Economic Outlook: Thinking Outside the Box
- Last week was an opportunity for market participants to digest the initial reading on second quarter U.S. GDP growth – a modest reading of 2.3% that many regarded as disappointing.
- There has been some hand-wringing in the media over these somewhat disappointing GDP numbers during last week. We would agree with this conventional view that these are not exciting growth numbers. However, there is some latent good news buried in the details.
- Consumer spending was up more than 3.0% on a year-over-year basis. That is some of the best comparative measurement of the entire economic recovery that started in 2009. That demonstrates some increased confidence on the part of this important sector.
- Residential construction remains strong and we are seeing a noticeable increase in household formations. Those household formations bode well for further spending on related purchases in future quarters. Mortgage applications rose 4.7% last week and reached their highest level since early June.
- Last Friday’s Jobs Report for July showed a bit of further strength, with non-farm payrolls rising 215,000, pretty much in line with expectations. The unemployment rate remains at 5.3% and the Participation Rate did not change. The most notable detail was a further increase in the average workweek. This may be just enough to move the Fed to make a move on the Funds rate, but we will have to wait and see.
- The four-week moving average on first-time unemployment claims is below 270,000. This is among the lowest readings of the past 40 years.
- The ISM Service-Sector Index moved above 60 in July, up from 56.0 in June. There have only been three better readings than this since they started the measurement in the late 1990’s.
- In Japan, Industrial Production rose 0.8% in June and is up 2.0% year-over-year. The hoped for boost from Abenomics is not materializing at the rate the Japanese authorities would like.
- Euro-zone inflation CPI for July was up +0.2% compared to 12 months ago. The core rate is up +1.0%. Both of these are below the ECB’s 2% target rate for inflation. However, retail sales (excluding autos) rose in May to the highest level since early 2011. Germany’s business confidence index rose in June.
Equities Outlook: “Don’t Worry Baby”
- Our most frequent question six years into this equity market recovery is perhaps recapped by The Beach Boys tune, “Don’t Worry Baby”: “But I keep thinking, something’s bound to go wrong…”
- As of early last week, two-thirds of companies have reported second-quarter results, and the results are stronger than anticipated. Earnings-per-share positive surprises are outpacing negative surprises by a three-to-one margin. Earnings are generally beating expectations by more than 5.0%, while revenues are about flat versus analyst estimates.
- If you are a contrarian, there are some things to definitely like about the stock market. We have a net short position in S&P 500 futures contracts. This has continued for seven weeks. The Investors Intelligence Gauge dipped last week to only 42.0% bulls. The percentage expecting correction rose to 40.3%. Market tops are usually marked by excessive enthusiasm. That’s definitely missing right now.
- Bull markets can end under several distinct circumstances. First, rising inflation may trigger aggressive Fed tightening. Second, policymakers can simply make some significant mistake. Or third, an external shock can precipitate a market reversal. This third circumstance can always occur without warning. However, there are no definitive signs that either of the first two are likely anytime soon.
Fixed Income Markets: One and Done?
- The drop in yield on the 10 Year Treasury note extended a bit further last week, as the yield closed at 2.16%. It closed the previous week at 2.18%.
- It still appears that the “one-and-done” scenario remains the most likely scenario for a federal funds rate hike this year. It could occur at the September Fed meeting, but developments between now and then could lead to further delay.
The Week Ahead
- U.S., Initial Jobless Claims
- U.S., Retail Sales
- U.S., Producer Price Index