All posts by joel

September Retail Sales and October Empire State Manufacturing Survey

KEY DATA: Sales: 0.1%; Ex-Vehicles: -0.1%/ NY Fed: +2.1 points; Orders: +6.0 points

IN A NUTSHELL: “Consumer spending momentum is moderating and the hurricanes didn’t help.”

WHAT IT MEANS: Some of the final data for the third quarter are coming in and while they look good, growth is not likely to be close to the robust second quarter gain. Consumer spending on retail products sagged in September. A major reason was a sharp reduction in restaurant demand, some of which was probably due to Hurricane Florence. Other data sources, such as TDn2K’s, point to more solid gains in restaurant demand, so it doesn’t look like families have decided to boycott restaurants. Gasoline and health care purchases were also down. Offsetting those declines were strong increases in demand for vehicles, furniture, clothing, sporting goods, electronics and appliances. We also bought a lot of stuff online. So, taken together, this was a report that was probably skewed by events, not one that shows softening spending habits.

Meanwhile, manufacturing looks like it is still in great shape. The New York Fed’s October measure of New York area manufacturing was up, led by a sharp increase in new orders. Firms have been shipping like crazy and that led to a softening in backlogs. They are still hiring, but not as rapidly as before and are no longer extending out working hours. Looking forward, confidence is still good, but the trend has been down for most of the year. Firms have become more conservative in their expectations about hiring and investment. The capital spending high we saw earlier in the year has largely disappeared.

MARKETS AND FED POLICY IMPLICATIONS: The first guess (called the Advance Estimate) of third quarter growth will come out on October 26th. It looks like it will be in the 3.25% to 3.75% range (I am toward the lower end of the range). That is really good in that it is well above trend. But we knew, given the massive tax cuts and government spending increases that we would see strong growth this year. What economists are debating is how long the sugar high will be sustained. I have been contending that consumers are pretty much tapped out and that we could start see slowing demand as early as the fourth quarter. What is needed, I argued, is stronger future capital spending. I keep looking for signs of that happening, but they just don’t seem to be there. The surveys are not that optimistic. In the New York Fed’s report, expectations on capital and technology spending are back to where they were before the tax cut was passed. The euphoria of early this year is gone and it looks like investment levels could be trending down toward more typical levels, not the elevated ones hoped for when the passed was being hyped and passed. So, while we should get a good third quarter growth number and the expansion should be solid well into next year, more typical 2% to 2.5% rates are likely to start appearing in the second half of 2019. That is when most economists expect the sugar high to have worn off. At that point, it may be only the government that is driving growth and that is not the kind of economy we can bank on. I am an economist not a psychologist so I don’t have any idea whether the recent hits to the stock markets have change outlooks. Investors have been following the “I will believe it when I see it” philosophy and until that slowdown actually appears, who knows where the markets will go. But it is hard to see how the economy can keep up the roughly 3% pace we should post this year and at some point, that likelihood has to be factored into earnings growth and equity prices.

September Producer Prices

KEY DATA: PPI (Final Demand): +0.2%; Less Food, Energy and Trade Services: +0.4%; Goods: -0.1%; Less Food and Energy: +0.2%; Services: +0.3%

IN A NUTSHELL: “Wholesale cost pressures are no longer accelerating sharply, but that should do little to change the direction of interest rates.”

WHAT IT MEANS: Rising interest rates have become the biggest concern to maintaining the current strong growth. The 2- and 5-year Treasury notes are at their highest levels in a decade. The last thing the markets needed was an indication that inflation would surge, so it was nice that the Producer Price Index increased only moderately in September. Yes, the core index, which excludes food, energy and trade services, did jump, but there wasn’t any major acceleration in the yearly gains in the major components. Indeed, food, energy and overall final goods prices eased a touch over the month. Services costs, though, did rebound. Looking at the pipeline, there isn’t a lot of cost pressure at the intermediate goods level but services pressures are building. With energy prices are up again and the collapse in eggs costs probably behind us, wholesale prices will likely rise more sharply over the next couple of months.

