After reading about how poor a job the Federal Reserve did in anticipating the 2008 financial crisis (as demonstrated in the meeting transcripts from 2007 that were released last week) and, after being pinged by a reader on this subject a short time ago, I thought it would be a good idea to publish some of what I was thinking and writing five or six years ago in order to see how my prognostication skills compared to the Fed’s.
Reproduced in its entirety below is this item from the old blog that originally appeared on January 1st, 2008, in which predictions made in early-2007 were assessed 12 months later.
Note that we can upgrade both of the incomplete grades to an “A” as the housing bubble did pop in 2007 as detailed in item 1 and a recession did begin in the fourth quarter of that year as predicted in item 7.
ooooo
It’s that time again – time to have a look back at the first of last year and see how yours truly did with his predictions for 2007. Last year at this time, in reviewing predictions for 2006, there was a fair amount self congratulation and adulation to go along with an impressive report card that contained six As, two Bs, one C, and one N/A.
This year?
As you can see in the graphic on the left sidebar, the model portfolio at the companion investment website Iacono Research appears to have done about all that could be asked of it – a total gain of 24 percent for 2007.
So, obviously, the most important predictions were pretty good and yes, they involved oil and gold prices (no word yet from yesterday’s contest winner VP).
As a point of historical reference in the world of blogging, it should be noted that on last year’s annual predictions, Aaron Krowne, the proprietor of the now world-famous Mortgage Lender Implode-O-Meter left the following comments:
A nice set of predictions; of course I largely agree.
I think the wild card is whether financial system instability (either subprime lender or hedge-fund triggered) becomes a general meltdown. Anything like this will cause the stock market to swoon. The underlying situation seems to me to be potentially very chaotic.
But it certainly is possible, if not likely, that the market will just keep on soaring nominally.
At any rate, I’ll be tracking the mortgage lender implosion here.
Ahhh… just one year ago, Aaron had time to read all my predictions and make a few of his own in the comments section.
How times have changed.
And now, with no further ado…
1. The Housing Bubble Will Pop
When the word “pop” is used here it refers to a 10 percent decline in the year-over-year national OFHEO resale price data – not refinancings, just resales. Others may define the word “pop” differently, but that’s how it will be defined here. All the other measures are so squishy that you really don’t know what your getting – misleading medians, incentives for new and existing home purchases, and many other factors make it difficult to really assess what has happened using NAR or Commerce Department data.
The popping will not result from the lack of dumb buyers, but rather a dearth of willing lenders. At some point in time, making sub-prime, option-ARM, interest only, 50-year loans no longer makes business sense, and that time will be 2007. There are far too many headwinds going into the mother of all ARM-resets in the months ahead. Ditech.com will not be able to save everyone.
In some areas there will be hell to pay in 2007 – after rising 200 percent or more since the late 1990s you wouldn’t think that a price decline of 20 or 30 percent would hurt, but it will.
Grade: I (incomplete – likely to be at least an A-)
By the time all the housing data is in for 2007, a ten percent decline will probably not be far from the mark – a broad decline like this was once thought to be impossible, but now we all know it is not only possible, but perhaps just the beginning.
The most recent third quarter data from the OFHEO showed a 0.4 percent decline from the second quarter and a year-over-year increase of 1.8 percent while last week’s Case-Shiller Home Price Index showed a 6.7 percent year-over-year decline as of October. Home prices are now deteriorating rapidly and year-end results for both indexes will be known at the end of February.
By any other measure, few could argue that the housing bubble did not pop in 2007. The year 2006 was accurately characterized here as a time when there were still too many willing lenders and still too many dumb buyers for the bubble to pop. Predictions for 2007 correctly foresaw a dearth of willing lenders due to mounting defaults – a further decline in home prices in 2008 may finally see some of the dumber buyers finally wising up.
2. The Dollar Will Not Tank
The trade weighted U.S. dollar index (against the Euro, Yen, Pound, etc.) will continue its decline and be positioned firmly in the mid seventies by the end of the year. The Euro will gain prestige as never before, old-Europe will look pretty smart, and Asian currencies will finally unhinge from the greenback a little more, but not too much.
