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Five Things You Need to Know: Housing Starts at 17-Year Low; Let the Spin Begin


According to some, the decline in housing starts to 1991 levels is actually good news.


Kevin Depew's daily Five Things You Need to Know to stay ahead of the pack on Wall Street:

1. Housing Starts at 17-Year Low; Let the Spin Begin

Housing starts in the U.S. in March fell to a 17-year low, according to the Commerce Department, a decline that was more than twice as much as economists' forecast. But even a miss of that magnitude wasn't enough to put a cork in the positive spin.

According to some, the decline in housing starts to 1991 levels is actually good news. Why? Simple math. Given the current massive overhang in housing inventory, it's far better for housing starts to be low, rather than high.

Sure, that spin carries a certain ring of logic to it, but we're not so sure housing starts, or lack thereof, affords us the luxury of "a positive datapoint" simply because the logic of fewer houses being built folds neatly into our hopes and dreams of a bright future.

There is a reality to the figures that shouldn't be ignored; namely, that housing starts data is used to compute the Conference Board's U.S. Composite Index of Leading Indicators, which is in turn used by the Federal Reserve Open Market Committee in its decision-making.

It is interesting that during the housing boom, increases in housing starts were widely viewed as a positive leading indicator, signifying that consumers were eager to buy homes, eager to borrow and ready to spend still more money on goods that go part and parcel with new homes; furniture, appliances home and garden supplies. Now, as that boom unwinds, the view that a 17-year low in housing starts is also a positive leading indicator is a bit tough for us to embrace.

2. CPI

Yesterday's Producer Price Index provided an opportunity for us to look at the spread between finished good and raw goods at the wholesale level.

The takeaway was that even as price increases seem as if they are building in the pipeline, the ability for producers to pass those costs through to consumers remains difficult at best. These days it seems only consumer staples companies have the ability to push their pricing pressures forward to the consumer, but even those price increases have lagged far behind the raw good price increases.

So, today we were waiting for the Consumer Price Index for obvious reasons: what kind of further discrepancy would we see between pricing at the producer level and pricing for consumers? Turns out quite a bit.

The Consumer Price Index increased just 0.3%, in-line with expectations, but a far cry from the upside surprise in yesterday's headline number on the PPI. Core CPI, which excludes food and energy, came in at 0.15%, and was dragged down by steep declines in clothing (-1.3%) and lodging (-0.6%). Owners Equivalent Rent was a factor as well, the steep jump in utilities as reported in yesterday's PPI, up 4.2% month-over-month, prefacing a modest 0.2% increase in OER today.

3. Wells Fargo: Good for Them

Wells Fargo (WFC) provided a key earnings signpost this morning for a variety of reasons:

1) We think it's among the best-managed banks in the sector.
2) Over the past few years it purposefully sought to avoid exposure to the riskiest assets that were chased by many banks.
3) It entered the current debt crisis with a relatively strong capital position compared to peers.

What is remarkable is that the bank, despite being the largest bank on the West Coast, and the second-largest home lender behind Countrywide Financial (CFC), managed to show a profit for the quarter and even expanded net interest margin (the difference between rates paid to depositors and rates paid by borrowers). Wells Fargo's net interest margin increased to 4.69% from 4.62% last quarter.

Another key metric we were watching this morning was the increase in WFC's non-performing assets. Total non-performing assets were $4.5 billion or 1.16% of loans in the first quarter compared with $3.9 billion or 1.01% of loans in the fourth quarter.

This is a key earnings report from a major bank, and due largely to WFC's conservative credit posture will likely provide a benchmark for other banks going forward.

4. Wells Fargo: Bad for Us

Of course, what is good for the bank - the stock is up 6.5% this morning - may not necessarily be good news for the economy when we look down from 30,000 feet. The bank said it has continued to tighten credit standards, and that translates into less money circulating in the economy.

Howard Atkins, Senior Executive Vice President and Chief Financial Officer, said "We have once again adjusted our maximum LTVs based on local market conditions, increased our minimum credit scores and further adjusted our risk base pricing."

In plain-speak, the bank is continuing to make it more difficult to qualify for home loans. It has also tightened their auto loan and credit card underwriting standards.

But here's the real kicker for the broader economy. WFC has an $11.7 billion Business Direct portfolio that consists primarily of unsecured small loans and lines of credit to small business owners nationwide. With an average balance of less than $20,000, that sounds like small potatoes in the grand scheme of things. But for a small business, $20,000 can mean the difference between success and failure. Atkins said, "Similar to our credit card portfolios, we continue to tighten our underwriting standards, including reducing line limits
where appropriate."

We should expect the credit screws to tighten further as more banks sit up and take notice of WFC's conservative credit approach, net margin increases and ability to navigate through such difficult conditions.

5. You Can Hear A Lot Just By Listening

Last night on the Fox Business show Happy Hour, I was asked whether I ever attempt to game earnings statements, or make trades into and around earnings. I explained that I do not because I don't believe I have any edge in doing so. Also, I tend to do less trading these days and more long-term investing based on macro themes and relative strength signals. But I do feel that earnings are important. Here's why.

One thing Wall Street research houses won't tell you is that earnings conference calls are where the vast majority of the information that goes into analyst research reports comes from. This is not top secret stuff, it's all there for the general public, usually posted on corporate web sites.

Because the vast majority of market participants do not actually listen to the conference calls - they are conditioned to believe the numbers being reported are what is most important - there is an edge in actually listening to what the company has to say about the business, market conditions and general outlook.

I don't really care about the numbers. Why? Well, how often have you seen companies report weak numbers and then the stock rallies? How often have you seen companies report great numbers, and then the stock sells off? Wall Street has plenty of "nuggets of wisdom" to explain away this kind of market behavior. Take your pick:

"They sold the news."

"The good news was already baked into the pie."

"The street didn't like the forecast."

"They failed to beat the 'whisper number.'"

"Shorts covered on the bad news, causing the stock to go up."

What I care about is two-fold. One, what is management saying, and are their words consistent with their actions? For example, are there large insider sales even as the company is upbeat on the business and outlook? If margins are contraction, is the company actively pursuing actions to bring down costs? Two, what questions are the analysts asking? This provides a window into what others are thinking.

The bottom line is that doing financial homework is often time consuming, sometimes tedious and rarely glamorous. That's why few people do it. And that's why those that do can often find an edge.

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