Thursday, November 30, 2006

Still Strong

The recessionary perma-bears need to revisit their forecasts following yesterday’s GDP report. Goldilocks lives according to the updated numbers— we have unbelievably strong profits, a very healthy beige book and a roaring stock market.

Bonds are telling us there's no future inflation and the Fed is too tight; while the stock market is predicting a soft landing and more growth next year.

As investment strategist Jason Trennert said on last night’s program, the stock market can sometimes give off false positives on recessions, but rarely does it give you false negatives. In other words, it's very rare that the stock market goes up in anticipation of a recession or a significant slowdown.

Pretax corporate profits (these are the profits recorded for the IRS tax collectors, so nobody overestimates them) are up a staggering 31 percent, year on year, through the third quarter. After tax they're up 25 percent—truly remarkable numbers.

With the exception of housing, this GDP report says the economy is hitting on all cylinders. Consumers up nicely, business building up nicely, business capital goods up nicely. And inflation is coming down. I mean, for heaven's sakes, the GDP deflator is now under 2 percent. And, because of oil, it might even be negative in the fourth quarter, which would boost real GDP.

According to yesterday’s report, the GDP deflator in the third quarter was 1.7 percent. In the second quarter, it was 3.3 percent. In the first quarter, it was 3.3 percent. In other words, inflation according to this broad measure has fallen by almost 50 percent. The fourth quarter number is going to be lower.

If you take a point or so off due to the housing slowdown, you’re left with about 2 to 2 ½ percent economic growth—again, with very low inflation.

Nothing fell in the GDP report outside of housing. And there's some evidence that housing may be bottoming. Maybe it's got another couple quarters to go, no one knows for sure. But when you look at the other components--consumption, business investment, business building—along with lower inflation, the economic picture looks very good.

When in the history of human kind have we had a recession when business profits—the mother's milk of the economy and the stock market—are rising by 25 to 30 percent?

It is still the greatest story never told.