Best of the Week
Most Popular
1. Gold vs Cash in a Financial Crisis - Richard_Mills
2.Current Stock Market Rally Similarities To 1999 - Chris_Vermeulen
3.America See You On The Dark Side Of The Moon - Part2 - James_Quinn
4.Stock Market Trend Forecast Outlook for 2020 - Nadeem_Walayat
5.Who Said Stock Market Traders and Investor are Emotional Right Now? - Chris_Vermeulen
6.Gold Upswing and Lessons from Gold Tops - P_Radomski_CFA
7.Economic Tribulation is Coming, and Here is Why - Michael_Pento
8.What to Expect in Our Next Recession/Depression? - Raymond_Matison
9.The Fed Celebrates While Americans Drown in Financial Despair - John_Mauldin
10.Hi-yo Silver Away! - Richard_Mills
Last 7 days
WARNING PAYPAL Making a Grab for US $1200 Stimulus Payments - 4th Apr 20
US COVID-19 Death Toll Higher Than China’s Now. Will Gold Rally? - 4th Apr 20
Concerned That Asia Could Blow A Hole In Future Economic Recovery - 4th Apr 20
Bracing for Europe’s Coronavirus Contractionand Debt Crisis - 4th Apr 20
Stocks: When Grass Looks Greener on the Other Side of the ... Pond - 3rd Apr 20
How the C-Factor Could Decimate 2020 Global Gold and Silver Production - 3rd Apr 20
US Between Scylla and Charybdis Covid-19 - 3rd Apr 20
Covid19 What's Your Risk of Death Analysis by Age, Gender, Comorbidities and BMI - 3rd Apr 20
US Coronavirus Infections & Deaths Trend Trajectory - How Bad Will it Get? - 2nd Apr 20
Silver Looks Bearish Short to Medium Term - 2nd Apr 20
Mickey Fulp: 'Never Let a Good Crisis Go to Waste' - 2nd Apr 20
Stock Market Selloff Structure Explained – Fibonacci On Deck - 2nd Apr 20
COVID-19 FINANCIAL LOCKDOWN: Can PAYPAL Be Trusted to Handle US $1200 Stimulus Payments? - 2nd Apr 20
Day in the Life of Coronavirus LOCKDOWN - Sheffield, UK - 2nd Apr 20
UK Coronavirus Infections and Deaths Trend Trajectory - Deviation Against Forecast - 1st Apr 20
Huge Unemployment Is Coming. Will It Push Gold Prices Up? - 1st Apr 20
Gold Powerful 2008 Lessons That Apply Today - 1st Apr 20
US Coronavirus Infections and Deaths Projections Trend Forecast - Video - 1st Apr 20
From Global Virus Acceleration to Global Debt Explosion - 1st Apr 20
UK Supermarkets Coronavirus Panic Buying Before Lock Down - Tesco Empty Shelves - 1st Apr 20
Gold From a Failed Breakout to a Failed Breakdown - 1st Apr 20
P FOR PANDEMIC - 1st Apr 20
The Past Stock Market Week Was More Important Than You May Understand - 31st Mar 20
Coronavirus - No, You Do Not Hear the Fat Lady Warming Up - 31st Mar 20
Life, Religions, Business, Globalization & Information Technology In The Post-Corona Pandemics Age - 31st Mar 20
Three Charts Every Stock Market Trader and Investor Must See - 31st Mar 20
Coronavirus Stocks Bear Market Trend Forecast - Video - 31st Mar 20
Coronavirus Dow Stocks Bear Market Into End April 2020 Trend Forecast - 31st Mar 20
Is it better to have a loan or credit card debt when applying for a mortgage? - 31st Mar 20
US and UK Coronavirus Trend Trajectories vs Bear Market and AI Stocks Sector - 30th Mar 20
Are Gold and Silver Mirroring 1999 to 2011 Again? - 30th Mar 20
Stock Market Next Cycle Low 7th April - 30th Mar 20
United States Coronavirus Infections and Deaths Trend Forecasts Into End April 2020 - 29th Mar 20
Some Positives in a Virus Wracked World - 29th Mar 20
Expert Tips to Save on Your Business’s Office Supply Purchases - 29th Mar 20
An Investment in Life - 29th Mar 20
Sheffield Coronavirus Pandemic Infections and Deaths Forecast - 29th Mar 20
UK Coronavirus Infections and Deaths Projections Trend Forecast - Video - 28th Mar 20
The Great Coronavirus Depression - Things Are Going to Change. Here’s What We Should Do - 28th Mar 20
One of the Biggest Stock Market Short Covering Rallies in History May Be Imminent - 28th Mar 20
The Fed, the Coronavirus and Investing - 28th Mar 20
Women’s Fashion Trends in the UK this 2020 - 28th Mar 20
The Last Minsky Financial Snowflake Has Fallen – What Now? - 28th Mar 20
UK Coronavirus Infections and Deaths Projections Trend Forecast Into End April 2020 - 28th Mar 20
