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Market Insights

Market Insights: June 1, 2015

Economic Outlook:  Interpreting the Data For Meaning

  • We’ve talked about the factors that contributed to the weak economic numbers in 2015’s first quarter. No real surprise — 1Q GDP was finally revised, taking it into negative territory and showing the economy contracting at a -0.7% annual rate.
  • This is not a major concern in our mind. After all, the first quarter of 2014 was finally revised to reflect a 2.1% contraction, but the rest of the year finished strong. Some of the data releases since the end of the first quarter suggest the initial data in 2015 was somewhat of an anomaly.
  • For instance, there was more positive news last week from the housing market, as New Home Sales increased 6.8% in April and the Pending Home Sales Index increased 3.4%. We mentioned last week the strong Housing Starts reading, so these recent data points appear to be a further confirmation.
  • Durable Goods Orders looked soft early in the year but they have rebounded during the past two months. The Index (excluding transportation) was revised up to an increase for March & April followed up with a +0.5% reading.
  • In Europe, economic sentiment is holding steady, according to the most recent report from the EU Commission. Sentiment was adjusted up for March to 103.8, and the May reading held even with a slightly higher April report. While this is not showing a strong upward trend, it indicates the improved sentiment over last year is holding steady.
  • Regionally there were some minor differences depending on the country. France and Germany both saw modest gains in economic sentiment. Spain held steady, and Italy saw a slight decline.
  • These results for May suggest to us that economic growth continues this quarter but do not particularly suggest any immediate pick-up in the pace of growth.
  • Inflation expectations in Europe are edging up slightly, but it will take time to see if the Quantitative Easing undertaken by the ECB will deliver the kind of impact we have seen in the U.S. We are still in the early innings of the game.

Equities Outlook:  Quoting Lily Tomlin

  • It was Lily Tomlin who said, “No matter how cynical you get, it is just impossible to keep up.” That may characterize much of the discussion in the popular financial press about why the current bull market in equities just cannot last. Maybe that explains the most typical question we keep hearing from clients is, “Don’t you think we’re due for a bear market?”
  • We have commented a couple of times recently about one particular market technical pattern that historically has been some cause for concern: If the S&P 500 Index is hitting new 12 month highs near the same time the Dow Jones Transportation Average is hitting new 6 month lows, that sort of divergence has historically been a negative technical indicator in terms of market outlook.
  • We regularly follow the research of James Stack at Investech, whom we regard as one of the best technical market analysts. He noted in his most recent report that we have had two consecutive weeks where the S&P 500 Index has hit a 12 month high in the same week that the Transport Average reached a 6 month low. This has never happened before.
  • Without getting too technical on the subject of technical analysis, we simply note that Stack wrote about this divergence in his recent report, describing some further in-depth historical analysis he has undertaken to look at this particular divergence and ultimately concluded, “we’re hesitant to announce the demise of this bull market…” There may simply be some particular factors, unique to the current environment, that explain the current divergence without signaling a market turning point.
  • Most equity markets did indeed end the week on a down note. However, corporate earnings came in overall better than anticipated.
  • The remainder of 2015 for the equity market is certainly not without risk, but most of the backdrop for equities is favorable. Alternative opportunities in cash and bonds are definitely not appealing to investors. The basic economic numbers, as we cited above, are generally positive. Foreign economic numbers are generally improving.

Fixed Income Markets:  The “Merits” of Savings Accounts

  • “How many millionaires do you know who have become wealthy by investing in savings accounts? I rest my case.” — Robert G. Allen. In the current environment of extraordinarily low interest rates, Allen’s words are worth recalling. How long will this last?
  • There was no change in yield on the 10 Year Treasury note at the end of last week, as the yield on the 10 Year closed at 2.21%, exactly where it rested the previous week.
  • For much the same reason that equities fell last week, bonds tended to rally. The Barclay’s Aggregate Index was up about half a percent, which means the year-to-date returns for bonds is approaching 1.0%.
  • Chairman Yellen’s comments week before last seen to signal that the path to higher interest rates may be slow and gradual. This view was somewhat confirmed by the Fed’s Vice-Chair, Stanley Fischer last week.
  • Fundamentally, nominal interest rates are a combination of the “real rate” demanded by investors in the market plus the expected rate of inflation. The real interest rate should roughly approximate the economy’s anticipated growth rate.
  • So, to get higher interest rates, we will either have to see accelerating inflation or more robust economic growth. Neither of those seems to be in the cards near term, which leads us to believe the current low rate environment could persist longer than most of us are inclined to expect.

The Week Ahead

Monday

  • Personal Spending Release

Wednesday

  • U.S. Balance of Trade Report

Thursday

  • U.S. Initial Jobless Claims

Friday

  • U.S. Average Hourly Earnings
  • U.S. Average Workweek