All posts by joel

September 16-17 ‘15 FOMC Meeting

In a Nutshell: “Recent global economic and financial developments may restrain economic activity somewhat and are likely to put further downward pressure on inflation in the near term.”

Rate Decision: Fed funds rate maintained at a range between 0% and 0.25%

The Fed decided that all economic and financial issues in the world are its concern and given the uncertain global economic and financial conditions, the start of rate normalization would have to wait. Boy, what a difference seven weeks make. After the July FOMC meeting, conditions seemed to be in place for a September rate hike. Indeed, fifteen of seventeen participants indicated they expected rates to be increased this year. That number dropped to thirteen and one member even thinks rates will not be increased until 2017.

So, what changed? First, oil and other commodity prices fell. There was a concern that the labor market needed further improvement, though the rate is near the members’ long run rate of 4.9%. Fed Chair Yellen explained that there is some extra slack in the market because of the falling participation rate and the elevated level of part-time workers who want full-time jobs.

But the real shift was the central position of foreign issues. The recent instability in China, the rise in the dollar and the weakness in countries dependent on commodities for growth (e.g., Canada) caused the FOMC to rethink its timing of a rate hike. Adding these worries to the energy declines and supposedly labor market slack. The members’ lowered their inflation outlook for the next couple of years. And since inflation remains well below the Fed’s target, The Committee decided not to go for it on fourth and one, but instead punted.

So, when will the Fed start raising rates? While Chair Yellen said that October is a live meeting, it is unlikely the FOMC will get enough compelling information about China and the financial markets over the next six weeks to make an October hike possible. Indeed, we don’t even know what will constitute enough knowledge of what is happening in China, especially since the Chinese data are questionable, at best, and their policies are hardly transparent.

The Fed, by making China, the dollar and the world financial markets central to its decision process, has muddied the waters. Indeed, investors seem as confused as most economists. On the news, the Dow quickly dropped about 80 points, but then rallied sharply, rising over 200 points. However, once Yellen started explaining things, the index fell over 200 points.

The Fed will eventually start raising rates, but it is no longer clear what benchmarks will have to be met before that decision is made. It could be December, but it could be sometime in 2016 as well. Right now, I don’t think anyone, including Janet Yellen, has any idea.

(The next FOMC meeting is October 27-28, 2015.)

August Consumer Prices and Real Earnings and September Home Builders Index

KEY DATA: CPI: -0.1%; Excluding Food and Energy: +0.1%; Gasoline: -4.1%/ Real Hourly Earnings: +0.5%/ NAHB: 62 (up 1 point)

IN A NUTSHELL: “Modest inflation is inflating spending power, which is good for households even if it is worrisome for the Fed.”

WHAT IT MEANS: One more day, thankfully. But until tomorrow afternoon, when Janet Yellen and her dysfunctional band of not very merry central bankers let us know what they decided to do or not do, the inflation and economic growth data remain front and center. Inflation is still not too hot, not too cold and not just right. Consumer prices fell in August as gasoline costs plummeted. With prices falling faster so far this month, expect September consumer prices to be down again. The one area where costs are rising at a solid pace is shelter. Rents and home prices are jumping. We are also paying more for our sustenance, both at home and at restaurants. There is growing price pressure on the three major food groups: Cakes, cupcakes and cookies. With the dollar strong and import prices falling, it is not clear why clothing costs are increasing, but they are. Medical care has cooled a touch, at least when it comes to services, though not for medical commodities. The surging vehicle sector is suffering from trade-in overload and used vehicle prices are falling, not surprisingly. And finally, airline fares are crashing like, well let’s skip that analogy.

While the Fed members may be paralyzed by the horror of low inflation, households are probably dancing the jig. An acceleration in wage growth, coupled with declining inflation, led to a surge in real wages in August. With hours worked also increasing, weekly income, adjusted for inflation, rose a solid 2.5% over the year.

On the housing front, conditions remain strong. Homebuilder confidence improved again in September as the National Association of Home Builders’ index hit its highest level in nearly a decade. Sales and traffic are increasing but expectations of future sales were off. Every region posted a gain except the West, which was flat.

