Hunt Presentation Ch 6 10

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“When in doubt, Wall Street looks to GNP for ultimate guidance.” # 1 Choice of the Markets for judging the speed and direction of the overall economy. Chapter Six: The Big Picture

GNP Defined: 

GNP Defined Total Value of Everything our society produces. Highly Publicized and Easily Assessable Not so reliable….and it often undergoes significant revisions… in fact its various components are much better indicators.

What Makes up GNP?: 

What Makes up GNP? 1)Consumer Spending 2)Gov’t Spending 3)Inventory Investment 4)Capital Spending 5)Consumer Durables 6)Housing

Consumer Spending : 

Consumer Spending Food, Clothing, and other necessary goods Softens during plunge but is otherwise always positive Along with Durables makes up 2/3 of GNP 2 Exceptions 1974(Arab oil embargo) 1980(Pres. Carter’s Credit Controls)

Government Spending : 

Government Spending 2nd Largest Portion of GNP Sums up Federal, state, and local government expenditures Falls during the late Plunge and Early Revival, otherwise is positive. Stable underpinning of economy, generally shows moderate increases year over year

Inventory Investment : 

Inventory Investment Monitors changes in inventory levels held by all businesses Most Volatile component Final Sales – barometer of near term Movements Follows a boom bust cycle Continues Strength in Inventories is a red flag for the transition to ease-off. Will be negative during plunge

Capital Spending : 

Capital Spending “Real Non-Residential Fixed Investment” ie. Property, Plant, and Equipment 3rd Largest Component of GNP Helps to increase the productive capacity of the country It’s a laggard it turns down after a recession has begun, and upward after the ensuing expansion “Once businessmen throw in the towel you can be sure the economy is heading for a hard fall.

Consumer Durables : 

Consumer Durables Autos, home appliances, & heavy duty items Only Volatile part of Consumer Spending Amounts to Approx. 10% of GNP Rises during Revival and Acceleration Falls during maturation, ease-off, and plunge stages. Sharp turns signal phase changes

Housing : 

Housing Includes new structures as well as repairs to existing ones Very sensitive to interest rate changes Can also be influenced by price and tax factors Typically the 1st GNP Component to perk up ahead of an economic expansion Turndown is often a red flag to the transition to maturation

Be Flexible in developing your Outlook: 

Be Flexible in developing your Outlook Have to weave together many pieces of information Must be flexible enough to reinterpret the big picture with every new piece of information Most important don’t let one week or even one month’s worth of data scare you.

Chapter Seven: Inflation’s Action-Packed Trends: 

Chapter Seven: Inflation’s Action-Packed Trends “Inflation will be your most important yardstick for evaluating economic change.” Once we learn to measure inflation we can begin looking at its many investment implications. 1)Need to develop a sense of inflations impact on the economy and 2)step back from today and analyze the trend over a longer period of time.


Typically steps on the gas pedal during the acceleration and maturation. Inflation will continue upward until the plunge turns so sour that it knocks it out. Disinflation is carried over into the revival and the process begins anew.

How Inflation affects your Investments: 

How Inflation affects your Investments When inflation heats up the return on real assets (gold, real estate, etc.) will jump ahead of financial assets (stocks, bonds, etc.) Investors should move aggressively in gold and other commodities. Energy and Gold Stocks will perform fairly well during times of inflation. When inflation cools down the return on financial assets outdistances real assets all investors aggressive and conservative should move into the stock and bond markets. A change in inflation will always have a more immediate affect on bonds and commodities then on stocks.

Measuring Inflation: 

Measuring Inflation The most reliable indexes are the Producer Price Index (PPI) Consumer Price Index (CPI) Both are reported monthly

Producer Price Index (PPI): 

Producer Price Index (PPI) Tracks the prices on over 3000 products ranging from raw materials to finished goods. The most market sensitive of all price indexes. Goes through only minor revisions that are for the most part statistically insignificant. Is composed of many sub indexes which can be watched independent of the whole.