DJIA Coronavirus Stock Market Technical Trend Analysis - 27th Mar 20
US and UK Case Fatality Rate Forecast for End April 2020 - 27th Mar 20
US Stock Market Upswing Meets Employment Data - 27th Mar 20
Will the Fed Going Nuclear Help the Economy and Gold? - 27th Mar 20
What you need to know about the impact of inflation - 27th Mar 20
CoronaVirus Herd Immunity, Flattening the Curve and Case Fatality Rate Analysis - 27th Mar 20
NHS Hospitals Before Coronavirus Tsunami Hits (Sheffield), STAY INDOORS FINAL WARNING! - 27th Mar 20
CoronaVirus Curve, Stock Market Crash, and Mortgage Massacre - 27th Mar 20
Finding an Expert Car Accident Lawyer - 27th Mar 20
We Are Facing a Depression, Not a Recession - 26th Mar 20
US Housing Real Estate Market Concern - 26th Mar 20
Covid-19 Pandemic Affecting Bitcoin - 26th Mar 20
Italy Coronavirus Case Fataility Rate and Infections Trend Analysis - 26th Mar 20
Why Is Online Gambling Becoming More Popular? - 26th Mar 20
Dark Pools of Capital Profiting from Coronavirus Stock Markets CRASH! - 26th Mar 20
CoronaVirus Herd Immunity and Flattening the Curve - 25th Mar 20
Coronavirus Lesson #1 for Investors: Beware Predictions of Stock Market Bottoms - 25th Mar 20
CoronaVirus Stock Market Trend Implications - 25th Mar 20
Pandemonium in Precious Metals Market as Fear Gives Way to Command Economy - 25th Mar 20
Pandemics and Gold - 25th Mar 20
UK Coronavirus Hotspots - Cities with Highest Risks of Getting Infected - 25th Mar 20
WARNING US Coronavirus Infections and Deaths Going Ballistic! - 24th Mar 20
Coronavirus Crisis - Weeks Where Decades Happen - 24th Mar 20
Industry Trends: Online Casinos & Online Slots Game Market Analysis - 24th Mar 20
Five Amazingly High-Tech Products Just on the Market that You Should Check Out - 24th Mar 20
UK Coronavirus WARNING - Infections Trend Trajectory Worse than Italy - 24th Mar 20
Rick Rule: 'A Different Phrase for Stocks Bear Market Is Sale' - 24th Mar 20
Stock Market Minor Cycle Bounce - 24th Mar 20
Gold’s century - While stocks dominated headlines, gold quietly performed - 24th Mar 20
Big Tech Is Now On The Offensive Against The Coronavirus - 24th Mar 20
Socialism at Its Finest after Fed’s Bazooka Fails - 24th Mar 20
Dark Pools of Capital Profiting from Coronavirus Stock and Financial Markets CRASH! - 23rd Mar 20
Will Trump’s Free Cash Help the Economy and Gold Market? - 23rd Mar 20
Coronavirus Clarifies Priorities - 23rd Mar 20
Could the Coronavirus Cause the Next ‘Arab Spring’? - 23rd Mar 20
Concerned About The US Real Estate Market? Us Too! - 23rd Mar 20
Gold Stocks Peak Bleak? - 22nd Mar 20
UK Supermarkets Coronavirus Panic Buying, Empty Tesco Shelves, Stock Piling, Hoarding Preppers - 22nd Mar 20
US Coronavirus Infections and Deaths Going Ballistic as Government Start to Ramp Up Testing - 21st Mar 20
Your Investment Portfolio for the Next Decade—Fix It with the “Anti-Stock” - 21st Mar 20
CORONA HOAX: This Is Almost Completely Contrived and Here’s Proof - 21st Mar 20
Gold-Silver Ratio Tops 100; Silver Headed For Sub-$10 - 21st Mar 20
Coronavirus - Don’t Ask, Don’t Test - 21st Mar 20
Napag and Napag Trading Best Petroleum & Crude Oil Company - 21st Mar 20
UK Coronavirus Infections Trend Trajectory Worse than Italy - Government PANICs! Sterling Crashes! - 20th Mar 20
UK Critical Care Nurse Cries at Empty SuperMarket Shelves, Coronavirus Panic Buying Stockpiling - 20th Mar 20
Coronavirus Is Not an Emergency. It’s a War - 20th Mar 20
Why You Should Invest in the $5 Gold Coin - 20th Mar 20
Four Key Stock Market Questions To This Coronavirus Crisis Everyone is Asking - 20th Mar 20
Gold to Silver Ratio’s Breakout – Like a Hot Knife Through Butter - 20th Mar 20
The Coronavirus Contraction - Only Cooperation Can Defeat Impending Global Crisis - 20th Mar 20
Is This What Peak Market Fear Looks Like? - 20th Mar 20
Alessandro De Dorides - Business Consultant - 20th Mar 20
Why a Second Depression is Possible but Not Likely - 20th Mar 20

