SoseverearethetravailsoftheUSeconomythatdollardevaluationhasbeeninevitableforalongtimeand(pleasingly)CharlesStanleyhasbeenrightontopofthisstoryfromthestart。

Giventheinevitabilityofthedollar’sdatewithdestinyitwasequallycertainthatinvestorswouldseekwaysofinsulatingthemselvesfromitsimpact。

Buoyedbysignificantincrementaldemandfromthefast-growingeconomiesofsouthandeastAsia(thusensuringafairdegreeofprotectionfromtheWesterneconomicmalaise),commoditiesseemedasgoodaplaceasanytoparkthebike。

Inthewakeofthe30thAprilOpenMarketsCommitteedecisionweremainunconvincedbymarketspeculationthattheFed’sworkisdone。

CertainlythechancesofafurtherreductioninFedFundsatthe24th-25thJunemeetingappeartohavelessened,buttheaccompanyingcommuniquédidlittletosuggestthatthecentralbankisoverlyconcernedbyspikingnear-terminflationarypressure。

InfacttheFedislookingforwardtoamoderationinpricingpressureinthefuture。

Wewholeheartedlyconcur。

WebelievethatDrBernanke(butnotvotersFisherandPlosserwhodissentedfromthelatestdecision)fullyunderstandswhatishappeningintheglobaleconomysufficienttoseethatchangesinglobaldemand,coupledwithinelasticsupplycurves,hascreatedaboominresourcepricesthatacts,essentially,asanexogenouslyapplieddeflationarytaxincrease。

Yes,risingglobalresourcepricesareinflationary,butonlyinsofarastheyimpactoncertainaspectsoftheconsumerpriceindex。

Elsewheretheindexisdeflatingaggressivelyashigherpricesontheforecourtsandinthesupermarkettrolleysarecreatingaseveredrainonalreadyaggressivelyindebtedhouseholds’purchasingpower。

Needlesstosay,wedonotviewtheprevailingenvironmentasparticularlyinflationaryintheround。

Ourpositionissupportedbythefactthat,intheUnitedStates,thehighlyregardedandcloselywatchedUniversityofMichiganconsumerconfidencesurveyshowedthat,ontheground,householdersperceptionofinflationhasrisentoa12-yearhighat3。

2%。

Justasecond!

Inflationat3。

2%!

Thisatatimewhengasolinepriceshavejustrocketedthrough$3。

60agallon!

ThelasttimeUShouseholdswerethisnervousaboutinflation(1996)agallonofgasolinecostjust$1。

20!

Sothefactthatinflationexpectationsarenoworsethantheywerewhenagallonofpetrolwasonethirdofitscurrentpricemustmeanthatfallingpriceselsewherearemitigatingthegloom(justcheckoutthefallingpriceofflatscreenTVs!

)。

OnemajorimponderableremainstheextenttowhichUShouseholdswillspendthetaxrebateswhicharealreadybeginningtoflopthroughletterboxesacrossthecountry。

OfcoursewhencompaniessuchasWal-Martareofferingtocashthechequesinstoreonemightbeundertheimpressionthatthemoneywillbespent,notsaved。

However,astheUSsavingsratiochart(seebelow)makesclear,thescopeforhouseholdstosavethemoneyorpaydowndebtisequallyenormousandourbestguessatthisstageisthatthesavingsratiowillindeedriseoverthecomingmonths。

UShouseholdsavingsratioisexpectedtorisesharply

Thistakesusontoexaminethegrowthoutlook。

OptimistsmayhavebeenbuoyedbyafirstestimateofQ1GDPwhichappearedtoshowthattheUSeconomynarrowlyavoidedrecessionoverthefirstthreemonthsof2008。

Anannualisedincreaseof0。

6%(thesameasthatrecordedoverQ42007)is,ofcourse,farfromvibrantandoncethedetailisporedoveritactuallylooksevenworse。

Firstoff,thenumberwassupportedbyc$20bnofinventorystockpilingandsecondly(andasexpected),bythestrengthofUSexportsitselfpartlythefunctionoftheweakdollar。

Secondly,residentialconstructioncollapsedby26。

7%yearonyear(from-25。

2%overQ42007)andtheworstbacktobackreadoutsincethedeepdepressionof1981。

Consumerspendingwasalsoinnegativeterritoryforthesecondsuccessivequarterandgrewbyjust1%yearonyearoverQ108,capitalspendingfellby0。

7%ascompaniescutbackintheprofitrecessionalreadywelluponusandnon-residentialconstruction,previouslyrobustwhileresidentialactivitydeclined,recordeditsfirstfallinthirteenyears。

Diggingevenfurtherintothedetailittranspiresthatrealfinalsalestodomesticpurchasers(i。

e。

excludinginventoryandnetoverseastrade)fellby0。

4%annualisedoverQ1,againtheworstperformancesincethe1991recession。

WhilsttheheadlinedatamayprovidescopefortheNationalBureauofEconomicResearchtosaythattheUSeconomyhasavoidedrecession,theunderlyingdetailmakesitquiteclearthatitcertainlydoesn’tfeelthatwaytoUShouseholders。

ThecombinationofweakgrowthandaninflationmirageleaveusoftheviewthataprolongedperiodoflacklustreactivityisnowinprospectandthattosuggestthattheFed’sbaserateactivitiesarenowoverwouldbeverypremature。

Conclusion

Whatthismeans,inpracticaltermsforthefinancialmarkets,isthatthedollar’stradeweighteddeclineisfarfromover。

SomesolacemaybegleanedfromdeterioratingEuropeanactivityandthefactthattheUKeconomicpositionisjustasdireasthatoftheUS(implyingthatsterlingcouldyetstumbleagainstthedollarontheforeignexchanges)。

Governmentbondyields,particularlyUSTreasuryyields,whichhavebackedupfromover-boughtlevelsinrecentdaysretainthescopetofallbackagainandthat,turningtotheequitymarket,therallythathasseentheFTSE100risebyc13%fromthecapitulationlowof17thMarchmaybevulnerabletofurtherearningsdisappointment。

Theprospectoffurtherdollarweaknessis,however,ashotinthearmforcommoditypricesandafurtherboosttotheBasicMaterialssectorwhichprovedthesecondbestperformer(behindenergy)overApril。

ThisissignificantasthecombinedweightofenergyandbasicmaterialsstocksintheUKequitymarket,bycapitalisation,isc30%。

ThisimpliesmuchgreatercyclicalityandmuchlessdefensivenesstotheUKequitymarketthanhadhithertobeenthecase。

Arewenearlythereyet?

Theansweriswe’regettingtherebutit’snotquitetimetoundotheseatbelt。

ByJeremyBatstone-Carr,DirectorofPrivateClientResearchatCharlesStanley

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