Disadvantages to the PPI: 

Disadvantages to the PPI It ignores the service industries: Retail trade, financial services, communications, and more In 1986 this was 75% of the total payroll, it is surely more today.

Consumer Price Index (CPI): 

Consumer Price Index (CPI) One of the most widely reported government statistics. Everything from social security to labor agreements are tied to the CPI. Represents price changes for almost everything on your shopping list, as well most of your monthly bills, plus taxes and fees paid to lawyers, doctors, etc. Includes price changes for domestic and international commodities, and most importantly SERVICES

Disadvantages to the CPI: 

Disadvantages to the CPI Only includes 400 Items Sometimes is very out of synch with people’s view of inflation Had many computation errors in the 70’s Comes out nearly 2 weeks after the PPI Because of this reactions to the CPI tend to be muted

The Commodity Indexes: 

The Commodity Indexes Much lower profile than the CPI and PPI Much better at detecting inflation Tracks everything from Burlap to Platinum Dow Jones and the Commodity Research Bureau (CRB) publish spot and future indexes. The futures indexes tend to move ahead of the treasuries

The Inflation Fail Safe: 

The Inflation Fail Safe When all other indicators are sending you conflicting signals, inflation can provide a definitive conclusion. It’s momentum is strongly linked to the economic cycle. Rising inflation is a precursor to a recession just as disinflation will kick off a recovery.


“Inflation’s trends , rather than single monthly reports, determine the what implications there might be for investing.” Perception matters the most! One month’s worth of data if Drastic or Unexpected can have a profound impact on the markets. Hunt recommends 3 and 12 month reviews of the price indexes. Chapter Eight: On Inflation’s Trail

Price Trends that signal Accelerating Inflation: 

Price Trends that signal Accelerating Inflation If the 12 month averages are stable but the 3 month begins to rise this is a early warning sign that the acceleration stage has begun. + Gold/Commodities If the 3 month and 12 month averages are rising then you are entering into the maturation stage. + Gold/Commodities - Stocks/Bonds

Price Trends that signal Decelerating Inflation: 

Price Trends that signal Decelerating Inflation If Commodity prices decline, while the 3 month averages stabilize, and the 12 month averages accelerate it’s an early warning sign of disinflation. Be prepared to move into stocks and bonds shortly If Commodity prices and the 3 month Averages are both falling sharply and the 12 month average is stabilizing or declining the economy is entering the Plunge Stage. ++Stocks/Bonds - Gold/Commodities If there is a sharp and continuing decline in the averages and the 3 month average is falling faster then the 12 month averages you are in the middle of a protracted disinflation. Most likely to occur during Revival. +Stocks/Bonds

How we React to Inflation: 

How we React to Inflation Consumer Resistance (2/3 of the Time) From a recession’s plunge thru the revival and acceleration. Advance Buying – if inflation continues to go higher and higher we justify buying more today rather then waiting till tomorrow  Leads to even higher inflation. Overheating will occur typically in the maturation stage. Consumer Determined Resistance occurs when there’s disinflation  can lead to delay we put off buying it until tomorrow when it will be cheaper then today. Delay won’t happen during every economic cycle.


Overheating Often Proceeded by very strong growth in the maturation stage. Housing, Business Capital Spending, Gov’t Spending, etc. SIMULTANEOUSLY BOOM – Pushing the economy beyond the limits of non-inflationary growth. Bearish for Long Term Bonds Bullish for Gold and Precious Metals Can Push stocks higher in one last Speculative Burst Overheating implies the next economic downturn will be comparatively severe


Disinflation The Polar Opposite of Overheating Can occur during outright recessions or periods of sluggish or renewed growth Weak Demand for goods and services, and excess capacity within the economy Prices may even begin to drop People will prefer paper assets to hard assets and stocks will perform quite well Bonds typically perform their best at the beginning of Disinflationary periods Price declines by their nature set into motion countervailing forces that bring back inflation