Market Oracle FREE Newsletter


The Financial and Economic Blue Screen of Death

Economics / Recession 2008 - 2010 Oct 18, 2008 - 08:57 AM GMT

By: John_Mauldin


  • Diamond Rated - Best Financial Markets Analysis Article The Psyche of the American Consumer
  • The Consumer Weakens
  • The Paradox of Thrift
  • An Economic Blue Screen Of Death
  • Those Wild And Crazy Analysts

This week I am in California giving two speeches to the Financial Planning Associations of San Diego and Orange County. This and next week's letters will be the broad outline of the speech. We will look at how the retreat of the American consumer will affect the stock market. Has the recent drop (can we say crash, gentle reader?) in stock market valuations given us an opportunity to find value? We look at some very powerful evidence that suggests that may be so. Then we look at the counter to that view. Are we at the bottom, or is there more pain? And given the current state of affairs, how should we then invest? Where do we put our money to work when the dust settles, as it surely will.

As I noted above, this will be a two-part letter, finishing up next week. It will also print out a lot longer than normal as I have a lot of PowerPoint slides that are really important for you to see. A note to the 25% of my one million-plus readers who are outside the US: I am using illustrations from the US stock market to discuss timing and valuations, but the principles will translate to markets worldwide. In fact, considering that most stock markets worldwide are down even more than the US markets, they may be even more applicable. The time to become bullish on a lot of markets may be closer than we think. Let's jump right in.

The Psyche of the American Consumer

You have to have a bit of humor, and I think this cartoon says a lot.

The psyche of the American consumer has been seared, and perhaps permanently, reminiscent of the manner in which our grandparents who lived during the Great Depression were permanently scarred with the memories of that time. How it works out will be different this time, of course, and we will explore that later on. But one thing that is very likely is a major impact on consumer spending going forward. Let's look at a few facts on the state of the consumer.

The Consumer Weakens

Retail sales have fallen for the last three months. This is the first time sales have fallen in such a manner since the record keeping began. They are falling at an annual rate of 2%, which is unprecedented.

Auto sales are down, virtually in freefall, with many auto company sales down more than 30% (Volvo is down 50%!). And it may get worse. GMAC, the financing arm of GM, has announced it will not lend to anyone whose credit score is not 700 or more! Only 58% of Americans qualify. That means, for a large swath of the consumer marketplace, cheap auto financing is a thing of the past, unless auto companies underwrite loans with guarantees.

However, what we are seeing is auto companies abandoning leasing programs and other traditional marketing avenues in order to search for elusive profits. Where you could buy a car two years ago for little or no money down, many dealers are now requiring an average of 12% down. While this makes sense, it is definitely a change.

