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VERSACE: Economic data stir fears as input costs increase

- The Washington Times - Friday, February 19, 2010

ANALYSIS/OPINION:

The last few weeks can be categorized by some as ones filled with mixed messages. Some earnings and economic data were positive and upbeat, while others underscored how dire the environment is on Main Street.

I continue to recommend investors check and recheck their investment positions and the underlying rationale for those positions. It appears to me that the roller coaster ride is poised to get a tad bumpy in the near term. For those that are unsure of their holdings, no one should ever complain about taking profits from time to time or, as the professional lingo goes, "trimming back a position."

What is sparking this latest round of concern?

I suspect readers will ask this because there have been some positive data in the form of Philadelphia Fed indices, housing starts and industrial production for January and similar retail sales data released last week. My initial reaction is that those numbers were good, but I would be remiss if I did not point out how choppy the data have been - up one month, down the next. I find it hard to get excited until we have several data points that when connected show a positive slope. As regular readers know, it take more than one point to draw a line, and the more data points we have over a period, the more confident we can feel about the line we have drawn.

What renews my concern are the continued weak sentiment indices, rising input costs and fresh new unemployment claims that continue to run higher than expected on a year-to-date basis. While many remain focused on what is occurring in Greece and what any spillover might mean, and others are pondering how to deal with China on currency and trade matters, I continue to look at matters that will affect corporate profits and subsequently the ability to hire new employees.

On Thursday, the January producer price index for finished goods came in at a 1.4 percent increase, which not only topped expectations of 0.8 percent for that month, but also followed a more subdued 0.4 percent increase in December. Tracking back several months, we see a string of sequential increases since October with increases of 1.8 percent in June and 1.5 percent in August.

Breaking the index down, we see more significant upward moves in energy prices and food. Now many look to focus on the "core" index, which excludes food and energy, but everyday consumers spend a measurable part of their budgets on these items, so we need to consider them. Moreover, energy prices are a key input into the manufacturing sector.

Aside from the formal producer price index, I tend to keep an eye on other key input costs - aluminum, copper, tin, cotton and others. All of these, along with crude oil and gasoline prices, have posted significant increases from year-ago levels. Aside from the impact on the consumer, one example of how this affects businesses is the increase in lumber prices, which are up more than 30 percent on the futures market, and that increase could raise construction costs or pressure builder profits, in an already fragile industry. One of my fears is that while demand may start to improve, input costs and related issues will pressure margins and restrict job creation.

While mentioning jobs, I would be remiss if I did not mention that this week's initial jobless claims were nearly 40,000 higher than expected, and we have started to see continuing claims tick up again. This is bound to be fodder for many as President Obama describes the "success" of the American Recovery and Reinvestment Act. While weekly initial jobless claims have fallen dramatically from levels posted several months ago, the weekly data continues to be far in excess of 400,000 per week. It looks to me like we will be hearing more about jobs saved than those actually created near term.

As I mentioned at the start, dust off those investment rationales. One of the key themes that I am revisiting is "the cash-strapped consumer." The notion there is that people will need to consume but with high unemployment, high concern about jobs and spending, consumers will continue to buy in a frugal fashion to get more for their spending dollar.

In other words, we would continue to look at companies like McDonalds, Wal-Mart and Hanes Brands and the like over specialty retailers and apparel companies such as Abercrombie & Fitch, Morton's and Victoria's Secret that sell higher-priced goods. More on that and other investment themes I am examining to come in the weeks ahead.

c Chris Versace is director of research at Think 20/20 LLC, an independent research and corporate access firm based in Reston, Va. He can be reached at cversace@washington times.com. At the time of publication, Mr. Versace had no positions in companies mentioned. However, positions can change.