A dollar rout is in no one’s interest, and if there’s one thing that central bankers know how to do, it is manipulate exchange rates. But, the dollar will go down.
Grade: A+
The U.S. Dollar Index touched 75 and now sits at just over that mark. Despite all of the calls for a “collapse” of the U.S. currency once it fell below 80, the decline seems to be moving along in a mostly orderly fashion.
You could have done well for yourself by owning some foreign currencies in 2007 – the Canadian Dollar gained about 16 percent against the greenback and the Australian Dollar gained about 11 percent. When combined with interest rates for regular bank savings accounts for these two countries, you could have gained about 19 percent and 16 percent, respectively. Not bad.
3. Stocks Will Soar
Amid plunging home prices in the U.S., equity markets will continue higher and people will ask each other, Is it Getting Weimar in Here? Where else are you going to put money? In the bank?
The Dow will make new all-time highs on about 75 trading days and the S&P500 will follow with new all-time highs on about 40 days. The Nasdaq will do OK and Google will finish the year where it started. There will be a couple of nasty sell-offs and short sellers will be confounded for yet another year.
Grade: A-
Boy, the comment, “Where else are you going to put money? In the bank?” has a whole different meaning after the Northern Rock debacle in the U.K. and various problems with supposedly safe money market accounts all over the world.
New all-time highs were seen for both the Dow and the S&P500, though not nearly as many as predicted (I think – I didn’t count them). In the comments section of the 2007 predictions I said the Dow would hit 14,000 (it peaked at 14,280) and that the S&P500 would hit 1,600 (it peaked at 1,576). Year-end predictions for 2007 were (wisely) not provided last year.
It’s not clear why an opinion was offered on the Nasdaq and Google, both of which were off the mark (Google gained 50 percent). However, nasty sell-offs and confounded short-sellers (outside of the financial sector) were spot on.
4. Interest Rates Will Remain Unchanged
Absent any big external events, the Fed will leave short-term rates at 5.25 percent and long-term rates will hover around 4.5 to 4.7 percent. Nothing will change. The Fed will talk tough on inflation when it’s appropriate and threaten to raise rates while at the same time gobs and gobs of money and credit will be created in an attempt to keep asset prices elevated.
This gambit will be successful for equities and commodities, but not for housing. The Fed would much prefer that equities and housing continue to rise in price rather than equities and commodities, but you don’t always get what you want.
Grade: B-
Well, you could say that the implosion of structured investments was a big external event that the Bernanke Fed reacted to when they cut interest rates a full percentage point starting in August. If not for the credit market meltdown, short-term rates would probably have remained level as the labor market has not yet proved troublesome and government-reported inflation is elevated but still contained (as opposed to the real world-reported inflation that is now raging).
As for long-term rates, the ten-year note averaged about 4.5 to 4.7 percent but certainly did not do much hovering throughout the year, rising to over 5.2 percent just prior to the August credit crunch, after which it fell to below four percent. Interestingly, the Federal Reserve talked tough about inflation right up to the time when they started cutting interest rates.
5. Energy Prices will Continue to Climb
Oil will average $70 per barrel in 2007 and will finish the year at about $75, after spiking to $90 sometime during the spring or summer. Russia will become increasingly important in global energy production and they will become increasingly difficult to work with.
It’s payback time for the 1980s.
Grade: A
This one looked pretty stupid two weeks into the year when a barrel of crude oil fetched only about $52 at one point but, as it turns out, the $70 average, $90 peak, and $75 year-end price were all a bit short of the mark. It’s hard to believe that, in 2007, oil averaged about $72, peaked at $99, and ended up at $96.
Outgoing Russian President Vladimir Putin had a very good year and he’s had a very good decade so far. Until the oil and natural gas run out, the Russians will get a whole lot more respect from the West and, now that the elections are over, incoming Russian Premier Vladimir Putin will probably have many more good years. Payback is a bitch.