MARKETS AND FED POLICY IMPLICATIONS: It’s time to repeat one of my favorite sayings: No good economy goes unpunished. The strong growth, coming on top of already tight labor markets, is helping drive up inflation and interest rates. That has provided the basis for current and future rate hikes and the sudden jump in longer-term interest rates. While wholesale costs may not be surging, they are still growing at a much higher pace than we saw for most of the post-recession period. There is also little basis to expect that business costs will moderate anytime soon, especially if we see an end to the rise in the dollar. So the rise in expenses should be sustained. While the path from producer to consumer prices is hardly straight, there is every reason to believe that consumer inflation will continue to accelerate slowly. That means the Fed will not be backing down anytime soon. Finally, investors are beginning to wake up and smell the concerns that economists have been talking about for months. I have been saying that the Alfred E. Neuman approach to investing will have to eventually end and the surge in rates may finally be causing that to happen. We will see over the next few months the extent to which the exuberance in the markets is brought under control. With political factors coming into play soon (the mid-term elections are less than four weeks away), everyone should fasten their seatbelts as it looks like we are in for a bumpy ride ahead.  

September Jobs Report and August Trade Deficit

 KEY DATA: Payrolls: +134,000; Private: 121,000; Revisions: +87,000; Unemployment Rate: 3.7% (down from 3.9%); Wages: +0.3%/ Trade Deficit: up $3.2 billion; Exports: -0.8%; Imports: +0.6%

IN A NUTSHELL: “The labor market remains strong despite the weak payroll increase, as witnessed by the lowest unemployment rate since December 1969.”

WHAT IT MEANS: The big, bad U.S. jobs machine sputtered in September but before you start looking for the next recession, relax. First of all, the gains for July and August were revised upward sharply. Given the paucity of free agent workers, the three-month moving average of 190,000 is closer to a sustainable level than what we had been seeing. While BLS didn’t see any major impact in the survey sample from Hurricane Florence, the large decline in the hospitality sector could have been the result of weather-related closings. On the other hand, the surge in state government payrolls was a surprise that is not likely to be continued. More fundamentally, hiring was strong in construction, manufacturing, health care, real estate, warehousing, transportation, professional and business services, indicating the increases were broad based. The average hourly wage was up solidly, but this number is largely meaningless, despite the fact that it is widely followed. As for the unemployment rate, the decline to 3.7% was impressive. Keep in mind, the last time the rate was this low was in the middle of the Vietnam War when an awful lot of young adults were in the military, not in the workforce.

There was another number released today that will likely disappear in the noise over the employment report: The trade deficit, surprisingly, widened sharply. And the reasons were not good. Imports rose modestly but exports tanked. Foreign sales of soybeans tanked, as expected, as did petroleum-based products, computers and vehicles. We did export more drugs and civilian aircraft.   On the import side, we bought more petroleum products, vehicles, cells phones and industrial machines but purchases of food, crude oil and computer accessories dropped. Even adjusting for price changes, it looks like the trade deficit widened significantly in the third quarter, greatly slowing growth.

MARKETS AND FED POLICY IMPLICATIONS: The employment data are volatile, so don’t read much into the soft topline number. But also don’t think that wage gains below 3% over the year are an accurate measure of true compensation pressures. Firms are using benefits and nontraditional means to try to retain and attract workers and the average hourly wage, which I have written about many times, is simply incapable of measuring those changes. Businesses of all sizes are indicating they are doing whatever they can to keep their workers and while they are trying like crazy not to raise wages quickly, overall labor cost increases are accelerating. The standard measures just don’t reflect those increases well if at all. So don’t think the Fed will look at a faulty average hourly wage number and not be worried. They are and will continue raising interest rates. And the faulty number may not stop the rise in longer-term rates either. The last time we saw 10-year rates this high was in 2011. While I think the gap up in rates was too great, any pull back is likely to be followed by further increases, though more slowly. Whether investors worry about that is to be seen.

September Non-Manufacturing Activity, Private Sector Jobs and Online Want Ads

KEY DATA: ISM (Nonman.): +3.1 points, Orders: +1.2 points; Jobs: +5.7/ ADP Jobs: +230,000/ HWOL: +145,100

IN A NUTSHELL: “Whatever soft-spot the economy may have hit in August was wiped out in September.”

