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Farrell: What About The Rest of the Year?

Friday, 26 Feb 2010 | 11:56 AM ET

There just is no way to make jokes about GDP reports.

It's really boring stuff.

When I am with the Soleil sales force - bright eyed and sharp as tacks every one of them - and I start on the economic trivia, collected heads nod off in nanoseconds. Maybe it's me ! So at the risk of losing all of you on this snowy (in New York anyway) morning I am urging you to take a shot of espresso (I always thought it was spelled expresso- thank God for spell check) and hang in.

Fourth quarter GDP was revised up from an annual gain of 5.7% to 5.9% due to additional contributions from business investment and inventories. We have been talking about inventories forever and in the fourth quarter the rate of inventory destocking slowed enough that 3.9% of the 5.9% gain was from that slowdown. We expect inventory restocking to take place in the first half of 2010 and restocking phases are often most felt over a two quarter span. But once inventories are rebuilt that will be it. My concern is the second half of 2010 when we don't get the inventory kick anymore.

The biggest change between the preliminary and the second estimate came from business investment.

Private investment grew almost 49% as compared to the first guess of 39%. That added about .8% to the total and is encouraging. Spending on equipment and software rose 18% in the final tally (13% was the preliminary.) This category needs to continue to grow. 70% of the American economy is consumer-centric and with high unemployment, tight credit, low wage growth, and a deleveraging consumer, it's hard to see a robust second half. The battlefield is covered with the bodies of those who have underestimated the ability of the American consumer and I am not making that mistake. I just think second half growth will be more moderate. In Q4, final demand grew 1.9%. Consumption growth of 1.9% versus GDP growth of 5.9% shows the gap. But inflation stayed low as the GDP deflator was only +.4%.

While I'm killing those of you still with me, let me mention that Thursday's report on durable goods had a line item that emphasizes the above. Core capital goods, sort of a subset within durable goods, were off -2.9% in January. That shows business capital spending needs to pick up. There is no reason to think it won't, but we need to see it. And unemployment claims were up as well, which is the third week in a row. The four week moving average also hooked up. The Labor Department said the figures were screwy because of all the snowstorms, so we'll put any conclusions on hold, but the trend needs watching.

The Republicans and the Democrats tried to play nice at the health summit but nothing got done, as we all figured. The President said a comprehensive overhaul was "absolutely critical" and the Republicans said, again, he should start over. What was a bit unusual was mentioned in the Wall Street Journal and that was the President "mostly parried the Republicans alone." Leadership ? Or lack of Democratic Party enthusiasm ? Look for an attempt at a reconciliation bill. That will be a fight.

Existing home sales for the month were a disappointing 5.05 million (annual rate) and the hope had been for 5.5 million. The 5.05 million is off 7.2% from last month and this despite low mortgage rates and a tax credit. The median price was $164,700 and months of inventory ticked up to 7.8 from 7.2 (that is 3.265 million homes.) 38% of the sales were foreclosures, or distressed sales and 40% of buyers were first time home buyers. This is a disappointing number.

Estimates for 2010 S&P earnings seem to now be clustered around $77 (although I hear that a major bank went to $81.) Figure we have a decent Q1 GDP with help from inventory restocking and folks will be guessing some uptick into at least the low $80's for next year. With interest rates low (don't fight the Fed), a 15 multiple is reasonable which would give you a 1225-1250 target on the S&P, were at 1100 now. That would be great but I still feel the need for a bit of a correction first. And I don't mind being wrong on that at all.

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