Positive sell side is deceiving us says SG guru Edwards

Société Générale's legendary bear Albert Edwards says we are at the most dangerous stage in the Ice Age, the post bubble cycle.

'Although it is clear leading indicators have turned downwards, the choir of sell-side sirens is singing its song of reassurance,' Edwards said.

'The lesson from Japan was that once the cyclical rally was over, any downturn in leading indicators should find you stuffing beeswax in your ears to block out that lilting melody so as to avoid the jagged rocks of recession.'

'I have for a very long time likened the events now unfolding with what we saw in Japan a decade ago. Of course there are some major differences, but one can still draw clear parallel to see how extreme equity overvaluations unwind in a post-credit bubble world.'

While Edwards says there may be misplaced optimism on the sell side the general level of optimism among analysts has slumped, especially in the US, indicating an impending recession.

This he says has implications for the market. 'As well as being consistent with a slump into recession, the current rate of erosion in analyst optimism is also consistent with resumption of a full blown bear market.'        

However, Edwards said these analysts will only call the recession long after it has begun. He points out we continue to be in a structural bear market, meaning the market is prone to sharp swings.

He says the best way to measure when to take profit form any upswing is to use leading economics indicators as a sell signal.

He draws attention to the closely watched ECRI leading economics indicators, which shows were have re-entered recession territory. He also expects the OECD and Conference board measures will also be in the recession zone too. 

For this reason he says it is dangerous to focus on the usual reporting season charade of companies beating recently downgraded earnings forecasts.

'One thing that will become clear as we go through the second half of this year and into 2011 is just how weak the underlying economic recovery has been. Real GDP growth of around 4% was hugely driven by the end of inventory liquidation and contrasts sharply with the paltry sub--2% rebound in final sales.

'Are we heading back into a recession? Well I certainly think so...check out the shockingly anemic cyclical recovery in nominal sales which is running below the pace normally seen at the depths of the recession, not in the buoyant early stages of recovery. No wonder we are seeing revenue warnings in this reporting round.

'This Ice Age descent into nominal deflation will become fully apparent as we move through the second half of this year and the cycle shows sharply.'