January Trade Deficit and Housing Prices

KEY DATA: Deficit: $4.2 billion wider; Imports: +2.3%; Exports: +0.6%/ Home Prices (Over-Year): +6.9%

IN A NUTSHELL: “The strengthening economy is sucking in foreign products and that could depress first quarter growth.”

WHAT IT MEANS: The stock markets may be hitting new record highs and consumer confidence soaring, but don’t look for a huge increase in economic growth. Yes, first quarter growth should be better than the tepid pace posted at the end of last year, but if the trade deficit keeps widening, it will not be anything great. Indeed, the January deficit was the largest in almost five years, led by a surge in demand for foreign products. We bought a lot more oil, cell phones, vehicles and capital goods. On the export side, farmers did well as did the vehicle sector, and we did sell a lot of energy to the rest of the world. But a slowdown in aircraft related shipments depressed the export total. That could change quickly, so don’t assume the deficit will keep rising.

It’s always nice when economic theory actually works and that is the case with the housing sector. The limited supply of homes on the market is driving up prices sharply. CoreLogic’s Home Price Index jumped in January and over-the-year. Improving wage gains, confidence and credit scores are allowing more families to enter the market and they are bidding high for the limited inventory. We are in another leg up of price gains. With the Fed likely embarking on what could turn out to be a fairly consistent pattern of rate hikes, we could see prices rise even faster if buyers try to beat the rising mortgage rates. Of the ten major metro areas CoreLogic charts, four were rated as “overvalued”. The rest were considered to be fairly valued.

Two other reports were released today. The Paychex/IHS Small Business Jobs Index rose for the third consecutive month and the gains were across the nation and across almost every sector. The IBD/TIPP Economic Optimism index fell for the first time since the election and the expectations index posted its second consecutive decline. Still, both indices remain well above where they were before the election.

MARKETS AND FED POLICY IMPLICATIONS: Employment Friday is this week, so most data will take a back seat to that report. I don’t expect the jobs gain number to be great, but good enough that the FOMC members will have little reason to faint at the prospect of raising rates. Regardless of the number of positions added or the unemployment rate, a sharp rise in wages would do the job and that is a distinct possibility. The economy is not booming, but that may actually be working to the Fed’s advantage. Fed Chair Yellen has said the members estimate that we are at an unemployment rate consistent with full employment. A strongly growing economy would tax the tight labor market, making it difficult for firms to continue expanding rapidly without bidding up wages to attract the workers they need. Inflation would rise and that could lead to the Fed to increasing rates more often than expected. A rate hike at next week’s FOMC meeting is likely, especially since the markets expect one. But that opens up the possibility of an increase each quarter. And a major fiscal stimulus package would only add to the belief that people are underestimating how much rates could rise this year.