WHAT IT MEANS: As the August numbers came in, it was apparent that some sectors, including manufacturing and housing, were starting to slow. That is likely still the case, but you cannot say that about the services portion of the economy. The Institute for Supply Management’s nonmanufacturing index rose solidly in September to the highest level since its inception in 2008. There were no components of the index that were down. Orders grew faster and firms are hiring like crazy. That bodes well for Friday’s payroll numbers. Backlogs are expanding and coupled with the strong orders, should lead to continued robust activity. The only issue is growing input cost pressures. That includes both labor and goods.

Speaking of a potential strong September jobs report, ADP’s estimate of private sector payroll gains was off the charts. The projected gain was the largest since February and just about every sector posted solid increases. Small, mid-sized and large companies hired heavily. This report can miss greatly, at times, but it is so strong that the risk to Friday’s number is that it will be higher than the general consensus of about 180,000.

With firms hiring like crazy, it was not a surprise that the Conference Board’s Help Wanted OnLine measure increased strongly in September. However, the level of online want ads have been bouncing around in a range for the about two years now and the September number does not represent a break out.

MARKETS AND FED POLICY IMPLICATIONS: The big numbers in today’s economic data should be providing support to the bulls in the markets. But it is also creating the concerns that inflation could accelerate as well and interest rates are rising at the longer-end, not just the Fed-induced shorter-end movements. As for the Fed, the inflation doves may want to take cover as the hawks are likely out hunting. The next FOMC meeting is in a month and don’t be surprised if the Committee makes it clear another hike will occur at the December 18-19 meeting and many more afterwards. With Amazon raising its wage to $15 per hour, pressure will be on firms competing for the limited workers that are out there to match that number. It looks like the holiday hiring season will be strong, especially for online fulfillment (warehousing, call centers, transportation) and if the wage number in the employment report doesn’t start reflecting the growing pressures, maybe we should stop using it. I think the average hourly wage number is a joke, but it is all some people look at and it needs to be discussed. But for businesses, both wages and benefits are rising and that trend needs to be measured better. Regardless, the economy is in really good shape.

September Manufacturing Activity and August Construction Spending

KEY DATA: ISM (Manufacturing): -1.5 points: Orders: -3.3 points; Employment: +0.3 points/ Construction: +0.1%; Private: -0.5%; Public: +2.0%

IN A NUTSHELL: “While manufacturing keeps humming along, the construction sector is being kept afloat by government spending.”

WHAT IT MEANS: It may not be the best of times for manufacturers, but it is pretty close to that. The Institute for Supply Management’s manufacturing index declined in September, but you have to keep in mind that the August number was the highest in fourteen years. That is, the level remains really high. A second survey, the HIS Markit manufacturing index, was also up, providing further support for the view that the industrial sector is in great shape. Looking at the details, orders did grow more slowly, but once again, the level indicates the pace moderated from an unsustainably high rate. Hiring remained strong while pricing pressures, though still high, eased.

On the construction front, conditions continue to deteriorate, especially for private sector residential activity. Nonresidential construction was somewhat mixed, with office and health care building up but commercial up. What kept the overall sector from going into the red was government construction. New offices are being built like crazy as the public sector has changed its philosophy on spending.

MARKETS AND FED POLICY IMPLICATIONS: Today’s decent manufacturing data but disturbing construction numbers expose the yin and the yang of the economy. Manufacturing is holding up but the housing market is offsetting those gains. Residential investment likely restrained growth fairly significantly in the third quarter while the strong addition to growth coming from investment in structures looks like it faded. That is a disappointment given the business tax cuts. We get the first reading on third quarter growth on October 26th and it looks like it will be very good, but well below the second quarter’s 4.2% rate. As for investors, the easing of the trade tensions over the Nafta negotiations, which is now being called USMCA, for the United States-Mexico-Canada Agreement, undoubtedly will provide smiles. Whoever came up with that new name should be required to repeat the acronym one hundred times without pausing for air. There are some changes from current policy, with U.S. dairy farmers looking to benefit the most, which would make sense if the U.S. were moving back to an agrarian economy.   One of the biggest changes has to do with wages, which affects Mexico the most. It isn’t clear if the North American content increase for vehicles will greatly improve U.S. manufacturing activity. Regardless, the ratification process will likely fall to the next Congress and who knows what will it will look like. In this political and social environment, nothing will be done easily, so look for more fun and games when the process starts.

