Recession Planning
The question currently being debated is whether the economy is heading for a recession, which loosely defined is a sustained period where the economy does not grow. The housing market which drove much of the growth of the past several years is, not surprisingly, at the helm of the crash. In our simplified version, banks and other financial institutions lent a lot of money and could do so because other investors bought that debt. These securities did great for a while, but as interest rates rose, the loose lending reared its ugly head with people not able to afford their loans, especially those that took advantage of teaser rates that adjusted in time along with the interest rate. A larger than expected percentage of people have fallen behind or had their homes foreclosed. Now, those trying to lend money find an unwilling audience to help them fund the loans. Fewer homes get purchased and refinanced, but more impactful, more than just homeowners found it difficult if not impossible to borrow money on decent terms. Businesses did too. All of which started to come to a head as once strong financial institutions started reporting major losses.
While the subprime issue began in March, the global economy felt the biggest effects about a month ago when, in order to make sure people and businesses could still borrow, the Federal Reserve decided to inject almost $38 billion into the markets. The tumultuousness of mid-August has given way to moderate stability and the potential sense that the ship has, if not righted itself, at least plugged the leak while repairs take place. Unfortunately, we saw that sense of security pulled from under us earlier this month when the government issued its August job report. For the first time in four years non-farm jobs decreased by 4,000 compared to the predicted increase of 100,000. Additionally, the Labor Department revised lower the numbers for the prior two months. It says the economy added 68,000 jobs in July instead of the 92,000 it first reported. June went from up 126,000 to up 69,000, or 81,000 less for June and July than initially expected. Taken together with the issues in August, the employment report only increased the questions and many people’s belief that a recession lay ahead. And, while this is ultimately a discussion of the ad market, we must first understand the bigger picture, of which the ad market is not a driver but a recipient.
As we try to piece together information on the likelihood of a recession, let’s start with an article published towards the end of August in which CEO Angelo Mozilo of Countrywide Financial (who underwrites an incredibly large piece of home loans) called the current credit crunch “one of the greatest panics I’ve ever seen in 55 years of financial services" and that the ongoing housing slump will likely push the U.S. economy into recession. “I don’t see a light here at the moment,” Mozilo told CNBC. “Something could happen to change that overnight, but it seems to me we just have a way to go to work our way through this.” “I can’t believe when you’re having this level of delinquencies — [home] equity is gone, the tide has gone out — that this doesn’t have material effect on the psyche of the American people and eventually on their wallets.” Adding to this, Forbes ETF Advisor Jim Lowell explains, "The U.S. economy is now in the sixth year of the fourth longest economic recovery of the past century. This is when things can go wrong – and usually do…Even in July, when the DJIA hit a record high, declining stocks overwhelmed advancing stocks by a 2:1 margin. That ominous divergence has never occurred in the past 75 years of market history. And finally, Stephanie Pomboy of MacroMavens says the current credit bust is not confined to real-estate lending. What she foresees is a kind of financial Armageddon as the credit crunch deepens and widens. "Scarcely will they finish putting the subprime situation under house arrest" before policymakers will be forced to address similar problems in "credit-card debt, commercial-real-estate loans, CLOs…and beyond."
Why do we bring all this up? Because again, the ad market might seem like the center of the universe to us, but it merely reflects the broader trends. If the broader trends look negative and destined to impact a large segment of the economy, it will impact our space. Financial services make up half of the Nielsen top ten web advertisers, and it is these companies most at risk. They will need to cut their budgets to conform to demand which means they, like their customers, will have less to spend. This is where we could start to think that performance-based advertisers have an advantage, and compared to the brand advertisers I think they do. But, and it’s a really big but, if you think back to 2000, while performance advertisers did well, they didn’t do that well. It wasn’t until the federal government made it easy to borrow money that companies really began to grow. When there is less money, everyone hurts; some simply hurt less than others.
I don’t think we’re headed for a bust where we saw massive amounts of companies going out of business, but I would wager that it feels like we’re headed for something. Is it 1/3 or 1/2 of what we saw before? Your guess is as good as mine. Consider what was written recently in the Wall Street Journal discussing the "recent spate of acquisitions in the ad industry." They offer that activity has driven up target sale prices relative to their profits to levels reminiscent of the 1990s tech-stock boom and that prices are so high now that the ad industry may struggle to make its tech investments profitable. That’s red flag one. Red flag two is the hundreds of millions of dollars currently tied up in startups that make no money. As we have more companies today making money and values that, while high, aren’t as insane, it makes me feel that we won’t experience a fallout as bad as that at the beginning of this century. But, we have many, many companies that will need more money early next year who will find it not available. Lead generation will continue to do well, but it might take six to nine months before the next mortgage comes online.
