Economic Outlook: Beating Deadlines by a “Country Mile”
- As last week closed, Congress beat “by a country mile” the November 3rd looming U.S. budget deadline. “By a country mile” is of course a relative term. However, compared to their recent pattern of acting around 11:00 pm the evening before a deadline, last week’s agreement coming 4 days early represents a leap forward in bipartisanship.
- The budget bill passed on Friday is on its way to the President’s desk for an assured signature. It appears to resolve the Treasury’s borrowing authority and spending parameters through March of 2017. The bill includes a moderate spending increase over the next two fiscal years and some reforms to Social Security to boost solvency of the system. The specific spending appropriations bills still have to be resolved in December but at least an outline is now agreed upon.
- The mere fact that agreement has been reached on the bill should provide some additional underpinning to GDP growth over 2016-7.
- Two observations from our Investment Committee discussion of the bill… First: The mere fact that we have the agreement provides some stability in planning for companies that rely upon government contracts (defense for example). Second: There is not any assured improvement evident in the budget deficit for 2016. The smaller increase in spending in 2017 may leave some room for modest deficit improvement in the second year.
- Several of you asked about last week’s GDP report for the Third Quarter. We indeed got a weak-looking GDP report last week. 3rd quarter growth (at least on the initial estimate, subject to later revision) posted at an annualized +1.5%. Consumer spending remained vibrant with an increase exceeding 3%. Inventory drawdown was the main detractor in the numbers.
- While this initial post for Q3 GDP is sub-par, it appears likely to us that some of the effect of inventory drawdown, and dollar impact will moderate in the final quarter of the year, so we could see a rebound in GDP growth back towards a 3% annual rate.
- The New Home Sales number for September declined to a 468,000 annual rate last month. It was just above 525,000 in August. This is something to keep an eye on, but it is historically a volatile data point so this is not something to get anxious about prematurely.
- Durable Goods Orders were also weak, down by about 3% over the trailing twelve months. Some of this is related to dollar strength, which impacts the foreign contribution.
- The European Union’s combined Unemployment Rate dropped under the 11% level where it has been stuck for a while. The report last week brought the rate down to 10.8% in September.
- The ECB continues to communicate a very accommodative policy, and this provides further foundation for risk assets in foreign markets. The central bank indicated it may expand its quantitative easing program in December.
Equity Markets: Mark Twain’s October Market – NOT…
- It was Mark Twain who once quipped: “October. This is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August, and February”. Kidding aside, October historically has the lowest average return for equities compared to any other month on the calendar.
- 2015 stands in contrast. As we’ve discussed over the past several weeks, the equity markets have been proving Mark wrong and rebounding strongly from the correction lows of August-September. Our clients will begin to see this when they get their October statements. The S&P 500 was up about 8.3% for the month of October. You have to go back almost 4 years to find a better calendar month. So much for rules of thumb.
- All of the major indices had a positive month, and every individual sector within the S&P 500 index was positive for the month, even the lowly energy and materials sectors that have suffered in the past 12 months. The tech-heavy NASDAQ Index was up more than 9%. The S&P 500 is now back in positive territory (+2.7%) for 2015. That has edged it just slightly ahead of the MSCI EAFE Index of foreign equities (+2.2% for 2015 so far).
- Recent corporate earnings releases have been mixed. Generally, the pattern has been that health care and retail industries are showing signs of pressure, while the technology companies are posting strong numbers. Individual variations aside, the majority of companies reported better-than-expected earnings results, and this seems to reflect a solid economy underneath and is improving market sentiment.
- Overall, we expect corporate earnings in the aggregate for Q3 will show some decline from the year-ago levels, but this will be significant swayed by the decline in energy sector earnings. If this sector is removed, the trend in corporate earnings for everything else is likely to remain positive at a 4-5% clip when all the reports are in. The effect of the energy price difficulties are largely confined to the sector and as we’ve discussed, actually provide a benefit to other sectors of the economy.
Fixed Income Markets & the Fed: Doves 9; Hawks 1
- Last week, the yield on the Ten-Year Treasury Note closed at 2.14%. Though the rate moves around, it is not drifted far from this level. Two weeks ago, it was at 2.09%.
- The passage of the Budget bill by Congress which awaits the President’s signature clears one zone of static from the Fed’s radar screen as they continue to chart their course to normalizing short-term interest rates.
- The report on the Fed’s October meeting was released last Wednesday. There is an art to reading these reports and looking for the specific wordsmithing to determine if there are clues about shifts in their thinking. The most recent report dropped the reference to global developments representing a constraint, although it made reference to continuing to watch these things. That may suggest some heightened possibility of action on the Funds rate at the December meeting, but 2016 seems to be the stronger bet at this point in our mind. In any case, score that change for the hawks.
- One other interesting wording change caught our eye. The description of job gains which was described as “solid” in September, is now referred to as “slowed”. Score one for the doves.
- The vote tally at the October meeting was 9 to 1 for no action on rates. Clearly the doves have it at the moment and some sentiment has to move before we see action on the Funds rate.
The Week Ahead
- U.S., Manufacturing (Markit & ISM)
- U.S., Construction Spending (Census, Dept. of Commerce)
- U.S., Motor Vehicle Sales
- Japan, PMI Composite
- U.S., ADP Employment Report (ADP)
- EU, PMI Composite (Markit)
- EU, Retail Sales (Eurostat)
- U.S., Employment Report (BLS)