August Consumer Spending and Income and September Consumer Confidence

KEY DATA: Consumption: +0.3%; Disposable Income: +0.3%; Inflation: +0.1%; Ex-Food and Energy: 0%/ Consumer Sentiment: +3.9 points

IN A NUTSHELL: “Consumers are exuberant and that is translating into some pretty good spending.”

WHAT IT MEANS: Third quarter growth is becoming clearer as more data come in and it will be good, just not great. Household spending was solid in August, led by a surge in services. This was expected as utilities are in the services category and it was a brutally hot month in many parts of the country. Don’t expect that to be repeated in September. Vehicle sales were soft and that led to a decline in durable goods spending. Nondurables were up, which says people are buying lots of different things. So far this quarter, consumption is growing at a better than 3% pace, which means overall economic growth should be at least that high. As for income, there was a decent but not robust rise in wages and salaries. There seems to finally be a bit of an upward trend in this category, but not yet a strong one. On the inflation front, there really isn’t a lot. The rate is above 2% for all measures, but it is not accelerating. That is good news and it supports the Fed view that it looks like we are not headed to an upside shock on inflation.

Consumer’s are in a great mood. The University of Michigan’s Index of Consumer Sentiment rose solidly in September and it the level was above 100 for only the third time since mid-2004. Views on current conditions jumped while expectations rose more moderately. Interestingly, upper income households are becoming more cautious while low-income respondents indicated that they are more positive about the conditions.

MARKETS AND FED POLICY IMPLICATIONS: Today’s economic numbers were very solid. How much of the consumer spending was due to utilities is unclear, but don’t expect service demand to be nearly as high in September. Since services comprise about two-thirds consumer demand, that implies we could see a more modest number. We still need to see faster income growth to support the very solid spending we saw in the spring and likely during the summer. I am not sure if that will emerge and if not, we could be looking at a softer fourth quarter number. But investors are not likely to worry until they see softer numbers. The economy is evolving in a manner that is consistent with the Fed’s slow but steady rate hike/balance sheet reduction strategy. It will likely continue on that path over the next year.

August New Home Sales

KEY DATA: Sales: +3.5%; Prices: +1.9%

IN A NUTSHELL: “With the previous few months of new home sales being revised downward, it is hard to say the August increase is good news.”

WHAT IT MEANS: The Fed is raising interest rates, energy prices are rising and household income growth is modest. What does that tell you about the future of the housing market? That it is going nowhere. There was a nice rise in new home sales in August, but the gain was just enough to take us back to where the July numbers were before they were revised downward. Demand for newly constructed units peaked last November and have been going downward since then, though in a saw tooth manner. Thus, the rise in August should not be taken as a sign that conditions are firming. Looking across the nation, demand spiked in the Northeast, was up sharply in the West, increased modestly in the Midwest, but fell in the South. The South is the big dog, as over 55% of the sales are in that region, so weakness there drags down the national number. Hurricane Florence will likely cut sales initially, but a lot of homes will have to be replaced, so the data for the fall and even early winter should be looked at with caution. As for prices, the medium sales value was up modestly, another indication that the sector is softening.

MARKETS AND FED POLICY IMPLICATIONS: The Fed’s decision on rates will be out soon so this number will likely be a tree falling in the forest. But the likely rate hike, coupled with inflation pressures that are building from the increase in oil costs, tariffs and strong growth, are expected to keep up the pressure on longer-term rates as well. Thus, homebuyers are finding both variable and fixed rate mortgage costs rising, making affordability a growing issue. As for the Fed, the statement, projections and Chair Powell’s press conference may provide some insight into how many more rate hikes we will see. The Fed is sailing somewhat blindly, as who knows how the trade wars will play out. The problem is that there is the potential for both higher inflation and slower growth in the near term. The benefits, if there are some, are more longer term. Since the Fed doesn’t have any idea about the magnitude of either impact, they have to pick which error they want to make: Too much tightening to guard against inflation or too little to guard against an economic turndown. This is when they start earning the big bucks.

