Market Insights: May 20, 2014
Economic Outlook: Same Story, mostly good news…
- Most of the new economic metrics re-paint the same picture we’ve talked about during the past several weeks – a generally positive economic outlook in the U.S. with no real strong contribution from the housing market.
- The NFIB Small Business Optimism Index was updated last week and rose to 95.2 in April. This puts the index at the highest level since 2007. Remember that small business is the primary creator of new jobs.
- Initial Jobless Claims last week dropped below the important 300,000 level to 297,000. This is the lowest reading since the spring of 2007. [Dept of Labor]
- Retail Sales increased a slight 0.1% in April, but this came on the heels of a very strong March, which had a 1.50% jump. [Dept of Commerce]
- The U.S. Government budgetary deficit continues to improve, on better tax receipts, recording a $106.9 billion surplus in April. Though monthly numbers fluctuate widely and cannot be extrapolated, this compares favorably with similar readings from previous April months.
- As we alluded to at the outset, the housing data is not providing strong confirmation to these otherwise encouraging economic reports. We got a couple of additional reads from housing last week that signal conflicting directions.
- The NAHB Housing Market Index remains low with a reading of 45 for May, signaling a lack of confidence. Readings below 50 are considered negative. [National Association of Home Builders]
- Although the NAHB Market Index was disappointing, New Housing Starts rose 13.2% in April, well ahead of expectations. [Dept of Commerce]
- The April inflation numbers were finalized last week. CPI is up 0.30% in April and hit 2.0% year over year. Core CPI increased 0.20% in April and is up 1.80% year over year [Bureau of Labor Statistics]. Keep an eye on this. The year-over-year measurement for CPI the previous month was only 1.50%.
- Japanese 1st Quarter GDP surprised to the upside with 5.9% annual growth, possibly helped by consumers and businesses pulling spending and investment forward in anticipation of a tax increase taking effect in April. We will see.
- European Union GDP estimates are still showing slow growth, up 0.20% in the first quarter and 0.90% year-over-year. This slow growth is an improvement from where the Euro-zone was a year ago, but suggests continued accommodation from monetary authorities is likely. Mario Draghi commented last week that there is “dissatisfaction” with progress on European inflation, referring to the fact that at 0.70%, inflation is too low for their liking.
Equities Outlook: Tiny bubbles in the wine?
- Domestic markets moved mostly sideways last week, with the S&P 500 sitting at around a +2.0% gain for the year. Emerging market stocks were up strongly last week, led by China and Russia. The Russian stock market has recovered during the past two weeks as the Ukraine situation has quieted down.
- The equity market according to Janet Yellen: “For the equity market as a whole, the answer is that valuations are in historically normal ranges. Long-term interest rates are low and that is one of the factors that feeds into equity market valuation. So, there are pockets where we could potentially see misvaluations [in smaller-cap stocks], but overall those broad metrics don’t suggest that we are in obviously bubble territory. But, you know, we don’t have targets for equity prices and can’t detect if we’re in a bubble with–with certainty.”
- We talked about corporate earnings reports last week. At this point 90% of the companies have reported. Top line revenues are increasing at about a 3.0% annual rate and operating earnings are increasing at about 2.2% for the same year-over-year period. These are not stellar numbers but they are positive and stable nonetheless.
- The technical health of the market looks good to us, with advance-decline lines in a pronounced uptrend. This is in sharp contrast to the patterns observed in the spring of 2007, ahead of the last major equity market downturn.
The Fed and Fixed Income Markets: From whence cometh this rally?
- The Ten-Year Treasury slipped in yield during the week. It had closed the previous week at a yield of 2.62%, and closed last week at a lower yield of 2.52%.
- Last week represented a continuation of this year’s rally in bond prices, when yields actually dipped at one point below 2.5% on the Ten-Year. For reasons we have outlined in previous weeks, this does not look like a tempting place to deploy significant fixed income allocations. Bonds do not appear to offer a great deal of protection against any pickup of inflation. Judicious purchases of bonds that appear mis-priced is our current posture for clients.
- Central bankers in Europe are hinting at their own version of Quantitative Easing causing bond yields in Europe to drift lower and reducing competition for U.S. Treasuries. This appears to be a least a partial driver of the current move in U.S. rates, as treasury bonds would become comparatively more attractive if yields decline in Europe. Short-covering by interest rate speculators probably also has contributed to this rally.
- Also, of course, following a big move up in equities during 2013, institutional fund managers would be expected to do some re-balancing in the early months of 2014 and this portfolio adjustment would favor additional purchases of bonds, driving yields lower.
The Week Ahead:
- US, FOMC minutes released
- US, PMI Manufacturing Flash Index (Markit)
- US, Existing Home Sales (National Association of Realtors)
- US, Leading Indicators (Conference Board)
- US, New Home Sales (Dept of Commerce)