MARKETS AND FED POLICY IMPLICATIONS: There are two issues that could keep the Fed from raising rates tomorrow: Low inflation and market volatility. Excluding food and energy, consumer costs are up 1.8% over the year. That is below the Fed’s target but not so much so that it should worry a whole lot of members. The CPI tends to run a touch hotter than the Fed’s preferred measure, the Personal Consumption Expenditure (PCE) price index, but not by very much. So, while inflation is not accelerating, it is not so far from the target that the Fed couldn’t fudge things. As for market volatility, my stance is clear: The Fed has no business protecting investors who don’t believe the Fed is going to do what it has said it wants to do, which is raise rates. Indeed, the uncertain over rate hikes is probably the major cause of the volatility. So, the Fed should raise rates tomorrow, even if the members have not synched their messages with that action very well. Whether they will or not is still anyone’s guess.

August Retail Sales and Industrial Production

KEY DATA: Sales: +0.2%; Vehicles: +0.8%/ Industrial Production: -0.4%; Vehicles: -6.4%

IN A NUTSHELL: “Given the strength of vehicle sales, I think we can safely discount the decline in industrial production that was the result of a cut back in vehicle assemblies.”

WHAT IT MEANS: In two days we will know whether the Fed has begun moving rates back toward normal or is waiting for a better time to do that. Today’s data really don’t change any thinking. Retail sales rose modestly, but that came after a sharp increase in July. Also, there was a large cut in gasoline sales, which was likely do to price not demand factors. People ate at home and in restaurants, bought clothes and electronics, but stayed away from furniture and home building stores. Essentially, after a very strong July, people continued to spend in August.

Industrial production was surprisingly weak in August. But that was likely nothing more than vehicle makers changing over models more randomly than they used to, making seasonal adjustments difficult. In July, vehicle production soared 10.6% but was down 6.4% in August. Huh? Sales are booming and vehicle makers are just doing what they now do, which is to offer new vehicles when the time comes. There was also a decline in airplane output and we know the contractors have massive backlogs. So, don’t worry about the output decline. It was probably technical, not fundamental.

MARKETS AND FED POLICY IMPLICATIONS: In1999, former St. Louis Fed President Bill Poole presented a paper to the Philadelphia Council of Business Economists that argued the Fed should “synch” the markets, not “sink” the markets. Basically, Fed moves should not be a major surprise to investors. But that requires relatively clear communications. The current Fed members have not done that very well at all. Thus, as we await Thursday’s decision, there remains uncertainty. It may just be that high level of uncertainty is what prevents a rate hike. If so, a move in October, which would come with better messaging and a clear indication that something is up (like rates?) by scheduling a conference call with the press become much more likely. This Fed needs to do communicate much better.

Let me end this commentary with some of Dr. Poole’s concluding comments made 16 years ago:

“I believe that a policy agenda designed to heighten the degree to which the Fed and the markets are in synch is an ambitious and worthy objective. We in the Fed need to work on two fronts, in my opinion. One is the policy front itself, making sure that policy actions are as appropriately timed and scaled as possible. The second is on the disclosure front making sure that knowledge inside and outside the Fed converges to the maximum possible extent.

… The conclusion I have been discussing—that, with full convergence of information, Fed policy actions will not affect market prices because the market has already predicted them—initially surprised me. But the more I think about the matter, the more compelling the conclusion is.”

To that I say, Amen!

August Producer Price Index

KEY DATA: PPI: 0%; Less Food and Energy: +0.3%; Goods: -0.6%; Energy: -3.3%; Services: 0.4%

IN A NUTSHELL: “While wholesale goods costs continue to go nowhere, pressures on services expenses are building.”

WHAT IT MEANS: The key concern for the economy is not growth but prices and today’s Producer Price Index numbers didn’t do much to clarify the situation. Wholesale costs were flat in August as a sharp rise in services expenses was offset by an even larger decline in goods prices. Most people focus only on the goods component, but services make up two-thirds of the index, so we really do need to keep them in mind. On the goods side, energy declines continue to lead the way. In contrast, food prices rose sharply. Goods costs excluding food and energy were off a touch as were capital goods prices. Where there are rising prices was in the services sector, especially trade. Transportation and warehousing is benefitting from the declining energy costs and their prices are down. Real price pressures are developing in the goods and services components closest to the consumer: finished and personal consumption goods and services. Over the past few months there has been a clear acceleration in prices in most of those areas. Looking into the future, there are no goods price pressures in the pipeline.

