housing prices will pullback but possibly not as much as people think (initially). Housing activity, however will fall off the cliff and long term that matters more. Some buyers late to the party will be executing the 2003 playbook and there will be a multitude of soft landing calls as housing prices find some temporary support. Housing bears will be laughed at one final time right before "The Big Plunge". That plunge may be late in the year or delayed until 2007. Whenever that big plunge comes, Bernanke will likely start to panic.
- Everyone seems to expect oil to do something dramatic. Given geopolitical factors it certainly is capable of blasting to 100. On the other hand some expect the bottom to fall out of oil in the upcoming slowdown. I suspect that barring a geopolitical accident, oil will stay in the 50-70 range. 45 is not out of the question, but if we get there no one will like it much as the global economy will then be in a clear freefall.
- Some commodities, especially copper should take a big hit. Given copper's extreme backwardation, it will not be easy to take advantage of the slide. Agricultural commodities are more likely to have a good year than industrial metals. That is probably the opposite of what people expect.
- Gold will do OK but the big move will come later in some sort of Bernanke panic.
- Some hedge funds will blow up over CDOs, the YEN, and short option strategies used to "generate income". Some mutual funds may blow up on put shorting strategies as well.
- The stock markets may be supported for a time with leveraged buyouts and buybacks but pension funding obligations and the like are going to hammer companies later in the year as they burn thru their cash just as they did in 2000. The big problem may very well be on debt rollovers in 2007.
- The US$ should resume its downward slide as the FED puts an end to rate hikes. However, the bottom may already be in for a long time. There will not be a quick plunge back to the February March 2005 bottom as central banks everywhere are in a complete mess.
- Unemployment will rise to 5.6% officially but "alternate measures" taking into account disgruntled workers etc, will push it close to 10%. Unemployment hits 6.4% in 2007 with alternate measures over 10%.
- Bernanke uses his bullets slower than anyone thinks (at least initially). If so, that will lend a lot of support to the US$. He will be out to prove he is an "inflation fighter". Sometime over the next few years (but probably not 2006) he will be in a panic over deflation. Panic will come after he uses up several rounds of bullets.
- Longer term treasuries may initially revolt on a pause by the FED or perhaps on the first cut. If that happens it will be an excellent buying opportunity.
- The sweet spot on treasuries will be between 2-5 year duration.
- Treasuries will outperform most other asset classes with the possible exception of gold.
- Fixed mortgage rates will disconnect from the 10yr treasury. They will rise on default risks even as the FED starts lowering rates. I do not think anyone sees this possibility coming and the impact could be enormous. Unfortunately for Bernanke, mortgage rates will be completely out of his control. Rising risk premiums will increase the stress in the housing market.
- Bankruptcies soar in spite of and perhaps even because of legislation designed to prevent that from happening. People will find a way around the "means test". That way will likely be to somehow lose their job.
- Earnings have peaked this cycle.
- The ECB gets in at most two more rate hikes, possibly just one.
- The rate hike cycle for the UK is over. There will be two or more cuts by the BOE in 2006. Those cuts may help support the US$ for a while.
- The US will drag Japan back into deflation one last time.
- Junk bonds will get hammered.
- The deflation threat will pick up but few will see it. Fewer still will believe it.
- Bernanke will not be a happy man at the end of 2006 and even more miserable in 2007.
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