Issue 14 • March 4, 2009

Economy Falling Off a Steep Cliff

Last Friday’s revision to fourth-quarter GDP growth was dismal in the extreme—no two ways about it.

Upon further review, government bean counters decided our economy contracted nearly TWICE as much in the last three months of 2008, with GDP plunging -6.2%, instead of the -3.8% decline originally reported.¹

The key components of the sharp decline were no surprise.

Residential fixed investments (i.e. housing) fell at a yearly rate of -22.2%...and consumer spending plunged at a rate of -4.3% annually, which doesn’t sound like much, but in an economy where 70% of the total GDP depends on personal consumption, it’s HUGE! In fact, consumer spending is suffering the steepest contraction since 1951.²

With the U.S. economy falling off such a steep cliff at the end of last year, it is finally dawning on optimistic investors that this is NO garden variety recession. In fact, the magnitude of this decline appears to be as severe—if not more so—than any recession in post WWII history.

It seems to me that too many investors have grown too complacent about the economy’s outlook. The majority of economists, in fact, see a strong second-half recovery this year, with the median forecast suggesting an expanding economy by sometime in the second-quarter of 2009, beginning in July, and a return to GDP growth 1.6% by the fourth quarter.³

It is assumed that the $787 billion fiscal stimulus plan, plus more budget-busting deficit spending by the Federal government (including more bailout money for banks and homeowners) will be enough to quickly turn our economy around by mid-summer.

Perhaps, but I wouldn’t bet my bottom dollar on such an outcome. There’s plenty of “supporting data” on the economy that, like the recent GDP report, shows we are suffering through the worst economic contraction since the Great Depression:

Nearly 600,000 U.S. workers were laid off in January alone. More jobs were lost last year than any time since WWII, and the February employment report, due on Friday, could show another 700,000 Americans out of work.⁴

Nationwide, home prices have collapsed by nearly ONE-THIRD—tumbling 26.7% since their peak in 2006, that’s by far the steepest decline in home values since the Great Depression.⁵

Consumer confidence collapsed last month, falling to the lowest level since record-keeping began.⁶ And this is very damning since consumer expectations are considered a leading indicator for the economy.

The trouble is that there are some eternal optimists on Wall Street, in Washington and elsewhere, who need to take off their rose-colored glasses. Their upbeat forecasts just don’t match the harsh reality in the data. And this disconnect only sets the market up for more disappointment down the road if the fabled second-half recovery fails to materialize.

And even if the economy does miraculously bounce back later this year, it may be the cruelest joke of all. Do you remember the term “double-dip recession” from the 1980s? In fact, Japan struggled through a whole series of recurring recessions during its “lost decade” in the 1990s. The U.S. economy may be fated to follow a similar pattern of false starts and dashed hopes for years to come

At Weiss Capital Management, we were ahead of the curve early last year in predicting that a recession had already started. When officials finally announced last December that this recession began a full year ago, in December 2007, we were not surprised.

All of us have experienced recessions before, but for MOST of us, these economic contractions were relatively mild over the past 50 years or so. The typical recession since 1945 lasted just 10 months on average. The current recession has already lasted 15 months and counting; meaning we’re already 50% above the norm in terms of duration.⁷

If you crack open the economic history books and look at the full record of data going way back to the 1850s, you’ll see that recessions typically lasted much longer: 18 months on average. Many contractions, especially during the 19th century, lasted even longer.⁸

Could this recession be over by July? I seriously doubt it. Nevertheless, it’s better to prepare your investments for more trouble ahead. Until the housing and financial sectors show signs of stabilizing, the economy may not fully recover.

And even when a recovery does arrive, it could be barely recognizable considering the amount of damage that’s been done to America’s collective wealth...and lost confidence.

Good investing,

Mike Burnick
Director of Research & Client Communications
Weiss Capital Management, Inc.

P.S. We can help you navigate today’s difficult economic and investment climate with confidence. If you have investments of $250,000 or more, we invite you to receive a COMPLIMENTARY portfolio evaluation to help you protect and defend your wealth in today’s recession and beyond.