The University of Michigan’s mid-month reading of consumer sentiment came in well below expectations. Households seem to be bummed by the craziness in the stock markets. But let’s keep in mind that swings created by equity market volatility don’t necessarily translate into changes in consumption as people have learned not to spend their gains.

MARKETS AND FED POLICY IMPLICATIONS: Inflation is clearly not an issue, except for the simple fact it is actually too low. Producer costs should not cause consumer goods prices to rise much, though there could be some issues on the services side. But services don’t get the same press as goods so the focus of attention is on food and energy and not much else. Still, there is little reason to expect that the Fed’s target of 2% for inflation will be reached soon, even if you exclude food and energy. Will it be met in the medium term? Probably, but it will have to come from increasing prices pressures in services and for some domestically produced goods. With the dollar strong, import prices will remain soft, so don’t look for any help there. It is doubtful that anybody’s thinking has been changed by today’s data, so have a great weekend.

August Import and Export Prices and Weekly Jobless Claims

KEY DATA: Imports: -1.8%; Nonfuel: -0.4%; Exports: -1.4%; Farm: -2.6%/ Claims: -6,000

IN A NUTSHELL: “Another day of data, another set of solid labor market but weak inflation numbers.”

WHAT IT MEANS: As we limp exhausted into the final week before the Fed either does something or forces us to face upwards of three more months of water torture, the data seem to be laughing in our faces. We would like the economy to be strong and inflation to be trending upward, but alas only one of those is happening. The good was a drop in the weekly jobless claims numbers. While the weekly data are volatile, the smoothed, four-week moving average has been pretty constant. It is quite clear that few firms are cutting back on their workforces.

On the bad side, if you consider consumer prices that don’t go anywhere a problem (consumers clearly don’t!), the prospects for inflation accelerating anytime soon are not great. Import prices tanked again in August and it wasn’t just energy. Industrial supplies excluding petroleum, consumer goods, vehicles and capital goods prices fell as well. Only the cost of imported food was up and that was due largely to a jump in seafood prices. Looking across the world, prices are down for every major region. Only some Southeast Asian countries increased their prices for goods sold in the U.S. Over the year, the biggest import price declines have come from countries throughout the Americas. The Pacific Rim nations have not been dumping their products on the American markets at greatly deflated prices. As for our exports, every major category posted a drop in prices except vehicles, which was flat. The agricultural sector has seen its prices fall by 14% over the year. That is a big ouch.

MARKETS AND FED POLICY IMPLICATIONS: Right now, investors are totally baffled, in part a consequence of the bizarre Fedspeak. Think of it: We had Bill Dudley saying that the data were “less compelling” but Stanley Fischer saying, “When the case is overwhelming, if you wait that long, you’ll be waiting too long”, and “There’s always uncertainty”. So, what’s “compelling”? And, what’s “too long”? While economists might enjoy the process of parsing sentences and even words, investors simply go crazy. Add to that the reality that if anyone can tell us what is going on in China, then we will all know, you have a state of uncertainty that can only create volatility, which is precisely what we have. One day it looks like China is not that bad and the markets rally. The next day the Fed might raise rates and stocks crash, though I wish I knew why a message that the economy is strong enough to absorb a rate hike is considered bad for business. It just shows how screwed up things are. So, let’s make it through this week and get to next week, when a new group of data, which includes retail sales, industrial production, consumer prices and housing starts will once again cause Fed members to twist like Chubby Checker. At lest they will be doing it in the semi-privacy of an FOMC meeting.

July Job Openings, Hires and Quits

KEY DATA: Openings: +430,000; Hires: -199,000; Quits: -43,000

IN A NUTSHELL: “With openings at record highs but hiring slowing, businesses are falling further behind on meeting their staffing needs.”

WHAT IT MEANS: It’s tough being an HR executive these days. On one side you have everyone saying they need more employees while on the other side you have workers hesitant to move and CFOs who don’t want to pay more. So what do you do? Apparently, punt! The Bureau of Labor Statistics reported that open requisitions for positions soared to a record high in July as companies in just about every industry had trouble finding new employees. Only the construction and arts and entertainment industries posted fewer openings. As has been the case for quite some time, the lack of workers is spread across skill levels. While professional and business services had the highest rate of openings, accommodation and food services came in second. Even with jobs openings growing by leaps and bounds, firms have not been able to find suitable workers at the wages they want to pay. Indeed, the rate of hiring declined. Part of the problem is that workers are just not leaving their jobs. The quit rate is still very low as employees still are willing to stay with the devil they know than the devil they don’t know. But that is likely to change and when it does, openings could spike even further.