And it is not just in the US. Auto sales throughout Europe are off significantly, especially in countries that had their own equivalent of the US housing bubble.

How bad is it? We are becoming a morose nation, staying at home to drown our sorrows - even bar sales are down, almost 1%. While I am sure this audience is doing its part to help out the bartenders of the world, our clients are not.

Falling consumer and retail sales are not surprising, given the fact that almost one million jobs have been lost in the last 12 months, bringing unemployment to 6.1%. California, which is a bellwether state, has seen its unemployment rise to 7.7%. That is a (sadly) reasonable target for nationwide unemployment. Back-of-the-napkin analysis suggests that means at least another million jobs will be lost this cycle.

Falling consumer sales are showing up in the share prices of retailers and shopping mall REITs. Many are down to prices last seen 12-16 years ago, with price drops far below the market averages. Think Vegas is immune? MGM and Trump, to name just two, are down 90%!

But we lost a lot of jobs in the last (2001-2002) recession, and consumer spending did not go down. Won't the present trend reverse soon? Might it not just be from the shock of the credit crisis? And with gasoline prices down, giving us a $100 billion plus "tax break," is the worst not over?

It is reasonable therefore to ask why it should be different this time. Predicting the demise of the American consumer has been a favorite pastime of bearish analysts for over 50 years. And they have always been wrong. The American consumer has proven resilient through feast and famine, war and peace. But, the data and circumstances suggest this time may be different.

Let's look at the data that came out this week on the delinquency rates of various types of consumer debt. The delinquency rate on auto loans is 3.8%, up from 2.9% two years ago. Consumer finance? Up to a very high 8.3%. Credit card delinquencies are 4.8%, rising from 4%.  Is it any wonder credit card companies are cutting credit lines and raising interest rates to try and stem the bleeding? Mortgage delinquencies have doubled from 2.5% to a current 5%. Consumer credit in general is up to 5% delinquent, more than two-thirds higher than two years ago. This is all illustrative of a consumer in trouble.

Look at this next chart from John Burn Real Estate Consulting. He surveys hundreds of homebuilders nationwide. The long and short of it is that new home sales forecasts are at all-time lows. Traffic (potential buyers) looking at new homes is dismal. In my own area in Dallas, there are brand new homes which builders are willing to lease at very attractive rates in order to generate some cash flow, at much less than the cost of buying. And given the level of prospective buyers looking for a new home, that is a trend likely to continue.

Rate Traffic of Prospective Buyers in New Homes

I should note that this morning housing permits fell to a 26-year low, around 786,000. But that statistic can be misleading. Back in 1982, the population of the US was 230 million. Today it is 305 million. We are roughly one-third larger. If you adjust for population, the number would be in the 600,000 range, which is far worse than a mere 26-year low. Those permits mean jobs, and permits need to rise with the population to maintain the job base.

And since we're looking at today's data, the Michigan consumer sentiment number simply fell off a cliff, plunging to 57 from over 70 last month and an average of 85 last year. It was only a few years ago that the number was over 100. The last time it was this low? We were in the midst of a very serious recession in 1982.

Let's get back to housing. This next chart is from , showing the fall-off in mortgage applications. Mortgage applications for purchase are down by over 30% since the end of 2007, and down much more than that from the peak of 2006, as the subprime lending market has disappeared.

MBA Mortgage Applications

Let's pay particular attention to the fall-off in applications for re-financing, down by almost 60%. This was the source of mortgage equity withdrawals, which fueled consumer-spending growth even in the face of the last recession. Let's look at a graph I used two years ago, from work done by James Kennedy and Alan Greenspan, on the effect of mortgage equity withdrawals (MEWs) on the growth of the US economy.

GDP Growth

Notice that in both 2001 and 2002, the US economy continued to grow on an annual basis (the "technical" recession was just a few quarters). Their work suggests that this growth was entirely due to MEWs. In fact, MEWs contributed over 3% to GDP growth in 2004 and 2005, and 2% in 2006. Without US homeowners using their homes as an ATM, the economy would have been very sluggish indeed, averaging much less than 1% for the six years of the Bush presidency. Indeed, as a side observation, without home equity withdrawals the economy would have been so bad it would have been almost impossible for Bush to have won a second term.

