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US positioning may better handle Euro-problems; indicators signaling potential for positives

By Stephen W. Mack, CFP®

Many are proclaiming they’ve seen versions of this movie before. And because of the previous two adaptations – in 2010 and 2011 — many pundits are hinting this potential disaster should be the same.

The previous scripts: Greece gets into financial trouble, the world shivers, stock markets go down and, by fall, rebuilding is on. So far, this year has certainly had its similarities. However, unlike previously, the US is starting to look better able to weather the turmoil. And, that could eventually prove to be a positive as 2012 progresses.

Housing got the US into its mess. And, at last, that mess could be bottoming. Recent reports show mortgage delinquencies in the US are now at their lowest in four years. Better still, foreclosure starts have fallen to their lowest levels in five years.

Sales comparisons to one year ago are finally showing improvement. Existing home sales are higher by 10% and new home sales by 9.9%. And, with inventories of existing homes more than 20% below one year ago, sellers may soon see a rising trend in prices.

Overall, this recovery has been frustrating. As of March 31, annual US growth is running a lukewarm 1.9%. Yet, consumers are finally showing an increasing willingness to borrow. While this could be worrisome longer term, recent 10.2% consumer credit growth is its best in nearly 11 years.

No. Not the same movie as last year.

Another improvement, the cost of oil is now declining (oil prices fell more than 17% in May!). That, and a May plunge in interest rates (the cost to borrow) is expected to have consumers feeling better by late summer. Lower rates should be potent medicine for the economy. Look for refinancing to pick up for those whose homes are not under water. Extra funds from lower energy and borrowing costs should be expected to be powerful components for the economy as the second half of 2012 unfolds.

For those still in the theater (many sold out over the past two years and have stayed away), risks have not gone away. Signs can be seen worldwide. Looking for a higher rate of interest? As of the end of May, buying a 10-year US Treasury bond could get you 1.56%. Buying a 10-year German government bond yielded only 1.2%. These low rates are a result of investors fleeing “higher risk” countries.

Want more? As of the end of May, lending to Greece for 10 years could get you 29%. Of course, while your return on your investment may seem good, the return of your investment may not be. More recently, Spain (6.51%) and Italy (5.87%) are increasingly being avoided as fears have grown that principal will not be repaid when it’s due.

These countries’ problems are relatively simple: too much debt and not enough income (taxes) to pay it off. So far austerity (cutting expenses to free up tax monies to pay bills) and increasing tax collections have been the chosen path. However, with many European counties unable to compete with their neighbors, unemployment is high and in these troubled countries, civilian employment participation rates are exceptionally low.

According to the Organization for Economic Co-Operation and Development (OECD), as of the fourth quarter of 2011, only 53.8% of 15 to 64 year olds in Greece held jobs. That’s the lowest in the 27-country European Union. Spain was not much better, with a dismal 56.8% employed (24% unemployed) and Portugal, 63%. On the other end, Germany had 73.2% of its 15 to 64 year olds employed. (The US was reported at 66.8%)

For those working in these troubled countries, hours are long. As of 2010, Greek workers averaged 2,109 hours of labor per year (highest in the European Union). That compares to Spain, 1,663, and Portugal, 1,714. Germany’s average worker puts in only 1,419 hours per year. (The US average is 1,778 hours).

Although Europe has consistently rattled markets over the past two years, investors are now contemplating repercussions of a potential breakup in the Union. Many feel that could change the ending of the repeating movies and lead to an eventual European recovery.

As our readers know, we view markets as being impacted by both psychology and the economy (leads to earnings growth). Since March, sentiment, which was overly optimistic, has turned to fear and pessimism.

Those who exited markets long ago, when markets were sinking, and have not returned are likely pleased being out of the current decline and hoping to avoid another Titanic.

Yet, if our indicators are correct, a stronger end to 2012 will have many scratching their heads wondering if they should again buy, at higher prices. Our expectation is this current move is a correction that will resolve itself with higher prices and a happy ending in 2012. After that, with elections complete, 2013 may, unfortunately, see a return to drama.

Stephen W. Mack, president of Glenview-based Mack Investment Securities, publishes a monthly newsletter called Mack Tracks, which provides a current overview of the markets, economy and monetary and fiscal policy. You can subscribe to the newsletter for free by calling 847/657-6600.

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