MARKETS AND FED POLICY IMPLICATIONS: How long businesses can make due with so many opening positions is something I just cannot figure out. I would have thought that by now, firms would have capitulated and started to attract workers by paying more. But they haven’t. As the U.S. economy continues to expand, firms will have to find even more workers to meet the growing demand. With the unemployment rate pretty much at full employment and with the underemployed not meeting the skill, age or required salary profiles, there are not a lot of people out there to attract anyway. Normally, that sets off a bidding war, but we are not in normal times. Firms seem to be willing to go without and pray that productivity will save the day – or whatever has to be saved. But productivity has been lagging and as I have argued before, that may be because workers have learned that worker harder doesn’t lead to more income, so they just don’t work harder. In other words, firms are in a trap. They need to raise wages to attract workers, especially from other firms, but they are unwilling to do that. They hope to get more fro their employees but just providing a job doesn’t have the same impact now as it did five years ago. So, I will repeat my oft-repeated refrain: Wages need to rise if businesses are to produce more, households can buy more and growth can accelerate. Until that happens, we will remain in this moderate growth cycle and business leaders will continue to complain about the less than stellar economy. The Fed watches this report, known as JOLTS, carefully. The members are aware that the only way the current conditions don’t eventually lead to rapid wage growth and a rebound in inflation is if the economy slows. So, they can wait for the inevitable and raise rates then or assume the inevitable will occur and raise rates now. Next week’s FOMC meeting cannot come soon enough as we are all suffering Fed Fatigue.

August Employment Report

KEY DATA: Payrolls: +173,000; Revisions: +44,000; Private Sector: 140,000; Manufacturing: -17,000; Public Education: +32,600; Unemployment Rate: 5.1%; Hourly Wages: +0.3%

IN A NUTSHELL: “We’ve hit full employment, so is anyone surprised that firms are having trouble finding qualified workers to hire?”

WHAT IT MEANS: Yesterday, I worried that today’s report would be in that middle ground where the Fed could either use it to defend a rate hike or say it needs to see more. Well, on the surface, that is precisely what we got. On the disappointing side was the payroll gain, which came in below expectations. But the possibility of a light report was discussed as August tends to be a difficult month for government to estimate payrolls and there have been many revisions in the past. I suspect this year will be no different, especially since there were sharp upward revisions to both June and July’s totals. And, if you consider the past three months, the 221,000 average gain is in line with expectations. As for details, the huge decline in manufacturing was what tripped me up. Most of the drop came from the metals and food manufacturing industries. Vehicle makers ramped up hiring. With retail sales rebounding, vehicle demand soaring and housing accelerating, the cut backs should reverse very quickly. Meanwhile, the oil sector keeps downsizing. Mining is down 90,000 workers so far this year. In comparison, mining added 42,000 positions in 2014.

While payrolls disappointed, the unemployment situation didn’t. The unemployment rate declined to its lowest point since March 2008. While the labor force fell, there was a huge rise in the number employed, a major decline in the number unemployed and the labor force participation rate remained stable again. Hourly wages rose solidly, hours worked were up so total weekly earnings soared. It looks like firms are working people longer because they cannot find workers to hire.  


MARKETS AND FED POLICY IMPLICATIONS: Though some of today’s numbers were less than stellar, this was a very good report. Even at 173,000 a month, the unemployment rate will decline, so the payroll data are not weak. We are essentially at full employment and the wage gains should be sustained. Companies may be forced to move people from part-time to full-time. The secular trend toward depending more on part-timers may be slowed or even reversed as the reserve army of the unemployed/underemployed keeps shrinking rapidly. The alternative is to start paying up for new workers, which few firms still think is necessary. And it is unclear how many of those still looking for full-time work have the requisite skills to fill the openings. So forget U-6 and discouraged workers and participation rates falling (which it has been doing since April 2000!). This labor market is tight. Period. So, what will the Fed do? Wages are rising, incomes are growing and full employment is here. There is no labor market weakness for the Fed members to fall back on. Was this report strong enough to force a rate hike in September? No. Is it strong enough to support one? Yes. Will the Fed raise rates in September? I think they should and I expect they will, but this Fed has done a great job of obfuscating its intentions, so who knows?