September Consumer Confidence and NonManufacturing Activity and July Housing Prices

KEY DATA: Confidence: +3.7 points; Phil. Fed NonManufacturing: -4.3 points; Case-Shiller Prices (Over-Year): +6.0%; FHFA Prices (Over-Year): +6.4%

IN A NUTSHELL: “Consumers are delirious but are not bidding up prices of homes as much as they had been.”

WHAT IT MEANS: The third quarter is almost over and it looks like it was a good one. At least consumers think things are wonderful and will continue to be great. The Conference Board’s Consumer Confidence Index jumped in September. The index is beginning to take aim in on the high posted in 2000. There was a surge in expectations about the future even as the current conditions measure rose modestly. Critically, views on the labor market are not only upbeat but also keep getting better. Over 45% of the respondents said that jobs are “plentiful”.

Echoing the optimism of consumers is the outlook of business owners. The Philadelphia Fed’s September NonManufacturing index of regional activity eased a touch but respondents said their own businesses did better over the month. This seems to reflect the growing concern about the economy despite the gains being made by businesses. Indeed, the regional economic activity expectations index also fell but expectations about individual business activity were up.

The housing data are all saying the same thing: A slowdown is already here. We saw that in sales numbers, which have been slowly trending downward since early spring. And that has led to a deceleration in price gains. Both the Case-Shiller Federal Housing Finance Agency’s home price indexes rose modestly in July while the over-the-year increase moderated.  Increasing prices and mortgage rates are reducing affordability and sales and that is translating into slower price gains.

MARKETS AND FED POLICY IMPLICATIONS: The Fed is meeting today and tomorrow and it is largely a done deal that there will be an increase in rates. The question is how much more do we have to go. That, of course, depends upon whether growth remains strong and inflation accelerates further. Right now, the Fed has achieved its economic and inflation targets. But the full impacts of the massive fiscal stimulus have not been felt, so we should be able to maintain 3% growth for a while. If that is the case, inflation should accelerate, forcing the Fed to keep raising rates. The probability of a December increase is extremely high and most economists have a minimum of two more increases next year. I have three to four. That would put the rate above 3% and likely above the rate of inflation. Except when oil prices collapsed, that has not been the case for the last nine years. That should create some interesting reactions in both the stock and bond markets. With the economy humming along, investors should start strategizing for when that happens.

August Existing Home Sales and Leading Indicators, September Philadelphia Fed Manufacturing Index and Weekly Jobless Claims

KEY DATA: Sales: 0%; Prices: +4.6%/ LEI: +0.4%/ Phila. Fed (Manufacturing): +11 points: Claims: -3,000

IN A NUTSHELL: “The housing market looks to be the only soft-spot in a solid economy.”

WHAT IT MEANS: Second quarter growth was strong, it looks like the economy expanded solidly in the third quarter and if the measures of future growth have any validity, the good economy will continue into next year. But then there is housing. Housing sales are going nowhere, unless they are going down. Existing home demand was flat in August as increases in sales in the Northeast and Midwest were offset by weaker activity in the South and West. Both single-family and condo purchases were flat as well, which is really weird. I hope the National Association of Realtors didn’t mess up the data. As for prices, they are still rising moderately. However, the rate of gain is easing and it should continue decelerating.

Despite the issues with the housing market, the outlook for the next six months is very good. The Conference Board’s Leading Economic Index rose solidly in August after strong gains in June and July. Growth should remain at or possibly above 3% for the rest of the year. However, the report did provide a note of caution: “The US LEI’s growth trend has moderated since the start of the year.” But most economists have cautioned that the strong second quarter increase was not likely to be sustained.

Manufacturing was another sector that seemed to be on the brink of a slowdown. Output gains were slowing and the trade battles were helping. But the Philadelphia Federal Reserve Bank’s manufacturing Index popped back up in early September, as orders rebounded. Hiring picked up and shipments increased. Confidence, though still high, continues to fade, which is inline with national indicators about the sector.

