Years ago, a colleague of ours who covered Asian economies suggested no matter how closely he analyzed the data flow and queried the key policymakers, he never felt like he had a good read on the situation until he walked around the foreign cities he was visiting with his eyes wide open.
Analysis by anecdote has its dangers. One instance may not be representative, for example, of what is going on in the larger picture. However, we do recall back in the ’80s, there was one brokerage firm in the South that kept a running count of the number of dead chickens on the road to use as a proxy for GDP. The idea was the stronger the economy, the more trucks stacked with crates of chickens would be heading to the slaughterhouse, and hence the more crates would be falling off the back of trucks. Estimating GDP by road kill volumes struck us as a bit of a reach, but if memory serves us correctly, this anecdotal measure did a lot better than some of the Wall Street economists we followed at the time.
The risk of analysis by anecdote is that by nature, our minds tend to gravitate toward confirming our existing opinions and perspectives. “Confirmation bias” is the label the behavioral finance types have applied to this recurring tendency in our thinking. Once our minds make sense of a confusing jumble of facts, we inadvertently tend to pay attention to the information that corroborates the initial story. As any marketing professional will attest, we also tend to be persuaded more easily by compelling images or entertaining stories than by facts and figures. For investors, these built-in perceptual biases can lead to building too large a position in one investment theme or hanging onto one position for far too long.
We have been detailing growing evidence of a turn in the US economy in recent months. The bounce in existing homes sales reported last week is yet one more sign that even in the most bombed-out part of the economy, there is some activity stirring. The median home price, which has fallen 28% from the July 2006 peak, remains above its April 2009 lows. And in the Northeast, the National Association of Realtors reports existing single-family home sales have risen 44% from their January lows.
Judging by the strong gains in US equity indexes on this release, this is precisely the type of confirmation many equity investors have been seeking regarding the prospects of a V-shaped recovery. So while on vacation at a spot on the ocean south of Portland, Maine, that we have visited for better part of four decades, we decided to walk around with eyes wide open.
Our destination was an old mill town that thins out down the river-wooded areas that lead to some sweeping beaches. The beachfront is laced with light gray beach sand the consistency of powdered sugar that fills in between bold, seaweed-strewn granite outcroppings. Lobster traps bob just off the coast, and at daybreak, the lobstermen are out pulling their traps. A few miles south, the Bush family compound lies behind a gated fence, and weathered, cedar-shingled vacation homes along the picturesque seacoast stand in stark contrast to the nitty- gritty core of the town upstream. Such are the intriguing contrasts of New England: historical legacy abides by natural beauty.
Walking around, eyes wide open, we noticed more of the vacation homes had for sale signs on their front lawns than last year. Last summer, the signs were standing mostly on the lawns of the inland locals who had no doubt been taunted by the siren song of liar loans in order to make the leap from renting to owning – probably sometime right around 2006, at the peak of the market. Now the gentry, who often try to pass down their seaside vacation homes through the generations, appeared to be distressed sellers as well.
More striking, in the urban core of the town, several miles upriver from the coast, we had never seen so many for rent signs. The last of the mill jobs had just been eliminated, and much of the mill complex at the center of town had been turned into condos or stripped down to the brick walls (in a somewhat haunting see-through condition) in preparation for a risk-hungry developer to create condos out the remaining shell. Either a glut of rental properties has developed in the core of the town or families are doubling up as the unemployment rate has climbed.
We noticed the weakness in the last housing starts report did come from the multifamily or rental side, and rents as recorded in the CPI did fall in July relative to June, so this may all be symptomatic of the next stage of the real estate workout. In the college town we have lived in for nearly two decades on the West Coast, which should be brimming with student renters, we have also noticed a blossoming of for rent signs. We previously wrote that off as the inevitable result of state budget cuts leading to dramatic cuts in fall enrollment, but perhaps this initial conclusion was too sanguine.
The shack near the beach where we remember our father sneaking off to indulge in the guilty pleasures of a chocolate shake and fried clams had closed after decades of operation, as had the fish purveyors’ shop in the village near the mouth of harbor. Oddly enough, a real estate office has taken the place of the fishmonger. Off on the water, lobstermen were reportedly cutting each other’s trap lines, sinking each other’s boats and occasionally pulling guns on each other. Fuel prices were up, but the wholesalers that purchase the lobsters were offering rock-bottom prices for the catch, leaving the lobstermen in fairly desperate straits.
On the main beach itself, which curves up in a two mile long crescent before grass-covered dunes, French was spoken under every other collection of beach umbrellas. The strong Canadian dollar is getting more mileage stateside – apparently enough that the humble bungalow our family vacationed in back in the ’70s had been bulldozed by a Quebec- based steel magnate and replaced with a barn-sized trophy house, which only paled in comparison with the trophy mansion next to it, built a year or two prior, by a US pharmaceutical company CEO.
Most striking was the absence of people on the beach during the weekdays. Even in the depths of the 1973-5 recession, we cannot recall the beach seeming so sparsely populated. Maybe the soggy weather had encouraged more people to cancel their vacation plans earlier in the summer, or maybe “staycations” have come to dominate as households try to save money and find diversions closer to home.
What are we to conclude from walking around with our eyes wide open? The recent upturn in the economic data can (and we suspect will) be used to confirm the V-shaped aspirations of professional equity investors in the months ahead. Without it, driving US equity indexes higher, after a 50% move off the bottom, would surely prove problematic. It will also be used by policymakers to claim victory with their extraordinary and unconventional policy measures. Chairman Ben Bernanke needs to be able to declare some sort of victory if he wishes to be reappointed in January of next year. With the health care proposals literally on the ropes in many town meetings, the president will need to claim victory elsewhere to regain traction in the polls going into 2010, which will host midterm elections.
But if this one New England town is any indication, beyond the V-shaped impression that “Cash for Clunkers” pump priming and other influences will leave over the next couple of quarters, there is plenty of economic restructuring to be accomplished beyond the V impression. The legacy of the housing bust will linger long over this area. More lobsters might get ordered in Manhattan, but living large will remain out of reach for many households that cannot access credit anywhere near the fashion they once grew accustomed to, but now regret. Reinventing growth without reliance on private credit bubbles is undoubtedly the task ahead, and we suspect this will become increasingly apparent once the sugar high of policy stimulus wears off.
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