6. Gold and Silver Will Soar
Gold will spike to around $800 an ounce and will finish the year in the high $700 range. Silver will almost hit $20 an ounce and finish the year close to $18.
Junior mining companies will start to be talked about at cocktail parties – like internet stocks circa 1996 or 1997. It’s still early. There will be at least two gut-wrenching corrections that will cause many new investors to make an early exit from this sector, but they’ll be back. The ones who were shaken out for the first or second time during the May 2006 sell off will be the first ones back in when gold approaches $700 again.
Grade: B
Good on gold, not so good on silver, awful on junior mining stocks. Gold at over $800 doesn’t sound so crazy anymore and has been one of the biggest news stories of the year, yet most retail investors really haven’t caught on yet – when they do catch on, watch out.
While the gold price gained 32 percent in 2007, silver was a relative laggard at only +17 percent ending at just $14.80. The good news is that next year, volatile silver will probably make up all the ground that it lost to gold in 2007, and then some.
I was right about “It’s still early” but wide of the mark about the cocktail party chatter . They’re still talking about real estate at cocktail parties – but not in a good way.
7. Economic Growth will Slow, Consumption will Continue
There are still trillions of dollars of home equity that haven’t been spent yet and much of it will be spent in 2007. Unfortunately, much of this will be in the form of reverse mortgages for senior citizens in order to make ends meet.
As for the younger crowd and their home equity, eventually it will be like millions of alcoholics at closing time, “Sir, the bar is closed. We can not serve you any more drinks. Please go home.” Homeowners will spend their home equity until they can’t anymore – that won’t happen in 2007.
Economic growth will continue to slow coming in just below 2 percent for the year with a recession starting in the fourth quarter.
Grade: A (Incomplete on the economic growth and recession predictions)
Consumer spending has faltered a bit but generally held up better than many had expected, particularly in light of the plunging housing market in the second half of the year. Fourth quarter economic growth is the wild-card for both the sub-two percent growth and fourth-quarter recession predictions – this data will be available at the end of January.
The part about reverse mortgages is a truly sad commentary on the state of affairs in this country and, even more sadly, reverse mortgages, with their gigantic fees, have been one of the few bright spots for mortgage lenders in 2007.
8. Reported Inflation will Remain Contained
More people will realize that the government’s inflation numbers are bogus. They won’t be happy about it.
Grade: A
I don’t know, Americans are still pretty clueless about all things financial except for monthly payments. We are one big country of frogs in water that is being slowly brought to a boil, yet to really feel the heat from inflation that exists everywhere but in the government’s statistics.
If only they could only do something about gasoline prices.
As Alan Greenspan lamented on more than one occasion, gasoline is a vital consumer product and one that consumers can easily measure because they see how much it costs to fill their gas tank every week or two.
9. Job Growth Will Slow, But Not By Much
Some teenagers will be forced to get jobs as their parents’ housing ATM shuts down, but not too many. Help wanted signs at coffee shops and restaurants will continue to be ubiquitous and employment at amusement parks will soar.
The current crop of teenagers and twenty-somethings is getting set-up for a three generation wake-up call sometime in the next decade. They won’t be happy about it.
Grade: A+
I don’t know about the amusement parks but there continue to be plenty of low-paying service jobs for youngsters to spurn. Slowing job growth has been the case in 2007 thanks largely to those food service, health care, and government jobs, however, 2008 is probably going to be quite different.
10. Nothing Will Blow Up (except maybe the Middle East)
A few hedge funds will go belly up and sub-prime lenders will continue to drop, but nothing really bad will happen. There is a cure for every possible ill now that Hank Paulson is in charge at the Treasury Department. It’s clear sailing for at least another year.
Grade: F
I had always thought that things would melt down in slow motion, rather than the chaos that seems to have pervaded credit and financial markets since the summer. And did anything really bad happen in the Middle East in 2007?
This is a difficult category anyway and may be replaced with something else completely different in the 2008 predictions set for release tomorrow morning – predicting “the end of the world on Wall Street” is hard, but structured investments and a slew of other Wall Street products certainly did blow up in 2007.