Market Insights: December 9, 2014
Economic Outlook: Should we worry about a weak “Black Friday”?
- As loudly broadcast by the popular news outlets, Black Friday weekend numbers appeared somewhat weak. Is this some turning point and should we start worrying about the U.S. economy?
- We think not… In addition to consumers shopping earlier, higher car sales may figure into some of the weaker than expected shopping data. 3 years ago, people were wondering if we would ever again get back to a car sales level of 15+ million again. We got a strong Motor Vehicle Sales report in November. Sales rose more than 4% to a very strong 17.2 million annualized pace.
- It is true that we got conflicting U.S. Manufacturing reports last week. PMI’s Manufacturing Index slipped slightly, but remains strong at 54.8. ISM’s equivalent Manufacturing Index posted a higher 58.7. However, these surveys are not identical, so a disparity on occasion is not alarming. ISM’s Services Index remained very healthy at 59.3. Most other U.S. data remains strong.
- Construction Spending advanced 1.1% in October, which puts the year-over-year result at +3.3%. The report noted increases in both public and private construction spending.
- We saw another very strong Employment Report from the BLS. Initial Jobless Claims remain below the key level of 297,000. The Nonfarm payrolls increase was significantly better than forecast showing an increase above 320,000.
- The benchmark Unemployment Rate held steady at 5.8% and Average Hourly Earnings were up 0.4% over the previous month.
- We wrote 2 weeks ago about the anticipation of further stimulus in Europe. The European Central Bank is prepared to release a broad-based Quantitative Easing plan at its January meeting.
- This will be welcome news as the data in Europe does appear to be at stall speed. The European Union PMI Manufacturing Composite is just barely in expansion mode, with reading of 51.1.
- Most of the reporting countries are at multi-month lows on their national composite output indices. The strongest report came out of Ireland (59.9), followed by Spain (53.8).
- Germany remains in growth mode at (51.7). Italy has shown a slight rebound in the past several months and reported at 51.2. France appears to be solidly back in contraction mode, however at a reading of 47.9.
- One encouraging reading was that European Retail Sales picked up nicely at 0.4% in November, according to Eurostat. Maybe the consumer is not yet dead and it is likely that lower energy prices are not hurting.
- China’s PMI Composite remains at least what you could call “decent” at 51.1.
Equities Outlook: The Story Not Being Reported…
- Some of the best numbers in more than a decade and no one is talking about it??? The third quarter reporting results for U.S. companies are now complete. S&P companies’ revenues rose by 5.3% on a year-over-year basis. Operating earnings were up 8.8% year-over-year. These are very strong numbers painting a favorable trend line, but it is not being discussed in the popular financial press.
- Despite the fears about lower oil prices, the U.S. energy sector rebounded further this week, though it is still the only S&P equities sector that is negative on a year-to-date basis, down more than 5%.
- Overall, it was a decent week for U.S. Stocks in terms of market movement. It was better than international equities, though international markets showed some renewed life on Friday, in hopes of more ECB stimulus.
- We’ve talked in past weeks about the valuation disparity between U.S. equities and overseas markets. Ed Yardeni created a scorecard for the current forward P/E ratio of major markets and it looks like this as of last week: U.S.: 16.3. Japan: 14.6. Eurozone: 13.3. U.K.: 11.2. Emerging Markets: 11.2. This suggests interesting opportunities for equities outside the U.S.
- However, we acknowledge that some other markets are cheap for identifiable reasons. We noted above the stagnation fears that have gripped Europe currently. And Japan has not shown the bounce that was hoped for when “Abenomics” was first inaugurated.
- Despite these identifiable factors, it is fairly easy to see that global companies in these markets possess a lot of relative upside, particularly if the policies like Abenomics and the soon-to-be announced Euro-zone stimulus measures enjoy even modest success at re-stimulating growth.
- Despite the technical recession in the Japanese economy (2 negative quarters), Japanese equities have bounced back from poor first-half performance to show some out-performance in the second half. The equity market is up more than 9% in local currency terms.
- All of this suggests a continuing favorable trend for global equities, albeit with more volatility than the last 3 years. Cheaper oil prices are hurting some areas of the global economy but should, on balance, be a positive. Look for increases in U.S. consumer spending as one outcome from this.
Fixed Income Markets: The low-down on low rates…
- Where are those higher interest rates everyone is expecting, particularly if the U.S. economy is as robust as we’ve been discussing?
- We talked about the strong Labor market report earlier. We did not mention that the U-6 “underemployment rate” is now down to 11.4%. This is below the level it was at when the Fed started tightening back in 1994. Just a little perspective.
- So perhaps here’s the explanation on the low interest rates: The “Expected Inflation Rate”, as measured by the spread in the 10-Year Treasury Yield and the comparable TIPS yield, has declined over the course of 2014 from about 2.3% down to the current 1.77%. This most likely explains the disconnect in actual rate movement from the widespread view (which, by the way, we shared) that yields would move higher in 2014 as the Fed started to taper QE.
- We now know that the Fed indeed tapered QE all the way down to an end point, and yet rates have not moved higher. The 10-Year Treasury Yield has moved from about 3.0% last January to 2.31% where we closed last week. Nonetheless, U.S. interest rates have been driven lower, principally by the low yields in the Euro-zone. As we noted above, deflation is a greater threat there than in the U.S.
- The most recent Fed Beige Book Report indicated a moderately positive outlook for the economy and yet noted that recent overall price and wage inflation remained subdued in October and November.
- The interest rate on the Ten-year U.S. Treasury Note ended last week at 2.31% on Friday. This is dead-even with where it closed the Friday preceding Thanksgiving week.
The Week Ahead
- NFIB Small Business Optimism Index
- U.S. Retail Sales
- University of Michigan Consumer Sentiment