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Market Insights

Market Insights: June 23, 2014

Market Insights: June 23, 2014

Economic Outlook:  Prices and Production – Both Increasing

  • Inflation has been ticking up recently, the CPI was up 0.40% in May and up 2.10% year-over-year [Bureau of Labor Statistics]. Core inflation is up 0.30% and 1.90% for the same periods. Core CPI is up at a 2.80% annual rate for the past three months ending May. This is the fastest pace since 2007. Recall that the Fed’s targeted inflation rate for policy purposes is 2.0%.
  • Manufacturing and business data around the country continues to come in strong. The Empire State Manufacturing Survey Index is now at a 4 year high of 19.28.[Federal Reserve Bank of New York]. Also in the northeast region, the Philadelphia Fed Survey of general business conditions is at a yearly high of 17.8, led by a gain in employment expectations.
  • Industrial Production picked up in May growing at a +0.60% rate, in a continuation of some positive manufacturing data
  • The Conference Board’s Leading Indicators rose 0.50% in May.
  • European car sales data for May was released last week and shows a 4.30% rise from the previous year’s level. This is further confirmation that the region is emerging from the deep freeze of recession.

 Equities Outlook:  Equity Markets Continue to Advance

  • It was a pretty good week for stocks overall, especially small caps as the Russell 2000 moves further into positive territory year-to-date.
  • We’ve talked in recent weeks about market levels and valuations, expressing that we did not have fears of an equity market bubble. The funds flow data sheds some further light on this. Retail purchases of equity mutual funds and ETFs typically peak near market tops. Average equity fund inflows through market rises to tops in 2000 and 2007 ran $15 to $20 billion per month.
  • Current equity fund inflows since the 2009 market bottom are averaging $8 billion. Retail investor enthusiasm for the market appears muted at this point.
  • European equities tested new six-year highs last week, with strong participation across most all sectors. Japan’s Nikkei stock index finished the strong on the week as well.
  • David Herro (Oakmark Funds) commented last week on his outlook for earnings for European based multi-national companies. The efforts of the ECB to drive down the value of the Euro with additional monetary accommodation will translate their foreign earnings into a higher amount of Euro-earnings, driving higher earnings growth and stock prices.

 The Fed and Fixed Income Markets:  Fed talk and Inflation Fears

  • The Ten-Year Treasury firmed in yield last week. It had closed the previous week at a yield of 2.59%, and ended last week at the 2.62% level.
  • There was a lot of “Fed Talk” last week around the meeting of policymakers. The Fed did not surprise anyone. Policy rates are unchanged and taper remains on schedule. The Fed funds target rate remains at a range of zero to 0.25 percent. Bond purchases were cut another $10 billion to $35 billion, starting in July. Purchases of mortgage-backed securities were cut by $5 billion per month.
  • At this rate of decline, we could complete the taper of the Quantitative Easing by year-end, 2014.
  • It is clear from Janet Yellen’s remarks that she remains primarily focused on the labor market data. “Information received since the Federal Open Market Committee met in April indicates that growth in economic activity has rebounded in recent months. Labor market indicators generally showed further improvement. The unemployment rate, though lower, remains elevated.”
  • The Fed Chair reaffirmed the view “…that a highly accommodative stance of monetary policy remains appropriate. In determining how long to maintain the current 0 to 1/4 percent target range for the federal funds rate, the Committee will assess progress–both realized and expected–toward its objectives of maximum employment and 2 percent inflation.”
  • As we have discussed in recent weeks, there are a few disquieting signs of firming inflation. Janet Yellen referred to these as “noise” in her post meeting press conference. Hopefully, the Fed is not going to be slow to take note of these and fall behind the curve. However, for the moment, policy continues as it has for the past year.
  • One area beating expectations recently has been the CPI inflation rate in the U.S. As we noted earlier, it rose to 2.1% during May, up from a recent low of 1.0% during October 2013. The core CPI inflation rate edged up to 2.0% from a recent low of 1.6% during February. Optimistic economists point to this as a confirmation that economic growth is picking up since there is more pricing power. The naysayers warn that if price inflation continues to outpace wage inflation, eroding real incomes will depress the economy. Stay tuned.

The Week Ahead

Monday

  • Existing Home Sales (Census, Dept of Commerce, HUD)

Tuesday

  • U.S., S&P Case Shiller Home Price Index (S&P, Case Shiller)
  • U.S., Consumer Confidence (Conference Board)

Wednesday

  • U.S., Durable Goods Orders (Census, Dept of Commerce)

Friday

  • U.S., Consumer Sentiment (Univ of Michigan)