Zaks Investment Advisory Service

Economic and Financial Predictions for 2007

It is hard to talk about serious things during the holiday season, so we will leave them to our next program. And we will dedicate this one to what so many people do at the end of the year: making forecasts for the coming year. We have often mentioned that market forecasts are not worth much. But be that as it may, it is often interesting to follow the logic that leads to these forecasts – even if we are skeptical about how precise they may be. The University of Chicago is too serious a place to waste time predicting stock market performance. Nevertheless, it still holds a traditional lunch where three economists try to predict the US economic performance and the main global economic tendencies. The prestige of the university is so high that nearly 1,000 people gather for the event.

As you probably know, US economic growth slowed in the second half of 2006, still, the economy continued to develop. In 20005, the US real gross national product grew by 3.2 percent, while in 2006, after a very successful first quarter, economic growth fell to 2.2 percent. We will still not know the full fourth quarter results for some time, but it looks like, on average, the economy will grow 3.4 percent for the year. At the same time, the tendency toward a slowdown is clear. By the way, compared to the average indicators for the past 50 years, all of these figures look pretty good. And when compared to growth in Western Europe, where economies on average grow one percent a year, then it is downright great. But concerning 2007, the experts’ opinions diverged. University of Chicago Professor Michael Mussa believes that US economic growth will continue, but at a slower rate similar to what we saw in the second half of 2006, i.e. at a level of 2.2 percent. Still, he is concerned by the potential growth of inflation (the same, by the way, as Ben Bernanke, Chairman of the Federal Reserve). He hopes that a drop in the price of oil will help temper inflation’s growth. He explains the slower economic growth rate by the fact that US consumers have stopped investing in the housing market. The previous four years were remarkably active in this regard, mostly thanks to extremely low mortgage rates. Now the housing boom has drawn to a close, and this has affected the economy. Our economy is made up of three main components: items purchased by individual American consumers (this constitutes the largest share of our economy); those bought and invested by business; and purchases by the government, mostly the federal one. So if you and I, as consumers, limit our expenses, this has a negative effect on the nation’s economy. Nevertheless, Professor Mussa believes that by 2008, our economic growth rate will start to accelerate. He further believes that a historically low unemployment level (of about 4.6 percent on average in 2006) will not grow significantly in 2007.

Professor Robert Aliber, on the other hand, is far more pessimistic. First of all, he believes that American consumer spending will not just stop growing, but fall by 2.7 percent. Private business investments, in his opinion, will drop by 8.7 percent. Only government spending will continue to grow, although slowly. As a result, in his opinion, our economy will not simply stop growing – it will shrink by 1.5 percent in real terms. This is called recession, and of the kind that we have not seen since the start of the 1980s. As a result, unemployment, which now stands at 4.6 percent, will jump to 5.4 percent. This forecast offers little joy, and we may hope that Professor Aliber’s crystal ball was foggy, and that his predictions do not come true.

Thankfully, Professor Aliber is in the minority. BusinessWeek magazine polled 58 economists with their forecasts. On average, they predicted growth for 2007 of about 2.6 percent. The most optimistic economists in the group expect 3.7 percent growth, the most pessimistic – of just 0.7 percent. But almost all of them agreed that the economic growth would accelerate by the end of 2007. One other interesting figure: the polled economists believed that in 2007, the average real estate prices would drop by 1.7 percent.

And finally, the Council of Economic Advisors, an economic council working under the US president, released its own forecast. It differs little from the BusinessWeek poll average, and sees growth of 2.9 percent. The economic council also believes that unemployment levels will remain practically unchanged in 2007, staying at the level of 4.6 percent. But in contrast to other forecasts, the council makes predictions six years into the future. It predicts that the economy will continue to grow by an annual average of three percent.

What about the stock market – where will its indexes stand at the end of 2007? We have already stated many times that predictions for not only a year, but even for just a month, are not worth much and resemble the reading of tealeaves. For this reason, I am relying on the sobriety of our listeners, who understand that all predictions must be taken with great dose of skepticism. Nevertheless – and mostly for entertainment’s sake – here are some numbers. The seers at Standard & Poor’s predict that the S&P 500 will rise to 1510, i.e. by 7.1 percent. Considering that the average dividend payment for the S&P 500 index is 1.8 percent, Standard and Poor’s believes that the return on stocks will be 8.9 percent. This is decent, but not brilliant. I personally believe that the market will rise slightly more, and that at the end of the year, the S&P 500 index will reach the level of 1,560. And that Dow Jones will rise from today’s 12,400 to 13,500. But this is only my prediction, and time will tell who is right.

And with this, we will draw today’s program to a close. This was Sergey Zaks. Thank you for your attention and until next time.