September Existing Home Sales

KEY DATA: Sales: +0.7%; Over-Year: -1.5%; Prices: +4.2%

IN A NUTSHELL: “A lack of supply is keeping housing sales down but prices up.”

WHAT IT MEANS: It is hard to buy homes that are not for sale and that is a problem facing the housing market. On Tuesday, we learned that new home sales fell in August, in no small part because Houston was underwater. That it is hard to sell properties you cannot get to should have surprised no one. Today we found out that once the waters recede, sales proceed. The National Association of Realtors reported that existing home purchases rose in September. Now that was a bit of a shock since Florida took a licking. Apparently, demand in Houston start ticking again and sales in the South were off only modestly. The Midwest and West reported increases but purchases were flat in the Northeast. Over the year, however, sales did drop. While the inventory of homes for sale edged up in September, it was down over 6% from September 2016. That is limiting buyers’ options and forcing them to pay up for what is available. There is little reason to think that will change anytime soon.

MARKETS AND FED POLICY IMPLICATIONS: Housing is critical to not just growth but inflation as well. We tend to think of all the sectors that are affected when home construction and sales rise sharply. But you also have to consider the impact of home prices on consumer inflation. This enters the Consumer Price Index through the category called “owners equivalent rent”. Basically, it is what homeowners think they can rent their homes. Prices and costs of operations are included in this, so it is not strictly a housing price measure. But in September, this component was up 3.2% over the year, well above the 2.2% rise in the overall index. Since it constitutes almost one-quarter of the index, continued housing price pressures will add to inflation. Of course, that may be good as far as many Fed members are concerned. If they are to defend a rate hike, it would be better if inflation is accelerating and the lack of supply in the housing market is just the factor that could help that happen. As for the markets, earnings do matter, at least sometimes, and this is earnings season. However, paraphrasing Animal Farm, “all earnings are equal but some earnings are more equal than others”. Thus, when there are big misses, even when they come from huge companies, investors continue to buy, buy, buy. Of course, there also may be some exuberance setting in.

September Leading Indicators, October Philadelphia Fed Survey and Weekly Jobless Claims

KEY DATA: LEI: -0.2%/ Phila. Fed (Manufacturing): +4.1 points; Orders: -9.9 points/ Claims: -22,000

IN A NUTSHELL: “There are no indications the economy will break out to the upside after hitting a bump due to the hurricanes.”

WHAT IT MEANS: In August and September, Mother Nature ruled. The weather made a mess of large parts of Texas, Florida and Puerto Rico. But we are expecting an economic rebound as households replace lost vehicles and damaged homes while businesses fix up their operations that were set back by the storms. Will that upturn occur? It is way too early to know, but one measure, the Conference Board’s Leading Economic Index, usually provides some insight and it didn’t say conditions were going to improve quickly. Indeed, the index fell in September, the first decline in a year. Should we worry? Not really. The biggest issues were the labor market and residential construction components and those were likely temporarily depressed. Unemployment claims have already fallen to if not below where they were BH (before hurricanes) and don’t be surprised if the October employment report is a biggie. Since it is hard to build during a hurricane and in flooded areas, I suspect that we will soon see a pick up in building permits. So, don’t conclude that the economic data are flashing a slowdown ahead.

One indication that economic conditions have remained solid is the Philadelphia Fed’s Manufacturing Survey. The Index rose moderately in early October, though the details really don’t support any real improvement in activity. New orders and backlogs continued to grow, but less rapidly. Hiring improved yet optimism faded. Businesses are still positive about the future, but not quite as exuberant. And of more concern, their costs are rising and respondents believe they will rise even faster going forward.

Jobless claims pretty much bottomed last week. The sharp decline took us to a level not seen in nearly forty-five years. Then, the labor force then was only about 55% of what it is now. Adjusting for the size of the labor force, the level of claims is at an historic low.