August Non-Manufacturing Activity, July Trade Deficit and Weekly Jobless Claims

KEY DATA: ISM (NonMan.): -1.3 points; / Trade Deficit: $41.9 bil. ($3.3 bil. narrower)/ Claims: +12,000

IN A NUTSHELL: “The U.S. economy is showing no signs of slowing down despite the problems in Asia.”

WHAT IT MEANS: As we head into tomorrow’s “all-important” employment report, other data are painting the picture of a U.S. economy continuing to forward, even as stock prices bounce wildly. The services and construction portion is actually doing quite well. Yes, the Institute for Supply Management’s reading of business activity for the non-manufacturing segment fell a touch in August. The level is still one of the highest we have seen over the past decade (July was the peak) and it beat expectations. New order growth eased just a touch and activity and hiring moderated, but order books still fattened. Basically, activity was very strong but not quite as robust as it was in July. That is hardly a cause for concern.

The turmoil in China has raised questions whether our export growth can be sustained. Well, so far, so good. Exports increased again in July, helping create a solid decline in the trade deficit. Almost all major categories posted gains, led by a solid rise in vehicle sales. Foreign demand for our food, capital goods and industrial supplies also help up nicely. Our imports were down, though. That is normally not a good sign as it raises questions about domestic demand. However, most of the drop came from 15% declines in pharmaceuticals and cell phones. Such a huge change in just one month was likely due to special factors, not economic trends. Imports of capital goods, industrial supplies and even consumer goods excluding those two industries were up. There was also a large fall in food imports, but it is doubtful people suddenly went on a diet because the economy weakened. Meanwhile, we bought lots of foreign vehicles, a sign of economic strength. Adjusting for inflation, the trade deficit started off the quarter down so maybe it will not restrain growth much this quarter.

Two other releases point to continued tight labor market conditions. Weekly jobless claims popped a bit last week, but the level is still in the strong job growth territory. Challenger, Gray and Christmas reported that August layoff announcements fell sharply from the defense cutback elevated July level. So far this year, layoff notices are up 31%. However, the entire rise could be assigned to increases in defense and the oil sector, which are special situations.

MARKETS AND FED POLICY IMPLICATIONS: The economic data and the stock markets are diverging, demonstrating once again that we shouldn’t confuse Wall Street with the economy. The U.S. remains the rock upon which world growth can build on and the exchange rate race to the bottom that is being led by the Chinese shows how everyone else recognizes that reality. But tomorrow is another day and another jobs report, so the best thing for investors to do is show some patience. Maybe, just maybe, the employment data will provide the clarity that the Fed members seem unable to communicate.

August ADP Jobs Estimate, Help Wanted Online and Revised 2nd Quarter Productivity

KEY DATA: ADP: +190,000/ HWOL: +34,200/ Productivity: +3.3%; Unit Labor Costs: -1.4%

IN A NUTSHELL: “Businesses are still hiring, but it is not clear if Friday’s jobs report will give the Fed either an “all-clear” or a “let’s go slow” signal.”

WHAT IT MEANS: Yesterday, I commented that I hoped the jobs report would be strong enough that the Fed would have all the cover it needed to start raising rates. The one thing I didn’t want was a mezza mezza report that left everyone in Neverland. Well, if you look at today’s employment related data, it is likely Friday’s employment report could be not too hot or not too cold, which would make it not just right. ADP’s monthly estimate of private sector August job gains was a little less than expected. It points to a decent, but not great report. Ugh! Construction firms ramped up but manufacturers added positions at a more moderate pace. Looking across company size, there was decent gain in small and mid-size companies but large firms didn’t hold up their end of the bargain. The 500,000 to 1,000,000 employee group continues to disappoint. It is the only one of the major size divisions that hasn’t regained all the jobs lost to the Great Recession. I guess that is not the sweet spot to be in, but I don’t know why.

