Monthly Market Monitor - January 2009

A Late Santa Rally

Investors took some hope away from the holidays as the market rally from the 2008 lows of late November held up in December thanks to a spike in the last week. The blue chip averages finished close to their November closing levels, although this did little to spruce up one of the worst years ever for the stock market. Since 1901, the so-called Santa Claus rally has seen the Dow Jones Industrials average a 1.9% gain in the final week of the year due primarily to the conclusion of year-end tax loss selling and hopeful outlooks for the new year.² Santa arrived the last two days of the month (a 3.6% gain in the Dow) but investors may have gotten their real presents on December 16 with a one day gain of 4.2% as the Fed cut short-term interest rates to almost zero. More importantly the Fed reiterated that they “will employ all available tools to promote the resumption of sustainable growth and to preserve price stability.”² Investors took this to mean the Fed would continue to forcefully attack the barriers to credit as its primary focus in getting the economy out of recession. This would appear to include more direct lending by the Fed. The most recent deals to help improve consumer access to auto loans are an example of the lengths the Fed will now go. Despite all the money made available to them through the government’s bailout package, banks’ cautious lending has kept money from getting quickly into the hands of business and consumers. Although highly controversial because of the potential for government involvement in private business, the Fed actions are gradually being accepted as a critical short-term necessity that can be undone later. Moreover, many market analysts believe this relentless effort by government financial officials is finally paying off in the form of a lower interest rates and more normal credit markets. They have always seen this as the prerequisite for any lasting improvement in the stock market. Others point out that December is usually one of the most positive market months of the year and that sagging economic numbers coming in the first part of the new year will constrain any significant short-term surge in the stock market from here.

The Savings Paradox

While stability is an important short-term goal, many analysts worry that longer-term market recovery will be slow because economic recovery will be slow. A major reason, believe it or not, is too much savings. Economists have long blamed the US consumer for not saving enough but saving at the wrong time can be just as bad --- the savings paradox. Worried about their jobs, consumers, as highlighted by Christmas sales, have suddenly become savers. In terms of the well-being of the total economy, this is not the time to go “cold turkey.” With consumer spending making up almost 70% of the economy, household consumption is critical to maintaining and growing sales, jobs and profits. Given the American passion for spending, recent economic downturns have been relatively short, followed by fast recoveries. With prices coming down on many commodities, especially energy, some economists predict that could play out again.

Others see two major differences this time --- housing wealth and the retirement bulge. They are also connected. Economists have pointed out that the growth in consumption since the last recession has been largely fueled by consumer wealth created by the increase in home values. Consumers not only felt wealthier and more willing to spend with the value of their house appreciating rapidly, but they could easily tap that value by borrowing against their home. That value is now gone and will not likely return soon. In addition, for many baby boomers now beginning to cycle into their retirement years, the wealth in their homes was the backstop to their retirement savings plan. Combined with decline in many of their traditional savings plans due to the fall in stocks and bonds, many boomers are being forced to confront the need to save more to replenish their accounts. Because of their current stage in life, boomers have traditionally been heavy discretionary spenders. But the sudden reduction in their important retirement nest eggs could force major shifts from spending to savings to get them back on plan. The size of the retiring boomer generation is large and a significant change in their desire to save, finally faced with pending retirement needs, could be one of the factors contributing to most projections that this recovery from recession will take most of 2009.

1. Wall Street Journal, 1/2/09
2. Wall Street Journal, 12/22/08

The views are those of Martin Cosgrove CFA, Director of Investment Research, Research Department/ING Advisors Network, and should not be construed as investment advice. All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy.

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