President’s Wage war on Inflation: 

President’s Wage war on Inflation Richard Nixon Weak economy, rising interest rates, and high inflation Mandatory Price and Wage Controls Worked at first – Stock and Bond Markets Rallied, but large sell-offs followed as more and more problems became apparent Jimmy Carter Many unsuccessful attempts at slowing price increases Mandatory Credit Controls Remembering the disaster following Nixon’s experiments the markets reacted negatively. Only Made the problems worse

Chapter Nine: The Personality of The Fed: 

Chapter Nine: The Personality of The Fed Overview: How to react to Fed movements and during crisis periods.

The Fed: The ultimate source of money in the economy: 

The Fed: The ultimate source of money in the economy Interacts with the federal government and international policy makers Not infallible, so you must proactive in your analysis There are market forces beyond their control Chairman’s power is comparable to that of the president

Getting to know what the Fed is up to: 

Getting to know what the Fed is up to Chairman’s February and July addresses to Congress on monetary policy—“Humphrey- Hawkins Reports” Fed’s daily operations buying and selling of government securities— regulating supplies– actions may be different than announced line Changes in attitude— anti-inflation and pro-growth Are they intervening in a Financial Crisis?

The Chairman’s role : 

Examine the economic goals of the president— usually reflects ideas of president (if newly appointed), may be a conflict of interest--- economically sound or politically expedient? The chairman’s background also suggests economic goals; ideal mixture is that of finance, politics, and international relations Watch the foreign market’s treatment of the dollar Has contradictory goals of low inflation and consistent growth: “to take away the punch bowl just as the party was getting started” Handles the 12 delegates of The Federal Open Market Committee, but is usually supported by the group. The Chairman’s role

Public Statements: 

Public Statements Important information on futures plans are buried in these Discount Rate Statements (see ch 10) FOMC meeting minutes—summaries in newspapers are extremely important. Example: the 1979 “monetarism” decree. Humphrey-Hawkins—what is the Fed hinting at in the future? Example: the ’82 loosening The Fed does not always tell the truth!

Daily Operations: Trading US government securities: 

Daily Operations: Trading US government securities -“The Fed typically performs daily operations between 11:40 and 11:45 AM, and any actions are immediately reported by major financial news services. Thursday operations are particularly significant because this is the first day of the bank statement week, and the Fed can maximize its impact on reserves.” -Operations should support your view of current Fed policy

The Fed’s Changing Attitude: 

The Fed’s Changing Attitude Difficult to pinpoint turning point but are signaled by “dire” inflationary trends, deep recessions, foreign exchange crisis, domestic financial crisis, or the appointment of a new chair Back to the ’79 “Monetarism” shift– conference held on a Saturday


Crisis Investing: Gains to be made The Fed acts as a lender of last resort in large corporate bankruptcy, bank failures, and so on. Panic can break out, induced by press coverage creating ripple effects due to emotional responses as well as historical memories of the Great Depression “Contrary to what you might think, financial investments perform well during these crises and gains can sometimes be substantial.” Ease-off and plunge will expose weak businesses


Examples: Penn Central Railroad bankruptcy in 1970: Occurred in ease-off to plunge stage, so you should be already in bonds and stocks. Fed stimulates economy in response to panic; index raises 13.4% in 10 weeks, 10 year T-Notes fall 50 BP. Franklin National Bank Insolvency in 1974: Again, ease-off to plunge stage. Franklin faces huge losses in foreign exchange trading; Fed loans them $1.7 billion. 10 year T-Notes fall 100 BP and S&P raises sharply. Hunt Silver Crisis 1980: Recessionary period. Interest rates rise for the billionaire brothers when borrowing to corner the silver market. Fed acts as intermediary, lending credibility to discussions. 10 year T-Note falls 350 BP and S&P gains 10% in 12 weeks. Lombard Wall-Drysdale Double Crisis 1982: Plunge stage. Bankruptcy of two government securities dealers- possible ripple effect on other larger dealers who had large investment positions using small capital bases. Fed eased credit policy. 10 year T-Note fell 300 BP and the S&P climbed 35% in 12 weeks.