Now let's look at the update that James Kennedy posted last week to his numbers. While he does not have an update to the chart above, we do have the actual numbers for new mortgage equity withdrawals through the second quarter of this year. And what they show is MEWs simply withering on the vine. The engine of our GDP growth has essentially been turned off. Look at the fall in the numbers for yourself:

Net Mortgage Equity Withdrawals

In 2005 there was almost $595 billion in mortgage extractions that went into some kind of consumer spending. Remember, according to the graph above, that translated into a 3% rise in GDP. In 2007, MEWs were down to $470 billion, for a boost of 2% to GDP.

The second quarter of 2008 saw an anemic $9.5 billion. At that run rate, we could see a drop-off of over 90% from 2005! Now, think what the second quarter would have been without the federal stimulus program of $150 billion. It might have looked and felt like this quarter!

While credit card growth has indeed risen to take up some of the "slack," it is nowhere near the previous levels of MEWs. With almost 20% of American mortgages either now or soon to be "under water," and because lending standards are tightening, it will be a long time before we see a significant upsurge in home equity withdrawals. Whatever growth we see in the next few years will have to come from old-fashioned sources, like real productivity and reality-based lending. Homeowner hallucinations are a thing of the past.

And for those of you who like to digest your numbers visually, here is the chart of the decrease in MEWs.

Net Mortgage Equity Withdrawals

It is likely that whatever recovery we see will be slow in coming. Without MEWs, the period from 2001-2007 would have seen GDP growth of less than 1%! What has changed for the better? It is going to be a rather serious recession and a slow Muddle Through recovery of several years. Unless Obama, Pelosi, and Reid push through their tax increase. Then it will be a lot longer. Maybe even a repeat of 1980 and 1982, where we had back-to-back recessions in two years. Increasing taxes in a recession is the worst possible economic policy. You increase taxes, from an economic perspective, in good times.

Last year, I predicted we would see three things as a result of the bursting of the housing and credit crisis bubbles:

1.   We are in a period where earnings disappointments are going to be the rule, not the exception.

2.   Lower corporate profits puts pressure on the stock market,

3.   Resulting in lower than expected long-term returns.

Let me add a fourth. The psyche of the American consumer has been seared, and perhaps permanently.

The Paradox of Thrift

We are (finally!) going to see US consumers start to increase their savings. Increasing home prices and increasing stock prices made many consumers feel comfortable that their retirement future was assured. Now that feeling has been crushed. Home values are not likely to bounce back for a very long time. And as I have written for a long time, we are facing a low-return environment for stocks.

Now, while it is a good thing for an individual to save money, it is not good for the economy as a whole, at least in terms of consumer spending and GDP growth. This is the Paradox of Thrift.

An Economic Blue Screen Of Death

The lack of the ability to borrow on homes, coupled with the need to save more money, is going to put a large dent in the US and world economy. My older readers will remember the Microsoft "blue screen of death" that would pop up from time to time when your computer froze. All you could do was hit the reset button. It is as if we have hit a giant economic blue screen of death. All we can do is hit the reset button. We are going to a new, lower level of consumer spending on an absolute basis, and perhaps as a percentage of GDP. Once that new level has been reached, we will start slowly growing from there; but until that point, the growth of the US economy is going to be severely challenged. We got ahead of ourselves through borrowing and confidence in the bull market, and now we have to deal with the new reality.

That means corporate earnings for many US companies are going to come under increased pressure. And as we will see below, the drop in corporate earnings is in line with the drop in the stock market.

Those Wild And Crazy Analysts

Look at how the projections for earnings per share for the S&P 500 have dropped over the past year. Every few months, estimates have dropped. It will get worse (teaser for next week: we look at graphs which show where earnings may go if they drop as much as in the last recession. And remember, that recession had growing consumer spending!).

Given the malaise and mood of the US consumer, the already low numbers for this year are likely to be revised down again. Let's go to the chart:

Falling Earnings Estimates

Now let's look at 2009 projections.

Estimates for 2009

Notice that in February of 2008, earnings for 2008 had been revised downward to $71.20. But analysts were still bullish. They projected the next month an almost 10% increase in earnings for 2009. They are now down to $48. Remember the old Limbo song, "How Low Can You Go?" 2009 earnings can go a lot lower.

