In the next few months, $600 billion of subprime adjustable-rate mortgages must be reset at higher interest rates. Mortgage default rates are already soaring in front of the biggest U.S. pullback in consumer spending in decades. Home prices have recently produced their sharpest decline in two decades. Furthermore, the U.S. dollar is in the tank and heading lower, perhaps a lot lower, as the Gulf States threaten to rethink their currency peg against the dollar.
But in a featured Wall Street Journal editorial, a renowned scholarly institute told readers that surprisingly weak August employment may reduce September consumption enough to push third-quarter growth below 2%. Well, the preliminary third-quarter GDP number was instead a resounding 3.9%, and the revised GDP report now shows even hotter 4.9% growth.
If you are like many investors, the above scenario is a real head-scratcher. Do we have boom times in the U.S. or the start of a slide into a recession?
I have to say, all of the economic factors that I have recently analyzed are now in negative ground. And frankly, some of the most reliable indicators already signal a recession. Others point to trouble by spring. Although we indeed had a gangbusters third quarter, the first couple of quarters in 2008 will show greatly reduced growth. You can take some comfort, however, in knowing that today’s U.S. economy is a vastly dissimilar beast to the economy of the 1970s, when we had our last recession. These are the sectors of the U.S. economy that are holding our heads above water and precisely where investors need to buy next. First, let’s hop on the U.S. Export Express!
Three Industries Poised to Profit in 2008
The first industry investors should be focusing on right now is this country’s red-hot export growth. Thanks to the weak dollar, exports grew at a seasonably adjusted 19% in the third quarter versus 7.5% in the second quarter and a puny 1% in the first quarter of 2007. Yes, the U.S. export express is right on track.
And U.S. exports aren’t the only industry poised for big profits in 2008. The booming digital age is revolutionizing the way we all do business. To show you the shocking difference in today’s digital-age economy versus the economy of old, check out the following: This past spring, two kids started a music-referral program called iLike on the social network Facebook. Fortune reports that 10,000 people signed up within just three hours, and 10 million signed up within six months.
The third area is the financial sector. There’s no mistaking that credit-market jitters will be with us throughout 2008. Investors are still scared and panicked. Fear and emotionalism are prevalent throughout Wall Street. And the stocks of some of the largest banking institutions in the world are being treated like start-ups.
But the volatility in financial stocks signals the end of the credit cycle. When the credit cycle ends, banks are forced to clean up their balance sheets. Bad loans made during good times are written off, and the focus shifts to rebuilding capital. The actors in every credit cycle change, but the story is always the same. In the last cycle, the write-downs were on technology and telecom loans; in the previous cycle, it was emerging market debt; prior to that, commercial real estate; and in the early 1980s, energy firms were the culprits.
In the current credit cycle, structured finance is the linchpin—think collateralized debt obligations (CDOs), asset-backed securities (ABSs), and structured investment vehicles (SIVs). The Ph.D.s on Wall Street were once again wooed by the elegance and cleverness of their own inventions—and, of course, by the piles of cash these vehicles generated for their employers. As is often the case with this crowd, common sense and business savvy were lacking.
Cheap Stocks to Buy Before It’s Too Late!
The volatility and distress in the financial sector is creating opportunities that I have not seen in years, if ever.
In fact, two of the banks on my Monster Master List have both announced big write-downs recently. One even decided to raise additional capital. If the general credit situation worsens, both banks will be forced to take more write-downs, but these companies are two of the largest financial institutions in the world. Both trace their roots back to the early 1800s. And both survived the Great Depression, 31 documented recessions and countless credit cycles. These are not feeble franchises. A feeble company could not raise $7.5 billion in a few weeks as one of these leaders recently did!
Only the Strong Shall Survive
In the short term, these companies may continue to suffer along with the rest of the financial sector. But as the credit cycle unfolds, the weak hands will fold, and banks like these will improve their competitive position!
So fellow investor, now is the time to be excited—not panicked. I plan on following the developments in the credit markets closely over the coming months. Anecdotal evidence will be my guide to a credit-cycle bottom.
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