Tepid Growth Expectations Ahead

We are roughly one-third of the way through June and so far the major stock market indexes are all negative month to date despite the rally under way Thursday morning. Taking a step back and examining the S&P 500 and the Dow Jones Industrial Average, we find that both are down year to date and the same holds true for the Nasdaq Composite Index. The market direction coupled with recent surveys of consumers and businesses, not to mention eroding favor for the current administration, play into growing bearishness when it comes to the stock market. Case in point: An Investors Intelligence poll, which surveys financial newsletter writers, showed an uptick in bearishness to 31.9% from 28.4% last week. That is the highest bearish level since July 2009. One explanation was captured by the most recent RBC Consumer Outlook survey, which reflects the views of more than 1,000 Americans. The survey's results showed a sequential drop in the number of people bullish on the economy, down to 28% or a drop of 3% month over month. Fueling that drop were concerns over the euro debt crisis, the increasing U.S. deficit, and the oil spill in the Gulf of Mexico and what the collective impact will be on the domestic economy. The survey went on to show that 65% of respondents view the country as on the wrong track and only 15% think the domestic economy will improve. I suspect the latter reflects last week's worse- than-expected non-farm payroll numbers, which contracted sharply in May from April, and ongoing initial jobless claims that remain not just above 450,000 per week but continue to be above economists' prognostications. One corroborating point is Gallup's underemployment rate, which nudged up in May to 19.1% from 18.9% in April. It comes as little surprise to me that Wednesday's weekly mortgage applications report from the Mortgage Bankers Association showed another drop in purchase applications, which are now down 42% from the end of April when the homebuyer tax credit expired. More troubling, mortgage refinancing fell more than 14% despite the positive environment, characterized by the 30-year fixed mortgage rate near 4.8%. What would cause me even more concern would be if that decline in refinancing activity becomes a trend. I say that because refinancing has been a source of extra cash for people who were able to refinance their mortgages. If that extra cash faucet is turned off, risk of reduced discretionary consumer spending grows. Why am I watching consumer spending, especially discretionary consumer spending? The Federal Reserve Beige Book for May, released this week, showed consumer spending as the greatest area of strength for U.S. economic activity, while business spending was mixed. With regard to business spending, the report showed spending trending higher on equipment but the rate of inventory restocking slowed. May's Beige Book also underscored the problems facing the commercial real estate market - vacancies in office and retail space continue to rise and rent remains under pressure, which in my view will continue to depress new commercial construction. All in all, not a lot of good news this past week, but there seems to be a shift in thinking from several economists toward slower economic growth and away from a double-dip recession. David Wyss, chief economist with Standard & Poor's, said that while he thinks slower U.S. growth is "practically a sure thing," he lowered his odds for a double-dip recession to 20% from 25% earlier this year. Derek Hoffman, a founder and editor of the Wall Street Cheat Sheet, has lowered his odds of a double-dip recession to 20% from 50% just a few months ago. Reinforcing the notion of slower domestic economic growth, the U.S. trade deficit grew in April to the highest level in more than a year as exports fell more than imports, which will subtract from economic growth in the current quarter. To me, the May Beige Book says it all: The rebound will hinge on the consumer, and if the consumer pulls back because of the refinancing faucet being turned off, concern over continued high unemployment or for another reason, we could see the double-dip recession pendulum start to swing back the other way. In the meantime, I continue to favor the "cash-strapped consumer" theme I have touched on in recent columns. For those who missed it, that theme centers on consumers shopping at discount and similar stores as they hunt for better values for their purchasing dollars. Good results from Dollar General Corp. DG this past week as well as solid retail comparable sales released last week by discounters and the like bolster my conviction. As always, roll up your sleeves on any investment you may be contemplating and good hunting.