How to React in a Crisis: 

How to React in a Crisis Don’t Panic: the Fed will not allow the monetary system to be undermined Quality: buy defensive, risk-averse positions in treasury securities Reassess your analysis: check for strains that are not apparent in the economic indicators

When a Crisis occurs in the various economic stages…: 

When a Crisis occurs in the various economic stages… Ease-off: assume a plunge is coming Revival: will not affect your investment decision Acceleration or Maturation: -Cautious: intermediate government notes 1-2% of assets -Aggressive: intermediate gov’t notes 5-10% of assets

Notes on Future Crises: 

Notes on Future Crises Weak entities can be shaken out at any time by shifts in inflation, interest rates, the economy, or foreign competition The banking system may not be as solid due to high risk creditors, highly leveraged buyouts, and real estate investments Inflation can be a concern due to our changing speculative habits in investments


Chapter 10: Two Well-Known Interest Rates and How They Work Overview: “Money is currency plus checking accounts”

Two types of Interest Rates involved in the monetary process: 

Two types of Interest Rates involved in the monetary process Discount Rate: what banks pay to borrow reserves from the Fed Federal Funds Rate: how much one bank charges another to borrow funds it has on reserve at the Fed Both do not have the overriding significance that the media attaches to them

“Beware of the Discount Rate”: 

“Beware of the Discount Rate” The discount rate can be appealing because logically it suggests that it will move banks to change interest rates, but lots of other factors affect the economy as well.

Three Varieties of Discount Rate Changes: 

Three Varieties of Discount Rate Changes “Leading. This is the only case in which a discount rate will produce similar declines in interest rates and stimulate the economy.” Example: 1985 rate cut accompanied with statement that the Fed wanted to lower the rate to stimulate the economy. Interest rates dropped and the DJI jumped 200+ points in 6 months. “Lagging. The central bank can also use the discount rate to shore up prior monetary tightenings or easings.” Example: In 1982, a rate cut occurred six times during a recession. Finally, after cutting the seventh time, the market did not respond because the “reduction was unwarranted because the economy was … emerging from recessionary circumstances.” Interest rates rose instead. “Missteps…. The Fed can take a series of discount rate cuts or raises too far and must reverse itself quickly…..An example: When the Fed cut the discount rate to 10% from 11%... [in] 1980, interest rates had risen from their yearly lows and were already significantly higher. After the discount rate reduction, other rates continued to rise, reflecting the surging money supply, rebounding inflation, and economy rousing itself…the Fed… returned the discount rate to 11%.”

“…The Fed is not necessarily wiser than you are in judging the condition of the economy.”: 

“…The Fed is not necessarily wiser than you are in judging the condition of the economy.” Examine the statement accompanying the change—is it just a lagging move? Only leading moves will create changes in the interest rate Discount rates are only good if they stimulate a weak economy or slow down a hot one; does your momentum analysis agree? Only one out of 6 predictions for a discount rate movement comes true

General Life Cycle Effects— but don’t rely on these: 

General Life Cycle Effects— but don’t rely on these Cuts to the discount rate occur in the plunge phase through the revival After the stabilization, the Fed hikes the rate through maturation and ease-off

The Federal Funds Rate: 

The Federal Funds Rate Poor predictive power, but excellent in determining current policy/view of economy Best examined as a weekly or monthly average The Fed doesn’t set the rate, and seasonal and unpredictive factors can affect it Start falling LATE in an ease-off and continue falling through the revival; the rate rises during the expansion and 2/3 of the way through the ease-off



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