The Village View

Tuesday, March 20, 2007

The Economy - 2007 and Beyond

I'm at the CFO Rising conference in my home region of Central Florida (we're about 30 miles south of downtown Orlando). David Wyss, Chief Economist at Standard & Poor's gave a talk today with the title of this blog post. Here's a few things that I took note of:

How hard a landing?

* 1/3 chance of a recession (same thing Greenspan is predicting
*US growth rate of 2.5% and inflation of 2.5%
* In the 70-80's this would have been considered a boom
What could turn this into a hard landing?
* Oil prices
*Wyss thinks oil prices will stay around $60/barrel (S&P forecast)
*If it doesn't oil could become a major disruptive force
*Long run he's pessimistic about oil prices especially given China/India demands
* We know where oil is going (non-Japan Asia), just not sure where it's going to be coming from
*Oil price increase would have a smaller impact on US economy now than years ago
*The US has become more efficient in use of oil (per $1000 of GDP)
*Oil is smaller part of overall US energy use
*Federal Reserve
*He's "pretty sure" that the Fed is done raising rates
*However, inflation is still higher than the Fed would like
*By summer the Fed may begin to lower rates
*Expects rates to be down to 4.5% by summer of 2008
*Short term rate movements are having less of an effect on long term rates
*Foreign money is coming into US private bonds which has held bond yields down
*Quality spreads are getting tighter
*Spread between Investment grade & Treasurys - 130 bps
*2/3 of what is used to be
*Similar with Junk bonds
*Don't expect this to continue as it was largely based on low default rates which are expected to increase
*Spreads are expected to widen back out
*Financial Risk is greater
*More junk rated bonds today
* Fewer companies have high ratings
*6 AAA non-financial companies in the US
*Expensive to be AAA and not much reward (tightened spreads)
*Corporate debt has dropped
*Debt/net worth (lowest since '85)
*Cash flow / debt service (coverage ratio reached a record last year of 4)
*However, borrowing companies have a coverage ratio of 2.2
*US is lowest in debt to GDP
*US - 240%
*Japan - 350% (largely b/c of gov't debt)
*Europe - (largely because of bank loans)
*Most global GDP growth is coming from Asia
*69% on a PPP basis
*China, India and US accounted for 56% of global GDP growth
US budget deficit not worrying in the short term, but does worry Wyss in longer term
* Large number of retiring Baby Boomers
*Will require Social Security reform, but this not likely to happen until we hit the crisis point
*Trade deficit is bothering him
*Bigger than budget deficit and is "owed" to foreigners
*It's unsustainable, but this has been said for the last 35 years
*There are countries with a trillion $ surplus; someone has to have the deficit - that is largely the US
US trade deficit has come down recently, largely as the EU trade surplus has shrunk
*As the US and EU find themselves with deficits, this could cause trade-restrictive legislation to become more prevelant
US Employment is coming back
*Heart of recovery is US consumer
*Living beyond our means
*Negative savings rate
*Household debt has hit a record, but wealth has gone up
*Assets have gone up quicker than liabilities
Housing is making Wyss nervous
*Home ownership is up - in 1994 it was 64%, and now it's 69%
*Average home price / average income ratio hit record in 2006
*Most rise in average home price is due to people building/buying larger homes than in the past
*175 sq ft larger than 10 years ago
*Home prices have started to level off or drop
*All though not necessarily in markets where there was the largest increase
*Housing bubble was global b/c interest rates are now global -> cheap housing
*What will leveling/decling house prices do to economy?
*People were using houses as ATMs thru home equity loans - pulling cash out of homes
Stock market
*Return to normal volatility; expect volatility to remain higher than it has been the last few years

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