Farrell: Don't Count on the Consumer

Consumer net worth rose almost 4% in the second quarter to $53.1 trillion.

That sounds like so much until you realize that it was $65.3 trillion in the third quarter of 2007. It probably is up about the same amount so far in the third quarter due to the strength of the equity market, but we have a long way to go.

Credit cards
Credit cards

Consumer spending is somewhat influenced by net worth. About 4% of the increase or decrease will eventually show up in consumer spending. The critical factor that determines spending is, of course, income, and wages and salaries have been stagnant at best lately.

Household debt fell by $170 billion in the second quarter to where debt as a percent of disposable income is now 129%. That is down significantly but still way above the 30-year average of about 93%.

The folks at Capital Markets in Toronto figure if debt as a percent of income were to fall back to 100% it would require a pay-down of $3.15 trillion. If savings were to go to 8% — and that figure of 8% is more or less in line with the very long term average of savings — some $870 billion of income would be saved a year, all else being equal (which it, of course, never is, but whatever). It would then take about three and a half years to save enough to pull the ratio back to 100%. I don't know if 100% is a good or bad number or if 8% is logical for savings.

The point is the consumer is still way overextended compared to historical norms and things usually revert to the mean.

So don't count on the overextended American consumer to spend the world out of the sinkhole it is in.

The Crisis: 1 Year Later - A CNBC Special Report - See Complete Coverage
The Crisis: 1 Year Later - A CNBC Special Report - See Complete Coverage

Carole Berger of Soleil/Luna Analytics issued a very worthwhile piece at the end of last week. Since many of our clients frequently ask the question, "When will consumer credit statistics start to improve?", she investigated the link between this indicator and credit card defaults. I urge you to read it (it's very good and also short!). She correlates the pace of improvement in credit card delinquencies with weekly initial unemployment claims, more specifically with the four-week moving average of the claims. Readers of this letter know we have focused closely on claims as one of the best, if not the best, coincident economic indicators we follow. Now there is another purpose served in tracking them.

What Carole found is the pace of improvement in delinquencies depends on how quickly claims decline. Perhaps not surprisingly, delinquencies uptick at the same time unemployment claims uptick: No job, no money to pay off the card. Most credit card issuers write off delinquent debt 180 days after it goes sour. The four-week moving average of unemployment claims peaked in March of this year, so we should be approaching the worst of the write-offs in the third and fourth quarters, Carole says. Claims could always turn around, but the recent trend has been modestly encouraging. Claims have been down for two weeks in a row and in three out of the past four weeks. Carole feels we are past the worst for delinquencies. We will watch this one like a hawk. As we have been pounding the table about for weeks now, we don't feel the consumer is going to lead us to the Promised Land. They simply can't. But an end to the worsening of one aspect of the consumers travails could lead us to some interesting investment conclusions.

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You knew it was going to happen! After the Administration raised tariffs on Chinese tires (and btw, what was with announcing the tax at 9PM on a Friday night: like we won't notice it?), US Steel petitioned the government, specifically the Commerce Department (must follow protocol!), to impose "anti-subsidy" duties of up to 90% on some Chinese products. The complaint, said one high-ranking Chinese Minister, is "not good news. Once you give in to trade protectionism, it will only provoke more such actions." And this on the eve of the G20 meeting which starts in Pittsburgh Thursday.

The only economic data point to be released Monday is the Leading Economic Indicator (LEI). It is not focused on as much as some others, although there is no reason not to, but expect much the same reading as last month, which was an advance of 0.6%. _______________________________________