MARKETS AND FED POLICY IMPLICATIONS: Today’s data don’t really change a whole lot as far as the outlook for growth is concerned. But we need to pay attention to the labor market numbers. Undoubtedly, the ups and downs in jobless claims created by the hurricanes caused some strange doings in the data, so the historically low claims number has to be seen in that light. But there were other reports released yesterday that indicate the labor shortages are beginning to bite. The ADP Job Vitality Report indicated that “job holders” are seeing better wage gains. In many sectors, the increases between third quarter 2016 and 2017 exceeded 4%. The information, leisure and hospitality and construction industries are all under intense pressure as shortages persist and workers are moving to the highest bidders. Also, the Labor Department reported that median weekly earnings rose 4% in the third quarter. The trend in wages is up and it is hard to see that it will do anything but accelerate going forward. There are lots of different measures of wage gains and most have issues. The ADP numbers try to “individualize” and there are clear signs that in a lot of sectors and in many parts of the nation, wage pressures are building.

September Industrial Production and Import and Export Prices

KEY DATA: IP: +0.3%; Manufacturing: +0.1%/ Import Prices: +0.7%; Fuel: +3.9%; Export Prices: +0.8%; Farm: -0.7%

IN A NUTSHELL: “Some say manufacturing is rebounding, but output is still lagging.”

WHAT IT MEANS: If you look at the surveys from the regional Federal Reserve banks and the national and local associations, you would think that manufacturing is booming. But according the Federal Reserve Board, output really is going nowhere. Industrial production rose solidly in September, led by a rebound in utilities and mining. But manufacturing production hardly budged. For the quarter, manufacturing output fell, not a sign of a strong sector, hurricanes notwithstanding. There were some really wide variations in activity. For example, the vehicle sector responded to the need to replace all those hurricane-soaked vehicles and assembly rates improved. But the rise wasn’t huge as a number of makers had excess inventory that they managed to unload. There were some really good increases in a variety of other durable goods industries, including machinery, electrical equipment and appliances, metals, computers and wood products. On the other hand, most categories in the nondurable segment slowed production. This included petroleum, chemicals, apparel and printing. That weakness almost totally offset the strength in durables and it cannot be blamed strictly on hurricanes.

On the inflation front, import prices surged in September led by a jump in energy costs. Let’s hear it for hurricanes that didn’t touch the rest of the world but led to price increases anyway. But the increase in the cost of foreign products was not just due to the spike in petroleum. Food prices soared and vehicle and capital goods costs moved upward, though modestly. On the export side, petroleum led the way but the wild swings in agricultural export prices continued. In September, they were in the down side of the yo-yo.

MARKETS AND FED POLICY IMPLICATIONS: The debate continues over whether the Fed will raise rates one more time this year, likely in December. I say think will and I hope to earn my second cheesesteak in two years. Different person, but hopefully same outcome. The economy is in decent shape and it looks like third quarter growth could come in somewhere around 2.5%. If it is less than that it was likely due to a swing in vehicle inventories as hurricane replacements were pretty high in September. It will be interesting to see what happens with wages in the two reports we will get before the December meeting. While Fed members, and most everyone else, are baffled by the modest rise in wages and tame inflation, it is beginning to look like there may be a bit of a wage break out starting. The GDP report, when coupled with what is likely to be seen as some modest acceleration in inflation should provide ample support for Janet Yellen to go out with a bang – or a rate hike. The increase would happen even if she is not reappointed, which looks doubtful. Fed Chairs usually only consider not participating at their very last meeting. That is probably January 30-31, 2018.

September Consumer Prices, Real Earnings and Retail Sales

KEY DATA: CPI: +0.5%; Excluding Energy: +0.1%/ Real Earnings: -0.1%/ Retail Sales: +1.6%

IN A NUTSHELL: “The sharp rise in consumer prices may have been hurricane driven, but for those on Social Security, it was great news.”

WHAT IT MEANS: Inflation accelerated in September – not! If all you do is read the headline number, that is your takeaway. But the reality, as usual, is in the details and that is a different story. There was, as we all know, a surge in gasoline prices as the Harvey hit the supply chain hard. Excluding energy, inflation remained quite tame. Food costs rose minimally even though the all-important snack category posted a large decline, vehicle prices fell, medical goods expenses dropped sharply and apparel prices were also down. Shelter costs, though, continue to rise at a moderate pace. Next month, the index could be flat to down as much of the gasoline price gain has already dissipated. In other words, there really is little to worry about when it comes to inflation.

