Market Insights: November 24, 2014
Economic Outlook: Is this for real?
- Is the U.S. economic recovery for real? Are we witnessing an artificial economic recovery based solely on the Fed “printing money”? If it is phony, is it about to end badly? Can we trust these numbers? These seem to be recurring questions (fears) expressed to us by clients in meetings.
- These give voice to understandable sentiments. But they may be mostly based on an unfounded connection between the economic numbers and what many see as dysfunctional Washington politics. Our answers in a nutshell: Yes – No – No – Yes.
- In a simple summary, the data does not lie and the data has been consistently positive on a steady basis over a long period of time. Last week was no exception.
- In the northeast U.S., the Empire State Manufacturing Survey picks up to 10.16 from 6.17, highlighted by upbeat outlooks for new orders and employment (Federal Reserve Bank of New York).
- In addition, the Philadelphia Fed’s Manufacturing Survey shoots up to a very high level of 40.8 this month, from 20.7 in October. A move this large is probably an outlier, but a good signal nonetheless (Federal Reserve Bank of Philadelphia).
- As we’ve commented in recent months, the U.S. housing data is consistently stronger. No change recently. The NAHB Housing Market Index for November increased a couple points to 58, signaling increasing confidence among home builders for the housing market (National Association of Home Builders).
- Moreover, Existing Home Sales rose 1.5% in October, on the heels of a 2.6% bump in September, as housing activity continues to be positive (National Association of Realtors).
- All of these positive signals are occurring in a tame inflationary environment. CPI and Core CPI are low, but trending a little higher, up 1.7% and 1.8% year-over-year (BLS).
- And there is a noticeable absence of any data that would suggest the possibility of a U.S. economic recession near-term.
- It would be nice if we could say that the foreign economic data was following the same pattern, but that is not the case. The story outside the U.S. is much more mixed.
- The Japanese economic numbers for Q3 were released last week and indicated Japan contracted at an annual 1.6% rate in the 3rd quarter. This probably makes any suggestion of another sales tax increase an idea that is dead on arrival.
- China is still growing, but the rate of growth has slowed noticeably. China was growing at an annual rate above 12.0% in early 2010, but posted growth of 7.3% year-over-year in the third quarter. Retail sales in China grew last month at more than 11.0%. While that sounds good compared to U.S. numbers, the retail sales growth is the lowest in 8 years. China’s central bank cut interest rates for first time since 2012.
- ECB president Mario Draghi hinted strongly last week at further monetary stimulus measures for the Euro-zone region to try to kick-start the growth that has stalled recently.
Equities Outlook: Do we need to be scared of lower energy prices?
- Since we are based in the energy capital of the U.S. it is only natural that many of our clients closely follow oil prices and may feel concern over the recent decline in oil prices. After all, the $76 price per barrel last week is virtually one-half the high posted in the summer of 2007.
- While falling oil prices tend to stoke deflation fears and indeed represent a challenge for energy producing companies, they are nonetheless positive for the global economy. Lower oil prices hurt oil producers but help consumers. There are a lot more consumers than producers.
- Lower oil prices boost consumer confidence and consumer spending. Retail gasoline sales peaked at $551 billion in May but were $526 billion in October. That extra $25 billion is available for consumers to spend on other items. This is likely related to the pickup in the Consumer Sentiment Index during early November to 89.4, an increase of 2.5 points.
- Translation: Despite a rebound in energy stocks in the past two weeks (as oil prices reached the recent low point in the $70’s), the recent strength in U.S. manufacturing we noted above and the general business climate, suggest stronger performance in Basic Industry stocks as we move through year-end and into 2015. Consumer stocks should also do well and we anticipate a strong holiday season. Transportation companies benefit from lower energy prices.
- A stronger U.S. economy will eventually help the struggling economies around the rest of the world. Mario Draghi commented last week: “We will do what we must to raise inflation and inflation expectations as fast as possible,” he told an audience of bankers in Frankfurt. “If … our policy is not effective enough to achieve this, or further risks to the inflation outlook materialise, we would step up the pressure and broaden even more the channels through which we intervene, by altering accordingly the size, pace and composition of our purchases,” he said.
- European stock markets were up pretty strong on Draghi’s comments.
Fixed Income Markets: Where are those Higher Interest Rates?
- Why aren’t interest rates going up? Most of our clients seem to think that rising interest rates are not a question of “if” but “when”. We are pretty much in agreement with this view.
- True, U.S. inflation on an over-all basis is still very tame as we noted above. But looking below the data, the inflation data is being restrained by the soft commodity prices. The prices for the service components of inflation are rising at a stronger clip.
- Examples from the past 12 months: Freight & storage +5.3%. Education +5.6%. Transportation +10.2%. Hotels +9.8%. The jobs market data continues to show strength and some firming in wages. We continue to expect the Fed to begin to move on rates before 2015 is complete.
- That said, it is doubtful that this will be a fast or aggressive pace of rate increases. In the most recently released Fed minutes, there was notable discussion of headwinds from Europe and Asia. This suggests that the Fed is not in a rush to raise rates but this not new news. The latest Fed minutes are somewhat complex. Of course, quantitative easing ended. The key point currently is that the first rate increase is still data dependent. Some FOMC participants wanted to remove “considerable time” in the statement while others did not.
- The interest rate on the ten-year U.S. Treasury Note ended last week only slightly unchanged at 2.31% on Friday. The previous week’s yield was 2.29%.
The Week Ahead
- U.S., GDP 2nd estimate (BEA)
- U.S., Conference Board Consumer Confidence
- U.S., Personal Income Report (BEA)
- U.S., New Home Sales (Census, Dept of Commerce, HUD)
- U.S., Thanksgiving!