Jobless claims fell again last week. The level is the lowest since November 1969. No more needs to be said.

MARKETS AND FED POLICY IMPLICATIONS: The economic data are taking a back seat to the political/economic issues, in particular, trade concerns. You know things are crazy when investors say that the new tariffs are not as bad as was feared so let’s party hardy. Really, new tariffs and counter measures are something to celebrate rather than fear? The Chinese are masters at the non-tariff tariff and those are being imposed. Also, saying that the stimulus package will overcome the tariffs only implies that the tariffs will slow the economy from what we could have had without them. Regardless, today’s numbers were mixed. It was nice to see the economy should expand solidly over the next six months, but that is a surprise to no one. The housing market’s blues will likely only get worse as the Fed will be continuing to raise rates, starting next week. Oil prices are slowly increasing, which is further impinging on the purchasing power of the average household. So yes, the markets are booming and that is great, but unless that wealth is spent, it means little. And the average household is not spending those gains, as they are either not getting much of them or they are in their retirement accounts. So, I continue to warn that as we move through next year, conditions should deteriorate and if the trade skirmishes (my phrase, I used it months before Jamie Dimon) heat up and Chinese growth slows, the world and yes, U.S. economy will feel the pain.

August Consumer Prices, Real Earnings and Weekly Jobless Claims

KEY DATA: CPI: +0.2%; Over-Year: +2.7%; Ex-Food and Energy: +0.1%; Over-Year: 2.2%/ Real Earnings: +0.1%; Over-Year: +0.2%/ Claims: -1,000

IN A NUTSHELL: “Inflation may have moderated in August, but inflation-adjusted wages are still going largely nowhere. ”

WHAT IT MEANS: Inflation pressures have been building this year so it was nice that they didn’t accelerate further in August. The Consumer Price Index rose at a decent but not threatening pace even when you exclude the volatile food and energy components. The good news in the report is that medical care costs declined. I guess the repeal of the ACA is doing what was expected. Oh, that’s right, it wasn’t repealed. My mistake. The likelihood is that the drop was a random occurrence and we will start seeing those costs accelerate soon. There was also another sharp decline in apparel prices. If the market was flooded by a surge of imports intended to beat potential tariffs, the drop is not likely to last. On the upside, shelter costs were up solidly and look like they will continue to rise. Gasoline prices were up, as anyone who drives a non-electric vehicle knows. (When are those cheap Teslas going to become readily available, I think I could use one.) But food costs were largely flat, though the all-important cakes, cupcakes and cookies component was down significantly. Time to get off my no-chips, no-cookies diet.

The race to see which can rise faster, wages or prices, remains largely a tie. Earning rose a touch more than consumer costs in August and that was the good news. The bad news is that inflation adjusted wages, which is a measure of spending power, has barely budged since August 2017. Consumers are spending more, but there are limits to their ability to keep emptying out there wallets. We are likely to see a slow but fairly steady moderation in demand for the rest of this year despite the impacts of the tax cuts. Consumption is where the distribution of the tax cuts matters the most and given the concentration of benefits on upper income households, there is not that much more that most families will have to spend unless wage gains pick up significantly.

Weekly jobless claims fell again and the level is so low that it risks making the indicator irrelevant. The Department of Labor should simply say that just a few people applied for unemployment insurance and be done with it.

MARKETS AND FED POLICY IMPLICATIONS: The FOMC is meeting in less than two months and the August moderation in both consumer and wholesale inflation will do nothing to change the belief of just about everyone that watches the Fed that rates will go up at the end of the meeting. The Fed’s inflation and full-employment targets have been met so it is time to get back to a neutral Funds rate. While there may be little agreement on exactly what that is, it is probably at least 3%. That means we have four or more rate hikes to go. But the Fed will only stop at neutral if inflation and growth don’t look like they are getting out of hand. Right now, both are running a little hot but are nowhere near boil. With the full impacts of the tax cuts still to be seen, I expect the funds rate to exceed 3%, in part because I believe the neutral rate is above 3% and also because I think we are headed to an inflation rate in the 2.5% to 3% range. But it may take inflation above 2.5% for an extended period before investors realize that rates may go higher than they think or hope.