But the increase in prices, even if temporary, is having impacts. First of all, while hourly earnings rose solidly in September, when adjusted for inflation, household earnings were down. As I always say, it is hard for consumers to buy more when their purchasing power is going nowhere. On the other hand, Social Security recipients are going to be quite happy. The cost of living adjustment is based on the third quarter over third quarter rise in the Consumer Price Index for wage earners and that was up 2%, in no small part because of the surge in gasoline costs. The adjustment will be the largest since 2012, when gasoline prices surged as well.

The hurricanes had a large impact on retail sales, as well. Total retail demand soared in September and the major reasons for the gain could be traced to the weather. Gasoline sales jumped as prices surged. Vehicle sales exploded as households who had their vehicles damaged started replacing them. And sales at home supply stores were up sharply as people bought everything they could to first batten down the hatches and then start to rebuild. Since so many had abandoned their homes, they wound up eating out and restaurant sales were up solidly. Just as consumer prices will likely reverse in the next month, it is likely that retain sales will be quite weak when the October report is released.

MARKETS AND FED POLICY IMPLICATIONS: The sudden increase in retail demand is likely to cause third quarter growth to come in somewhat better than expected before the hurricanes hit. But what Mother Nature may have given in the third quarter, she will likely take away in the fourth. That is true when it comes to consumers spending as well as inflation. I warned the data would be choppy and it looks like the waves will be fairly high. The Fed will not be swayed by the inflation report as there will be two more reports before the December FOMC statement is released. By then, the members should have a better idea about the pace of consumer prices. Therefore, investors will likely continue to focus mostly on earnings.

September Producer Prices, Weekly Jobless Claims and Fed Minutes

KEY DATA: PPI: +0.4%; Energy: +3.4%; Goods less Energy: +0.2%; Services: +0.4%/ Claims: -15,000

IN A NUTSHELL: “While the hurricane-driven energy price increase may fade, there still are some cost pressures building in a variety sectors of the economy.”

WHAT IT MEANS: If the Fed is to raise interest rates this year, it will have to defend the move by saying that inflation is on the path toward its target of 2%. Well, the members got some ammunition from the September Producer Price Index. Wholesale costs jumped, led by a surge in gasoline prices. Hurricane Harvey disrupted supply and that led to a rapid rise in prices. About half the increase has already been unwound. But there were other pressures outside energy. In particular, services prices were up in just about every major category except construction. Trade services, transportation and wholesaling all posted significant increases. On the goods side, the situation was mixed. Food prices were largely flat but a surge in crude food prices points to an increase in the future. Consumer durable goods prices, including vehicles, were up. Cleaning and polishing products were up while electronic components and accessories fell. Overall, though, finished goods costs rose moderately, enough to create an acceleration in the year-over-year gain, which is what the Fed watches.

The effects of the hurricanes are beginning to fade from the jobless claims data and the total fell sharply last week. It is now back down to where it was pre-hurricanes. The hurricanes hurt some professions but helped others. But going forward, it is clear that if you have building trades skills and you can move, the hurricane devastated areas have jobs.

The Fed released the “minutes”, actually a sanitized summary, of its September 19-20 FOMC meeting. The important takeaway for many was the intense debate over why inflation remains muted despite the low unemployment rate. There is uncertainty over what is driving inflation and therefore what level of unemployment can be sustained without triggering a sharp rise in prices. Nevertheless, there was a clear hint that the Committee was leaning toward another rate hike in December. The statement read: “…many participants thought that another increase in the target range later this year was likely to be warranted if the medium-term outlook remained broadly unchanged.” While not everyone agreed, it appears that enough are behind moving in December that there is a decent probability it will happen.

MARKETS AND FED POLICY IMPLICATIONS: Inflation is not surging but it is also not fading. The report today shows enough broad based price increases that if the FOMC does want to move in December, it has a basis for doing so. Still, we have to see what comes of prices now that the temporary gasoline supply problems have dissipated. And as I always say, the path from wholesale to retail prices is not straight and often dead-ends.   So don’t assume that non-energy consumer prices will rise significantly faster anytime soon. As for investors, it’s the start of earnings season. While future inflation and potential rate hikes may sometime become important, I suspect that for now, it’s all about profits.

September Employment Report

KEY DATA: Payrolls: -33,000; Private Sector: -40,000; Revisions: -38,000; Restaurants: -105,000; Unemployment Rate: 4.2% (down 0.2 percentage point); Wages: +0.5%

IN A NUTSHELL: “The hurricanes  messed up an awful lot, including the economic data.”

WHAT IT MEANS: Yesterday I warned that the jobs number could be worse than expected and it was. Indeed, a decline was a surprise though not a shock. But the economy is not backpedaling. Really, did the restaurant sector collapse? Yes, they closed because of the hurricanes and some of them may never reopen, but most will be back up and running. Otherwise, the report was fairly normal. There were job increases in health care, transportation, construction, finance, insurance, professional services and government. Manufacturing employment eased, but this sector does bounce around a lot. And retail continued to shrink, but that was not a surprise. In other words, most of the data in the report point to nothing amiss in the labor market other than the hurricanes.

The unemployment rate declined sharply, but even here we have to sit back and wonder what happened. There were outside changes in most of the components of the unemployment number and that raises questions about whether the drop was overstated. The government indicated the hurricanes didn’t affect the rate, but I am not so sure.

Finally, there was a significant rise in the average hourly wage rate. I would like to say that we are finally seeing the tight labor market show up in wages, but I am not so sure. There was a large decline in low wage employment and that might have affected the average to the upside.

MARKETS AND FED POLICY IMPLICATIONS: Sometimes you have to just sit back and relax and this is one of those times. The decline in the number of jobs was a direct result of the hurricanes and next month we are likely to see things turn around, probably with a vengeance. Actually, this was a decent report. If you back out the weather-related issues, you probably get a number that is about trend. That implies the October increase could be above 300,000. As for the unemployment rate decline, that too needs to be viewed with some caution. The government indicated the number was not affected by the storms but the details of the report were way out of the ordinary. Basically, this report should be filed away as a wait and see what happens with the October numbers. And then you average them out. Will the market react to the worse than expected jobs number or better than expected unemployment rate? It shouldn’t. But what it should be concerned about is the wage gain, though that too may have been a creation of the temporary shut down of all those restaurants that forced a lot of lower paid workers off the payrolls. Otherwise, the best thing to say about this report is: Have a great weekend!

August Factory Orders and Trade Deficit and Weekly Jobless Claims

KEY DATA: Orders: +1.2%; Durables: +2%/ Deficit: $1.2 billion narrower/ Claims: -12,000

IN A NUTSHELL: “The hurricanes may have caused havoc, but the economy seems to be bouncing back.”

WHAT IT MEANS: This is one resilient economy. Neither rain, nor wind nor the gloom in Washington seems to stay businesses and consumers from their appointed rounds of producing and buying. Factory orders were strong in August, led by solid increases in durable goods demand. But orders for nondurable products were also up decently, indicating that the manufacturing sector is experiencing broadly based increases in sales. Indeed, the only major sector that posted a decline in demand was furniture products.

There was also good news on the trade front. Rising exports, especially consumer and capital goods, led to a narrowing of the trade deficit. However, the decline in imports is a warning. We bought less of most products, except vehicles and consumer goods. A strong economy should mean that our demand for all products, including foreign goods, should rise. It didn’t. Still the narrowing trade deficit implies that trade will likely be a nonevent in the third quarter GDP report. It shouldn’t help or hurt growth.

Consumer spending looks like it was pretty strong in September, though not for the reasons we would want to see. The destruction of so many vehicles led to a surge in sales as households began to replace their flooded out autos and SUVs. We also saw this week that job cuts in September were modest. Challenger, Gray and Christmas noted that the third quarter layoff announcements were the lowest third quarter total in 21 years. Jobless claims came down last week, but they remain well above what they had been before the hurricanes blew up the data. And finally, the Conference Board reported that there was a modest increase in online help wanted ads. In other words, most of the data reported this week were positive.

MARKETS AND FED POLICY IMPLICATIONS: Tomorrow is employment Friday and it is hard to really know what the report will look like because of the hurricanes. It is likely that the unemployment rate will rise, if the elevated number of jobless claims is any indicator. We could also see an unusually small number of jobs created. Houston was largely back online by mid-September, but some firms may never reopen. In Florida, Irma’s timing may have led to a lot of workers not being employed during the survey week. Thus, don’t be too surprised if the number of jobs added is well below the even modest consensus of 75,000 – 100,000. I am on the lower side, but I have been surprised at how well the economy has held up despite the hits it has taken. My point is that if we get a truly ugly report, don’t assume that is anything more than temporary. Just as vehicle sales rebounded well above what they would have been without the storm damage, expect job gains to bounce back as households and business start repairing and rebuilding.

August Spending and Income and September Consumer Confidence

KEY DATA: Consumption: +0.1%; Disposable Income: +0.1%; Prices: +0.2%/ Confidence: -1.7 points

IN A NUTSHELL: “Sluggish consumer spending points to a weak third quarter growth number.”

WHAT IT MEANS: This week we received the final (for now) revision to third quarter GDP growth and the slight rise came from improved household consumption. It looks like the economy slowed sharply this quarter, in no small part because of a softening in consumer demand. Consumption ticked up in August, but when it was adjusted for inflation, it was actually down. Weakness in durable goods sales, basically motor vehicles, offset some increases in nondurables and services demand. The hurricanes were no helpful. But the uncertainty about consumers is not limited to the wrath of Mother Nature. Disposable personal income, while rising modestly, was also off when inflation was taken into account. It is hard to spend more when your purchasing power declines. Wage and salary growth pretty much disappeared and that does not bode well for future retail sales. Another warning sign is the savings rate, which edged downward again. Savings have declined five out of the last six months. On the inflation front, prices rose moderately overall but minimally when food and energy were excluded. The year-over-year increases in both the headline and core numbers are below 1.5%. Given the Fed’s target is 2%, there is a lot of room for prices to rise before the Fed has to worry about inflation.

Despite the chaos in Washington, the failure to reform the ACA and horrible hurricanes, consumer confidence remained pretty high in September. The University of Michigan’s Consumer Sentiment index did decline, but the level is strong. For most people, the hurricanes hit somewhere else and while there was concern for those who were hit by the storms, the impacts were not felt directly by most Americans. Thus, confidence did not tank.

MARKETS AND FED POLICY IMPLICATIONS: It looks like the economy fell back to its normal growth rate, or even lower, in the third quarter. We don’t have the September numbers, but given the hurricanes, it is likely that consumer spending will come in at half the 3.3% pace posted in the spring. But eyes are now turning to tax reform/tax cuts and the administration’s proposal has already come under intense fire since there are lots of winners and losers. That is always the case with any changes in policy. But the major issue is the impact on the deficit. Working backwards, the supporters have come up with a growth rate that implies the plan will pay for itself. If you believe that, I have both a Broadway show that I am producing and a bridge I am selling and you can have as much of each as you like. But it is not just bogus growth estimates that create risks to the plan. It provides significant tax breaks for upper income households, something the administration pledged not to do. By eliminating the state and local tax break, it creates the likelihood that upper-middle-income households will see their taxes rise not fall. And if the past is any example of how the money will be spent, don’t expect the repatriation of foreign earnings to lead to a lot of new capital spending. You can argue for or against all of the changes in the plan but they will create major disagreements. The one good thing is that the battle for tax reform/tax cuts has begun, though I suspect we will wind up with some cuts and not a lot of reform.

August New Home Sales, July Home Prices and September Non-Manufacturing Activity


KEY DATA: Home Sales: -3.4%/ Case-Shiller (Over-Year): +5.9%/ Philadelphia Fed Index (Non-Manufacturing): +1.4 points; Orders: +7.3 points


IN A NUTSHELL: “Housing sales may not be strong, but a lack of inventory is causing prices to continue to jump.”


WHAT IT MEANS: The housing market is likely to be a puzzle over the next few months as the two hurricanes created havoc in the market in Texas and Florida. And since Harvey hit during August, that month’s data are likely to be a bit skewed. So it wasn’t surprising to see that new home sales fell in August. But the decline could not be blamed on the weather as no region posted a gain. There was a little bit of good news in the report. Though still low on an historical basis, the number of homes on the market was the highest since June 2009. As for prices, the median declined while the average rose. What we are seeing is an increase in moderate priced homes and solid demand for the extremely high cost homes.