Looking forward, the Conference Board reported a decent but not great rise in the number of online help wanted ads. After cratering in June, there has been a steady rebound, but online ads are still below the May total. Taken together, the ADP and Conference Board’s reports show an economy that is adding jobs at a pace similar to what we have seen for most of this year.

Business productivity soared in the second quarter and labor costs declined sharply. The huge upward revision to second quarter GDP drove the improvement from the initial estimates, which showed rising labor costs. But these data are very volatile and looking at the change from second quarter 2014, productivity remains weak while labor costs are rising.

MARKETS AND FED POLICY IMPLICATIONS: Today’s reports really didn’t provide either Fed members or analysts with any reason to change their thinking on a September rate hike. Friday will come soon enough but right now, it doesn’t look like Fridays jobs numbers will be a game-changer. The numbers may have to be viewed with some caution, as the late Labor Day weekend could influence the seasonal adjustments. Investors may have to wander in the wasteland created by Fed bickering and dithering. The members are struggling with the communication process so I have a suggestion: Make the change in October when there is no press conference and no chance of further confusing everyone. Just kidding – I think. As for the equity markets, was anyone aware of how far the Shanghai index rose? It was up by over 130% in nine months. Even with the recent collapse in prices, it is still up 40% over the year. Should we be worried about a market that has posted a 40% gain in a year or should we have been screaming there was a bubble that had to burst when prices skyrocketed? I like to talk about efficient markets being irrational. That is a case in point. Keep that in mind as you watch your investments bounce around like yo-yos.

August Supply Managers’ Manufacturing Index and July Construction and Home Prices

KEY DATA: ISM (Manufacturing): -1.6 points; Orders: -4.8 points/ Construction: +0.7%; Private: +1.3%/ Home Prices (monthly): 1.7%; Year-over-Year: +6.9%

IN A NUTSHELL: “A deceleration in the manufacturing sector points to slower growth in the third quarter even as housing, construction and vehicle sales remain strong.”

WHAT IT MEANS: The economy’s yin and yang can be clearly seen in today’s data. On the dark side, the Institute for Supply Management reported that manufacturing activity continued to moderate in August. Growth continued, but it wasn’t particularly fast. What concerned me the most was the sharp deceleration in orders. The index hit its lowest reading in over two years. Export demand continues to fade as well, highlighting the problems created by a strong dollar and questionable Chinese growth. Hiring also moderated, but that component has not been really strong for a while. About the only good news in the report was that order books thinned at a slower pace. However, backlogs continued to drop.

While manufacturing seems to be having issues, other portions of the economy are still strong. Construction boomed in July on top of a robust June gain. Both private residential and nonresidential building activity boomed during the summer. Indeed, there were increases in almost every sector, interestingly, including manufacturing. Since July 2014, private sector construction was up nearly 17%.

The sharp rise in residential construction is being matched by strong increases in home prices. CoreLogic reported a robust gain in July not just over the month but also since July 2014. Price gains are once again accelerating, a sure sign of housing market strength.

MARKETS AND FED POLICY IMPLICATIONS: Investors are trying to make some sense of the Chinese economic data but until we have confidence that the data are anything more than trend indicators, we will not know how hard a slowdown China is facing. Hopefully, investors will now recognize what most of us have known but been unwilling to admit: The Chinese data are questionable given the difficulty to collect data accurately in a country that large and underdeveloped and the political needs of the government. So take anything that comes out with a bucketful of salt. Uncertainty about data for the second largest economy in the world cannot be good for the markets. Yet the U.S. economy continues to move forward. Manufacturing is slowing, but domestic demand remains strong. Indeed, it looks like August vehicle sales pace could come in at a better than expect 17.4 million sales pace. With families buying houses as well, we should see an upturn in the demand for manufacturing goods that go into building those products. The U.S. economy can sustain a solid growth rate unless the situation in Asia is a lot worse than expected. Investors need to separate the international companies from the domestic ones. And the Fed has to recognize that stock price changes and the domestic economy are not one in the same. Unlike the 1990s, when irrational exuberance reigned, households are not reacting rapidly to changes in wealth. They know better, sadly. Friday we get the jobs report and hopefully it is clear-cut. We need something that sets the tone and I am hoping for an unambiguously strong one so the Fed has cover to raise rates. I believe they should do that right away.