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Posted 12/19/2005
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Despite what you hear, inflation is growing
Higher prices and a housing slowdown are making even the wealthy curtail their spending. High-end retailers report soft sales this holiday season, as costs for just about everything keep going up.
By Bill Fleckenstein
Beneficiaries of the housing ATM could not have been heartened by a headline that passed on Bloomberg last Thursday: "Saks and Luxury-Retailer Sales May Slow as Wealthy Reduce Spending." Given my views on the housing ATM, that headline certainly caught my eye.
The accompanying story begins: "Luxury department stores including Saks (SKS, news, msgs) and Neiman Marcus Group may have their smallest holiday sales gains in three years as wealthy shoppers trim spending." If wealthy shoppers feel less like spending this year, you can guess what folks not as fortunate feel like. They're disproportionately squeezed by the higher costs of energy and just about everything else, and they're more dependent on the housing ATM.
The article went on to note that the International Council of Shopping Centers reduced its seasonal forecast by about a third, according to Chief Economist Michael Niemira. The ICSC now expects to see comparable-store sales at high-end retailers up just 4.5% this season, which would be a lower rate of growth than last year and down from its earlier expectations of a 7% gain. In addition, the story quoted CEO Milton Pedraza of the Luxury Institute, which focuses on people with lots of money to spend. Said Pedraza: "It is not the buoyant, over-the-top spending that we saw last year." He blamed the real-estate slowdown and the lackluster performance of stocks.
Continuing on, the story observed that even though luxury retailers won't do as well as expected, they will outperform other chains. Again, that's because of my previous point -- that the further you are down the wealth chain (not to mention those poor folks affected by the hurricanes), the more likely you are to be impinged by macro conditions as they currently exist.
Related news and commentary on MSN Money
Facing up to fading wealth
As for the real-estate slowdown, the story quoted Robert Toll, CEO of homebuilder Toll Brothers (TOL, news, msgs): "We're nowhere near the sales that we did in '04-'05 on a same-store, per-community basis." (Toll's diametrically opposed actions -- vis--vis his own stock sales and Toll Brothers' buybacks -- have been noted in my daily column on a couple of occasions.) Said Pedraza: "It's taking longer to sell homes, and sellers are not getting what they were looking for. The market is sluggish. That changes the perception of wealthy consumers. Then you start to say, 'I'm not as wealthy. Let me pare down a little.'"
Citing the ICSC, the story reported: "In November, luxury stores had an average gain of 2%, down from the monthly average of 6.7% so far this year and a sharp decline from the 9.6% average last year." For those of us who've been thinking that the fall season would start to be a time of increased pressures on the consumer (for reasons related to the hurricanes, energy costs, bankruptcy-law changes and the lagging effect of the housing ATM going on tilt), the Bloomberg story seemed to provide corroborating evidence. So did the poor sales of Best Buy (BBY, news, msgs), which missed "the number" quite badly last Tuesday.
All in all, it's not shaping up to be a very great Christmas. However, the stock market is certainly betting on a great Christmas, a strong economy and, on top of that, a Fed that is about to back off its rate hikes. (And, of course, bulls don't believe inflation is a problem.) If that sounds to you like they expect to have it all ways, that's because they do. And, they have made that bet, which is why they're setting themselves up for some pretty serious disappointment.
The bird's-eye CPI
Turning to the subject of costs, my friend Sean Corrigan of Sage Capital sent an e-mail last Thursday that I thought was rather timely, in that I think one thing that's hurting the consumer is the higher cost of virtually everything -- even though, as I stated, so many people want to believe there's no inflation. Count the government among that group: Last Thursday morning, the Labor Department told us that we had experienced deflation in November, to the tune of 0.6%.
But Sean noted a couple of recent stories. One cited Royal Dutch Shell (RDS.A, news, msgs) as struggling with enormous cost overruns at a number of large projects. A second discussed chemical producer Celanese (CE, news, msgs), which is abandoning plans to build a new plant because construction costs have risen by "30% to 50% over 18 months." He also pointed out that shipbuilding yards have doubled lead times. Sean said "the list goes on" (which it does) and then shared the following:
"The inescapable conclusion is that this whole damn system is stretched tight from top to bottom -- all the past years of underinvestment are coming home to roost at once, and the situation is being exacerbated by the petrodollar boom. We need more steel to build more equipment to dig more coal so we can feed new power stations, and use the extra energy to mine and refine more copper, which we need to wire new shipyards so we can launch more dredgers, so we can improve port facilities, so we can move more iron ore to the expanded railways, so we can make more steel.
"Yet, there is a downside to all this. Namely, that because of our diseased financial system, half the new production is based on zero (negative?) real cost of capital in China, and half the demand is based on credit, not income (whether at the household or the government level) in the West. If and when the wheels come off all this (are they in short supply, too?!), it is going to be truly horrendous!"
To answer Sean's question: Yes, tires, too, are in short supply, as I learned at a recent board meeting. Tires for mining and heavy-construction vehicles appear to be sold out through 2007.
The folly of deflation fears
I'd like to hearken back to when I started my Web site, fleckensteincapital.com, in the spring of 2003. I proudly displayed this on the masthead: "In a social democracy with a fiat currency, all roads lead to inflation."
Folks who have known me for a long time are well aware that it's one of my favorite expressions. I felt especially happy posting that, because at the time, so many people, including our incoming Fed chairman 'Helicopter' Ben Bernanke, were still worried about deflation.
I would like readers to think about how "obvious" deflation appeared to be at that moment in time, when, in fact, the real problem was going to be rising costs and that the price of everything, excluding labor, was about to explode.
Shepherd's Counseling Services
Lastly, I'd like to turn to a subject near and dear to my heart -- Shepherd's Counseling Services -- which is my favorite charity. What they do is counsel adult survivors of childhood sexual abuse. Not exactly a pleasant topic, and one can only imagine how horrible and life-ruining it would be to have experienced something like that. (For anyone who'd like to see a movie on the subject, I suggest "Mystic River.")
Folks have a hard time getting past childhood sexual abuse. Shepherd's endeavors and, in fact, succeeds at helping them do just that. This is not a large organization with layers of bureaucracy. It's a place where an inordinately high percentage of contributions gets put to work.
For any of you feeling pretty good about how the year went and inclined to help people who could certainly use it, I would urge you to give Shepherd's a consideration. Any small amount is appreciated. I have told them that a friend (also a fund manager) and I will each match all contributions that readers of the Contrarian Chronicles make.
Now to end by saying I hope everyone has a Merry Christmas and a Happy New Year. I'll see you when the Contrarian Chronicles returns on Jan. 9.
Bill Fleckenstein is president of Fleckenstein Capital, which manages a hedge fund based in Seattle. He also writes a daily "Market Rap" column on his Fleckenstein Capital Web site. His investment positions can change at any time. Under no circumstances does the information in this column represent a recommendation to buy, sell or hold any security. The views and opinions expressed in Bill Fleckenstein's columns are his own and not necessarily those of CNBC or MSN Money. At the time of publication, Bill Fleckenstein did not own or control shares of any of the equities mentioned in this column. He does not own short positions in any stock mentioned in this column.
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