The reality is that home prices are likely to continue increasing and may even gap up a little if mortgage rates start to increase. There just isn’t a lot of supply out there and that goes for not just new homes but existing homes as well. The S&P Case Shiller National Home Price Index posted a faster gain in July. Only one of the twenty metro areas, Chicago, was down over the month. Except for Seattle on the high-side and Chicago and New York on the slow-side, most of the other cities saw their prices increase by between 5% and 7.5%, a pretty tight shot pattern.


As for the services component of the economy, if the Philadelphia region is any indicator, and it tends to be just that, the industrial sector is doing just fine. The Philadelphia Fed’s Non-Manufacturing Index rose in September, led by a jump in new orders. Even with sales rising faster, backlogs are building. Looking toward the future, while respondents were less certain about the general economy, they were more optimistic about their own companies.


MARKETS AND FED POLICY IMPLICATIONS: Next week, when we start getting September data, we will begin to see how the two hurricanes affected the economy. Until then, we can only assume that they slowed third quarter growth. I have marked my forecast down to under 2%, which puts me toward the bottom of most panels. I suspect other economists will be coming down if the data keep coming in as soft as they have. But fourth quarter is likely to be quite solid, assuming some rebuilding starts up and the government actually spends part of the money it has allocated to the recovery process. Meanwhile, the Fed will also be entering the equation as it will be reducing its balance sheet a touch. It is never easy to forecast any given quarter’s growth and when Mother Nature and the government combine to create chaos, it is almost impossible. So, the third and fourth quarter growth numbers should be viewed as aberrations. Whether investors get that is a different story as there is still hope that taxes will be cut (hope for reform is fading) and that alone is viewed as positive for stocks. But the rubber still has to meet the road and the politicians remain unwilling to actually work on a plan that both sides of the aisle can structure and support. That means the risk of another health care debacle is real if the Republicans overreach again and fail to get Democrats to buy in to their tax proposal.

September 19-20 2017 FOMC Meeting

In a Nutshell: “In October, the Committee will initiate the balance sheet normalization program.”

Decision: Fed funds rate maintained at 1.00% to 1.25%: Balance sheet normalization begun.

The great experiment of quantitative easing is over. The Fed calls the act of reducing its ownership of assets “balance sheet normalization” and it is to begin in October. This is important and we need to view the normalization of both the funds rate and the balance sheet as a dual process. The Fed considers quantitative easing to be a tool that ranks only just behind interest rate (fed funds rate) management.

The process of raising the funds rate to its normal level, which today’s report indicates to be roughly 2.75%, started in December 2015. Eleven of the sixteen members expect another hike in December and at least three more next year. The funds rate normalization process is proceeding at a reasonable rate and should continue to do so, barring a major economic problem.

The second tool, quantitative easing/tightening, had yet to begin before this meeting. Before the financial crisis, the Fed’s balance sheet was below $1 trillion. Now, it is about $4.5 trillion. When interest rates approached zero, the Fed turned to asset purchases to increase liquidity in the system and keep the whole range of interest rates low. This was supposed to add to growth.

The consensus is that the Fed needs to shed somewhere in the range of $2 trillion to get to a “normal” balance sheet. The process, as outlined in June, is for this reduction to begin slowly so the Fed will start rolling off only $10 billion per month starting in October. That will slowly ratchet up to at maximum of $50 billion per month by the end of next year. But the process has a long way to go and it needed to get under way. Balance sheet reduction is expected to continue unabated, barring an economic crisis.

So, why is the Fed normalizing the levels of its tools? Inflation is still below its target and while the economy is near full employment, there may be room to for the rate to decline further. The answer is simple. The Fed’s quiver is largely empty. If the economy falters, does anyone believe The Fed can really add another few trillion dollars to its balance sheet? As for the funds rate, would a reduction of only one percentage point provide much policy impact?

The Fed needs to positions itself so it can provide all the stimulus needed if the economy falters. That is their thinking now and it is why they have begun to reduce their balance sheet and raise rates. The members will move as quickly as reasonable, though the process could take over two years for the funds rate and as much as five or six years for the balance sheet.

(The next FOMC meeting is October 31-November 1, 2017.)

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