One last graph for this week and then we will call it a day. This is the actual data from S&P, which I copied from their web site. Notice the huge disparity between the as-reported earnings and operating earnings estimate for 2009. The operating earnings are literally double the reported earnings. Reported earnings are what companies use for tax purposes. They are also the basis for any historical comparisons you see. Operating earnings are what I call EBBS or Earnings Before Bad Stuff, or whatever term you use for BS.

The operating earnings estimates are "bottom up" (no pun here). That means that S&P gets the estimates from each of the analysts that follow the individual companies, and add them up for the estimate. The top-down estimates take into account economic conditions. It makes a HUGE difference as to who is more accurate. If the optimists are right, we are at single-digit price to earnings ratios (around 8). If the as-reported team is right, we are at relatively high levels, even after the recent large drop. How high? As of 11 AM Pacific, the 2009 P/E projected ratio is 20.2. That is not a level from which major bull markets are launched.

Earnings for S&P500

But is that the level we should be looking at? As we will see next week, if you take a longer-term view of a few years, you can make a case that we are getting closer to a secular bear price-cycle low. Next week, we look at how secular bear markets work and where we could go, and then I offer a few areas where you can look to place your portfolio.  I am getting closer to the time when I can be cautiously optimistic.

We will get through this current crisis, and the falls in prices of assets of all types are beginning to create some real opportunities. We will explore those thoughts and a lot more next week.

London, Stockholm, Malta, and Becoming a Grandfather

As noted at the beginning of the letter, I am in California, but will fly home this afternoon. Tomorrow I explore some of the local Dallas housing values (leasing) and then fly on to London in the late afternoon, meeting with my London partners, Absolute Return Partners for a fast few days, and then on to Stockholm where I speak and will chair the day's events for Kaupthing Bank, which was a branch of the Icelandic bank a few weeks ago but now has been taken over by the Swedish government. I expect to learn a lot. And I get to spend some time with old friend Marc Faber. The original focus for the day, many months ago, was "Investing in an Age of Scarcity," but we will expand the topics covered with a nod to current affairs.

Then an ungodly early wake-up call, and on to Malta on Friday,  where I will be involved in a series of board meetings of various hedge funds. Even more interesting. Saturday I start to work my way back to Dallas, and then I am mostly home for the next three months, where I will be researching and writing with Tiffani our new book, called Eavesdropping on Millionaires. We have been interviewing millionaires from all levels and from all over the world, but their stories have some common threads. This has had a huge impact on both Tiffani and me. I hope we can convey in the book what we are learning. It is changing my outlook and habits, I can tell you.

I got a text message late last night from my oldest son Henry. He assumed I was already asleep, but I was still up working. He wrote: "I know you wanted us to wait a little longer, but you are going to be a grandpa." He wrote a few more nice thoughts, along the line of wanting my advice and wisdom, etc. Like I have a clue. I feel supremely lucky that my (7!) kids have turned out so well. And we all enjoy and love one another, and I get to spend time with them as young adults. And I guess almost 60 is not be that bad to be a first-time grandfather. Should be an interesting and fun new chapter in my life, if my many friends who have traveled that road are any indication.

It is time to hit the send button. I have this speech to do in an hour, and my really good friend Rob Arnott is coming to have lunch. Life is a lot of fun. Enjoy your week and remember that friends, family, and health are where our true wealth is.

Your thinking more about the Big Stuff analyst,

By John Mauldin

John Mauldin, Best-Selling author and recognized financial expert, is also editor of the free Thoughts From the Frontline that goes to over 1 million readers each week. For more information on John or his FREE weekly economic letter go to:

To subscribe to John Mauldin's E-Letter please click here:

Copyright 2008 John Mauldin. All Rights Reserved
John Mauldin is president of Millennium Wave Advisors, LLC, a registered investment advisor. All material presented herein is believed to be reliable but we cannot attest to its accuracy. Investment recommendations may change and readers are urged to check with their investment counselors before making any investment decisions. Opinions expressed in these reports may change without prior notice. John Mauldin and/or the staff at Millennium Wave Advisors, LLC may or may not have investments in any funds cited above. Mauldin can be reached at 800-829-7273.


John Mauldin Archive

© 2005-2019 - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.

Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules