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On The Economy & BCA’s Long-Term Forecast

By Gary D. Halbert
May 15, 2007


1.  GDP Slumps In The 1Q – Why?

2.  Slowdown Does Not Equal Recession

3.  “Gift Card Effect” – Fact Or Fiction?

4.  BCA’s New Long-Term Forecast

5.  Conclusions – What To Do Now


In my April 24 E-Letter, I argued that the booming global economy would help the US avoid a recession.  I quoted lots of global figures from the latest International Monetary Fund report, which showed that most other countries around the world are experiencing phenomenal economic growth.  So I predicted another couple of quarters of slow growth in the US – but no recession – and a rebound in the economy next year.

But then on Friday, April 27th, the Commerce Department reported that 1Q GDP rose only 1.3% (annual rate), the slowest growth in four years and well below pre-report estimates.  The continued housing slump shaved a full 1% off of GDP in the 1Q. 

Not surprisingly, the disappointing 1Q GDP report led many analysts to rethink their views on whether this is a garden-variety economic slowdown or something worse.  Of course, the gloom- and-doom crowd is jumping for joy – we’re headed for a recession for sure now!  What else is new?

In the pages that follow, we will take a close look at the latest GDP report as well as the other latest economic reports.  As you will see, there are reasons why the economy slowed more than expected in the 1Q.  Yet despite the slowdown in the 1Q, I still don’t think the economy is headed for a recession this year, barring any major negative surprises.

Neither does The Bank Credit Analyst, my most trusted source for economic and major market forecasts.  In fact, in its latest May issue, BCA states: “A key conclusion is that the major forces behind the supply-side [economic] expansion are likely to remain in place for the foreseeable future.”  Foreseeable future?  Wow, that’s strong, even for BCA!  This week, I will share with you BCA’s latest thinking on the economy, as well as their latest views on the investment markets

GDP Slumps In The 1Q – Why?

US economic growth was the slowest in four years in the 1Q, as the continued slump in the housing market weighed heavily on the economy overall.  The Commerce Department reported that GDP rose only 1.3% (annual rate) in the 1Q, which was well below pre-report estimates.  That was down from 2.5% in the 4Q and the pre-report expectation of 1.8%.

The biggest factor behind the 1Q slowdown was the continued slump in the housing market. Investment in home building was cut by 17% in the 1Q, on an annualized basis, following a 19.8% drop in the 4Q of last year.  Builders continue to cut back construction and are struggling to move the glut of unsold homes. 

The housing slump slashed a full 1% off of overall GDP in the 1Q.  The US trade deficit also weighed on 1Q economic growth, shaving another half percentage point off GDP. Another factor holding back GDP in the 1Q was a 6.6% drop, on an annualized basis, in federal defense spending. That was the biggest cut since the final quarter of 2005.

Weaker than expected investment by businesses in inventories also held back 1Q GDP.  This was the second consecutive quarter of reduced inventories.  While such reductions are negative in the short-term, inventories will have to be rebuilt, which will have a positive effect in subsequent quarters – assuming I’m right that a recession is not coming just ahead.

On the positive side, consumer spending, which now accounts for apprx. 70% of GDP, was up 3.8% in the 1Q. That was another solid showing, although it was slightly weaker than the 4.2% growth in the 4Q of last year.

A key reason why consumers have remained resilient, even in the face of the painful housing slump, is that employment has managed to stay in great shape. The nation’s unemployment rate remains at a five-year low of 4.5%.  The continued strong employment environment is a major reason why consumer spending remains strong.

On another note, we saw a surprising jump in the manufacturing sector earlier this month.  The much watched ISM manufacturing index jumped to 54.7 in April, up from 50.9 in March.  So, as usual, all the news is not bad.

Slowdown Does Not Equal Recession

The bottom line is, the economy remains in a cyclical growth slowdown which is likely to continue for another couple of quarters.  The weaker than expected GDP number for the 1Q should not have come as a big surprise, since the Index of Leading Economic Indicators was also much weaker than expected in January and February.  I suggested as much in my April 24 E-Letter.

Let us keep in mind that a 1.3% increase in economic growth is a far cry from a recession.  In a recession, we would see negative GDP numbers.  1.3% growth is not negative.  This will no doubt come as a surprise to the gloom-and-doom crowd!

I understand that some of my readers may not share my confidence that the US economy is not headed for a recession later this year.  Even if you are not a reader of the gloom-and-doom crowd, there is certainly no shortage of other analysts you may read who are predicting a recession later this year.

So, what should you be watching for if you are concerned about a recession?  In my opinion, you should be watching these three things primarily: 1) consumer spending; 2) the unemployment rate; and 3) consumer confidence over time. 

As noted above, consumer spending accounts for apprx. 70% of GDP.  We are not going into a recession as long as consumer spending remains high.  And consumer spending has surprised on the upside for years.  While this is a subject for a future E-Letter, US consumers overall are not nearly as in debt as we have been led to believe.

Along this same line, keep in mind that a short-term drop in consumer confidence does not always translate into a drop in consumer spending.  Consumers don’t automatically cut back on spending just because their confidence level falls off for a month or two.  The media supplies us with plenty of negative news on a daily basis, so it is only natural for consumer confidence levels to vary widely.

Finally, a very strong employment market, as we have now, virtually assures that we are not headed into a recession anytime soon.  When jobs are plentiful, people tend to be confident, despite the daily drip of negativity from the mainstream media and, of course, the gloom-and-doom crowd.  And when consumers are confident, they continue to spend.

As noted in the Introduction above, The Bank Credit Analyst believes this good economy could continue for the “foreseeable future,” which I would interpret as at least several more years.  So enough with the recession worries, at least for now, please. 

But I’m getting ahead of myself as I so often do.  Before I get to BCA’s latest upbeat forecast, I want to briefly touch on an economic topic that has been receiving more and more attention the last few years – the so-called “Gift Card Effect.”

“Gift Card Effect” – Fact Or Fiction?

In my February 6, 2007 E-Letter, I discussed how some economists expected gift cards sold in November and December of 2006 to have a positive impact on the Q1 2007 GDP number.  That’s because gift cards, though purchased in the last quarter of 2006, are not counted as “sales” until actually redeemed (spent), which usually occurs in January and February.

Some credited the “gift card effect” with helping to inflate the annualized GDP number for the first quarter of 2006 to a whopping 5.6%.  So, if more gift cards were sold during the 2006 holiday season than in 2005, why didn’t gift card sales boost the latest GDP number for the 1Q of this year?  Or more ominously, was there a substantial gift card effect that was offset by other negative factors in the economy?

Before answering these questions, let’s look at the magnitude of gift card issuance in the US during the 2006 holiday season.  Tower Group, a financial services industry advisory and consulting firm, reports that total annual gift card sales are approaching the $100 billion mark and have been used by more than half of all consumers in the United States.   The National Retail Federation estimates that total gift card sales during the 2006 holiday season alone were nearly $25 billion, a 34% increase from 2005.

The use of gift cards has also changed retail store activity.  Because so many people are spending their gift cards in January and February, some stores have started rolling out their spring merchandise earlier in the year to capture some of this expected spending.  It’s also been shown that many gift card holders will spend money over and above the value of their gift card for items they want, so these additional sales also work to the retailers’ advantage and should boost GDP.

Gift cards also help retailers by reducing the amount of returned merchandise.  The theory is that gift card purchasers have a better idea of exactly what they want, so they are less likely to return items after buying them.  So what’s not to like about a gift that is easy to buy, easy to use and virtually assures the receiver will get exactly what they want?

Well, there is a “dark side” of gift cards, at least from the consumer standpoint.  Industry experts estimate that the unused value on these cards, referred to as “breakage,” can range anywhere from 10% to 19% of gift cards’ value.  The cards may be lost, only partially redeemed or forgotten, but the net effect is that the stores receive cash but in many cases never have to deliver the merchandise.  Tower Group reports that one major retailer recently reported a $42 million benefit to its income statement as a result of unused gift cards. 

Some consumer advocates also complain that purchasing a gift card essentially gives a bank or retailer an interest-free loan until the card is redeemed.  Gift cards are also subject to scams, as we saw during the last holiday season.  Then there are all of the other non-economic criticisms of gift cards, such as being impersonal, or what you buy when you’re “too lazy to find a real present.”   However, the advantages of gift cards seem to far outweigh the disadvantages, so look for their use to continue to grow in the future.

Which brings us back to the topic of our concern, namely whether gift cards have a delayed effect on quarterly GDP.  I noted above how an estimated $25 billion worth of gift cards were given as gifts during the 2006 holiday season.  Since over half of all gift cards received during the holidays are redeemed in January and February, consumer sales should have had a good boost in the 1Q.

I think it goes without saying that redeeming gift cards in January and February must have some positive effect on the 1Q GDP numbers.  The question is to what extent do gift cards affect the economy overall?  The answer is, “not much.”

Even though gift card purchases soared to a record $25 billion in late 2006, and roughly half of that amount was spent in the 1Q, the $25 billion pales in comparison to total consumer spending.  The Commerce Department estimates that US consumers spend over $2 trillion each quarter.  So, $25 billion is only about 1% of total consumer expenditures.

What this means is that the so-called “gift card effect” is just another urban myth.  While gift cards purchased in December do have some positive effects on the economy in the 1Q of the following year, the overall effect is quite minimal.  Even if all gift cards were spent in the 1Q, the net effect on consumer spending overall would still be minimal.

BCA’s New Long-Term Forecast

As long-time clients and readers know, I am a big fan of The Bank Credit Analyst (  I have been a continuous subscriber to BCA for 30 years.  I have found BCA to be the most accurate source for trends in the economy, interest rates, inflation and the major investment markets of any of the many publications I have subscribed to over the years.  BCA is not perfect, mind you, but they have been far more accurate in their forecasts than anyone else I read.

In May of 1994, BCA issued a Special Report which included several new forecasts that took me (and I’m sure other subcribers) by surprise.  Bill Clinton was president; he had raised income taxes substantially; and many of us feared that the US economy was about to go into a tailspin.

BCA, on the other hand, predicted in their May 1994 Special Report that the US economy had entered what they called a multi-year “technology-led, long-wave upturn.”  In this Special Report, the BCA editors predicted that the US economy was going to boom for a long time to come, largely as a result of the explosion in Information Technology (“IT”).

BCA predicted that the US economy would surprise on the upside for the foreseeable future, and that any recessions along the way would be mild and short-lived.  As it turned out, we’ve only had one recession in the last 13 years (2000-2001), and it was one of the mildest recessions on record.

In that same Special Report, BCA predicted that the ‘long-wave upturn’ would be very bullish for equity prices and recommended that subscribers move to a fully invested position in stocks.  The editors predicted that stocks would also surprise on the upside for the foreseeable future. The S&P 500 Index was around 450 in May 1994; it exploded to above 1,500 in the following six years.  The Dow Jones Industrial Average was below 4,000 in May of 1994; it soared to above 11,000 by the peak in early 2000.  It was the biggest bull market in history.

In the second half of 1999, BCA warned that the economy was overheating, and that the “” craze would have an ugly ending.  As the equity markets were nearing their highs, BCA warned that stocks were long overdue for a downward correction and recommended that subcribers reduce their equity portfolios to only core positions.  As we all know, the equity markets crashed in 2000-2002.  The S&P 500 lost almost 45% of its value, and the Nasdaq lost over 75% of its value.

When we hit the recession in 2000-2001, the gloom-and-doomers were in a state of euphoria.  The recession was sure to worsen into a depression, and the US economy would be all but wiped out.  Yet the editors at BCA steadfastly maintained that the recession would be mild and relatively brief.  They were confident that the technology-led, long-wave upturn was not nearly over.  And right they were, once again.

We came out of the recession, the economy boomed once again, and stocks began another powerful bull market.  Today, the Dow Jones is at an all-time record high above 13,300 and the S&P 500 is not far from a new high.  The economy is currently in a “soft patch,” largely due to the housing slump.  But as discussed above, GDP growth is still positive.  BCA does not believe we are headed for a recession.

The Long-Wave Upturn Is Still Intact

I revisted my long history with BCA in the preceeding paragraphs because the editors once again referred to the long-wave upturn in their latest May issue.  BCA’s May Special Report was entitled, “Will the Supply-Side Low Inflation Boom Persist?”  In short, the editors believe it will.

As always, BCA substantiates its forecast with sophisticated analysis and research (much of it proprietary).  While far too lengthy to go into in this short space, BCA feels strongly that the long-wave upturn is not yet over.  As noted in the Introduction, the editors say:

“A key conclusion is that the major forces behind the supply-side [economic] expansion are likely to remain in place for the foreseeable future. Thus, we see no reason to abandon our view that markets will be supported by the combination of good growth and low inflation.”

It is clear that the editors believe the IT revolution has further to run, and that the US and global economies will continue to grow for some time to come.  Obviously, this assumes the US will survive the current housing slump, which is going to be a negative for at least another year.

BCA remains bullish on stocks, although they expect US equity returns to be only in the single digits for the next couple of years or longer.  They are particularly bullish on emerging markets.

“An environment of good [economic] growth and low inflation, and interest rates at or below neutral levels has fueled investors’ animal spirits and risk appetites. This creates fertile ground for asset bubbles and low risk premia.  …we maintain our long-held stance of above average equity weights…  Emerging markets seem to be particularly well placed to benefit from a benign economic environment and continued investor optimism.”

BCA’s reference to “asset bubbles” is a suggestion that they believe stocks could once again surprise on the upside over the next couple of years, especially emerging country stocks.

As always, it remains to be seen if BCA will be correct once again.  The editors quite frankly admit that there are risks to their forecast.  However, absent any major negative surprises, the editors believe that the long-wave upturn is still intact, and that this will continue to benefit the equity markets.

As always, I highly recommend The Bank Credit Analyst.  Their various services are not cheap; the basic monthly report (50+ pages) costs $2,000 per year; and other services go up from there. But BCA is invaluable, especially for someone in my position.  For more information visit BCA at or call them at 800-724-2942.

Conclusions – What To Do Now

In my business, we talk to prospective investors all the time.  Most people who call us are either out of the equity markets altogether (many have been out since the bear market), or are significantly under-invested in stocks and/or equity mutual funds.  The single biggest concern we hear from prospective clients is something like this: The markets are sky-high, it’s too late to get in now, when do you expect we’ll get a correction?

Apparently, this is not just a concern held by those who call my company looking for help.  The American Association of  Individual Investors (“AAII”) is a non-profit organization designed to educate investors about stocks, bonds, mutual funds and other financial alternatives.  AAII has a large following.  AAII regularly polls its members to get their outlook on the stock market over the next six months.

Surprisingly, the latest AAII poll found that “bullish sentiment” was only 29%, while “bearish sentiment” was 54%.  This is rather shocking at a time when the Dow Jones is setting new record after new record!  Normally, bullish sentiment is soaring when the equity markets are hitting new highs.  Not so today.

The AAII poll simply confirms what I have said for the last several years.  A LOT of investors are either out of the stock markets altogether, or are under-invested.  Unfortunately, many investors did not jump onboard the bull market of the late 1990s until near the end.  They got burned badly in the bear market, and got out somewhere near the bottom.  They’ve not gotten back in since.   

If you could poll these people, I suspect most would say they are not bullish, as they are hoping for a significant pullback so they can get back in.  But bull markets are not very forgiving.  The correction we saw in late February/early March was a good time to get back in or add to your positions as I suggested.  But I don’t get the impression that a lot of investors took advantage of that opportunity.

My suggestion, as always, is to hire professional money managers to make those decisions for you – at least for a portion of your portfolio.  With the markets at these high levels, I believe it makes particular sense to go with professionals that use “active management” strategies that have the flexibility to exit the market or “hedge” long positions in the event of a significant downturn.

This is where I have most of my money.  Maybe you should too!  You can look at the money managers I recommend at or call us at 800-348-3601.

Wishing you profits,

Gary D. Halbert


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Forecasts & Trends E-Letter is published by Halbert Wealth Management, Inc. Gary D. Halbert is the president and CEO of Halbert Wealth Management, Inc. and is the editor of this publication. Information contained herein is taken from sources believed to be reliable but cannot be guaranteed as to its accuracy. Opinions and recommendations herein generally reflect the judgement of Gary D. Halbert (or another named author) and may change at any time without written notice. Market opinions contained herein are intended as general observations and are not intended as specific investment advice. Readers are urged to check with their investment counselors before making any investment decisions. This electronic newsletter does not constitute an offer of sale of any securities. Gary D. Halbert, Halbert Wealth Management, Inc., and its affiliated companies, its officers, directors and/or employees may or may not have investments in markets or programs mentioned herein. Past results are not necessarily indicative of future results. Reprinting for family or friends is allowed with proper credit. However, republishing (written or electronically) in its entirety or through the use of extensive quotes is prohibited without prior written consent.

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