Is This Just the Eye of the Storm?

Given the market's recent rallying and yesterday's exuberant response to May consumer confidence data, it seems like many investors are going with the notion that the worst is behind us. However, I have to wonder if we're simply in the eye of this economic storm.

A confident consumer again? Don't bank on it.
Yesterday's news headlines about May consumer confidence sounded pretty exuberant, since the data was "better-than-expected" and had "spiked" since last month. Other headlines emphasized this was the biggest jump in consumer confidence since 2003, and that consumers are at their most confident since September.

I can't help but apply a little skepticism to all the elation, though. Much like it isn't hard for a stock to surge by a huge percentage because the price has been beaten so low, it's not hard to clock the biggest jump in consumer confidence when the index has recently been at very low levels to begin with. And as for consumers feeling a bit better since September, well, September also marked the point when people really realized how screwed up our economic situation was.

Of course, this is one month's worth of figures, and that doesn't necessarily mean the worst is over. You might recall that disappointing data on April retail sales reversed what many people considered to be a bullish trend and showed that the American consumer wasn't really back in a permanent state of carefree spending.

It's not a good time to buy stocks of second-tier, struggling companies, not to mention debt-laden ones; many retail stocks like Saks, Talbots (NYSE: TLB  ) , and Blockbuster (NYSE: BBI  ) strike me as way too speculative in the current environment.

Broken homes
Meanwhile, yesterday's housing data gave no reason for optimism, with national home prices dropping 19% on a year-over-year basis, according to the Case-Shiller Index. Meanwhile, there are many of us who see many reasons why any talk of a bottom in housing prices right now may be an overly optimistic notion.

It's not just the exotic mortgages that are still resetting or due to reset (and that problem isn't just with what is known as sub-prime loans, but also with Alt-A loans; many, many people borrowed beyond their means, even the supposedly well off, using whatever type of loan they could get in order to pay for too much house).

Furthermore, continued economic weakness will take its toll as well. A New York Times article pointed out that the next wave of foreclosures will stem from homeowners who have affordable mortgages, but are losing their jobs. Unemployment is ugly and looks to get worse before it gradually gets better.

It doesn't strike me as a very good time to look at stocks in homebuilders like Beazer Homes (NYSE: BZH  ) , Pulte (NYSE: PHM  ) , or Toll Brothers (NYSE: TOL  ) , either. There's still plenty of pain ahead.   

Unwinding mess
Personally, I believe there are many more shoes to drop before we even come close to recovering from this mess, and the notion of a recovery that takes years isn't out of line. For example, commercial real estate may be just starting to crash and burn, and the consumer credit situation is bleak, with many consumers way over their head in debt and credit card defaults rising. State and local governments are in a pinch, too, as home values plunge and residents lose employment, reducing tax income. It's an ugly maelstrom with major ripple effects.

Put all the moving pieces together and it's easy to conclude that the worst isn't over yet, despite some days' irrational exuberance over one month's "consumer confidence" reading or "green shoots" sightings. And even though a report came out today saying that 90% of economists believe the recession will end later this year, that prognosis includes the caveat that it won't be a robust recovery.

Unfortunately, our economy was artificially bolstered by the real estate bubble, and therefore, the painful corrections must take place.

Careful out there
I may be bearish, but I believe it's a good idea to cautiously buy some stocks. However, investors must realize that the stocks they pick up now are for the long haul and be fully prepared to do the homework to find quality stocks and, of course, to wait. These should be strong companies that are leaders in their niches, with excellent management and strong balance sheets, because the most successful investors will be the ones that pick the companies that can survive these economic hard times. Despite some moments of what sometimes seems like blind optimism on the part of investors (and traders) lately, I still believe many companies won't survive the continued correction in our economy, even with unprecedented government intervention.

On the other hand, Google (Nasdaq: GOOG  ) may be pinched by recession and reduced ad spending, but its main search function is second nature to most of us; Google also has tons of cash and no debt. Apple (Nasdaq: AAPL  ) has a history of innovative, must-have products that develop cult-like followings, and even though the economy's beleaguered, you still see people ponying up for iPhones. Apple also has plenty of cash and no debt.

Still, I think it's important to be aware that the recent market rallies might even imply a bit of a bubble-like mentality in thinking, with many people worrying they're going to "miss out" if they don't pile in now and start buying stocks rather indiscriminately. It's important to address the idea that this may simply be the eye of the storm, and that caution is warranted.

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Alyce Lomax does not own shares of any of the companies mentioned. The Fool has a disclosure policy.


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  • Report this Comment On May 27, 2009, at 8:32 PM, detroitone wrote:

    I say buy Blockbuster, (BBI) and Beazer(BZH) be bullish and you will succeed listening to these clowns from Motley Fool will just keep you hoping that you shoulda done this, or shoulda bought that, listen to your gut feeling. Analysts were wrong from the day recession started. Show me their portfolio. YEAH, EXACTLY RIGHT.

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