¹ Bloomberg: “U.S. Economy Shrank 6.2% Last Quarter, Most Since ‘82,” 2/27/09
² Northern Trust Daily Global Commentary, 2/27/09
³ Bloomberg data 3/3/09
⁴ Bloomberg: “U.S. Economy Shrank 6.2% Last Quarter, Most Since ‘82,” 2/27/09
⁵ CNNMoney.com “Home price in record drop,” 2/24/09
⁶ Bloomberg: “Consumer Confidence, Home Prices Slump,” 2/24/09
⁷ National Bureau of Economic Research data, 12/1/2008
⁸ Ibid.

When future history books are written, will they
say that this crisis was less severe than the
Great Depression? About the same? Or WORSE?

Of course, anyone who tells you he knows precisely where the Dow will hit rock bottom is pulling your leg. But consider the evidence ...

Fact #1: Earnings declines are now worse than in America’s First Great Depression. Average earnings have plunged 61% year-over-year, much more than during the 1930s. In fact, the last time earnings declined more than 61% was 141 long years ago!

Fact #2: Consumer losses are worse as well. Last time around, the losses that triggered the depression were largely limited to stock market investors.

This time, the fact that the average NYSE stock has already wiped out HALF investors’ money is only the tip of the iceberg: The equity most folks count on as their #1 source of retirement savings has also been wiped out as our homes have lost a staggering $2.4 trillion of their value in a single year.

Fact #3: Debts are far larger. Like this crisis, the Great Depression was essentially a debt implosion. But in 1929, total debts represented no more than 170% of GDP. This time around, U.S. consumers are buried under a far larger mountain of mortgage debt, auto loan debt, credit card debt and other consumer debts. Result: Total debts are now close to 350% of GDP – TWO TIMES MORE!

Fact #4: Derivatives! The Office of the Comptroller of the Currency (OCC) reports that U.S. banks now hold a $176-trillion mountain of derivatives, many of which are extremely high risk. In 1929, these derivatives were virtually non-existent.

Fact #5: Giant failures. In the first 18 months of the 1929-32 bear market, there were many small and medium-sized bank failures. However, none were as massive or as dangerous as the giant failures we’ve experienced in the first 18 months of this giant bear market.

This time around, the failures (or bailouts) of giants like Bear Stearns, Lehman Brothers, Fannie and Freddie, Washington Mutual, and Wachovia dwarf anything seen in 1929. And even these large failures will be trumped several times over by the impending demise of Citigroup and AIG.

Fact #6: U.S. is a debtor nation! In 1929, the United States was a creditor nation, with substantial foreign reserves. Today, the U.S. is the world’s largest debtor nation, dependent on foreign lenders to keep it afloat. That means that there’s a definite limit to how much longer the U.S. government can continue to borrow to bail out failing institutions.

Fact #7: The economic collapse and debt crisis are far from over! Just this morning, for example, we learned that:

• Home prices have plunged 18.5%.
  
  
• Sales of existing homes have fallen to the lowest level in twelve years.
  
  
• Sales of new homes cratered to an all-time record low.
  
  
• 697,000 American families lost a paycheck in February — a 25% increase from January’s abysmal figures.

The good news is, the investments that rise when stocks fall are already spinning off enormous profits.

And as the Dow, the S&P and the Nasdaq continue to plunge in the weeks ahead, they offer you the opportunity to grab huge profit potential.

I’m putting $1 MILLION of my own
money where my mouth is:

I just deposited one million dollars in my “Million-Dollar Contrarian Portfolio” at Fidelity.com to demonstrate to you, in real time, how much money my 11 Laws of Bear Market Success can make you in this bear market.

In a few days, I’ll begin making investments designed to generate generous profits in this great bear market — and when the recovery comes, I’ll go for windfall profits with great stocks selling for pennies on the dollar.

Plus ...

• To help you harness every profit opportunity I find, I’ll give you a 48-HOUR HEADS-UP before I buy or sell anything, and ...
  
  
• To keep it real, I’ll publicly post my actual results — each trading confirmation and monthly brokerage statement Fidelity sends me.

Martin D. Weiss, Ph.D.

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