Jobless Claims and May Producer Prices

KEY DATA:  Claims: 1.54 million (-355,000); Continuing Claims: 20.93 million (-339,000)/ PPI: +0.4%; Foods: +6.0%; Energy: +4.5%

IN A NUTSHELL:  “Layoffs are slowing, but the level of people still applying for unemployment payments remains incredibly high.”

WHAT IT MEANS:  Given the surprising May jobs report and the widespread reopening of the economy, the unemployment claims and continuing claims numbers have taken on new importance. New unemployment claims declined for the tenth consecutive week, which is the good news.  However, the number of people being laid off remains extraordinarily high.  There is really nothing good about having one and a half million more people becoming unemployed.   The number of workers who are receiving unemployment checks also fell, but the level remained above twenty million, a sign that the labor market is coming back but is still hurting.  The Bureau of Labor Statistics admitted that there was a misclassification in the data and the unemployment rate should have been a lot higher ion both April and May.  Once the reopenings are largely complete, or as complete as they will get, the claims numbers have to drop below 350,000 before we can have confidence that the decline in the unemployment rate will continue unabated.  Since that is not likely to happen for quite some time, the unemployment rate could remain in double digits for much of the remainder of the year. 

Wholesale prices jumped in May, which was a surprise.  What was not that great a surprise was the jumps in food and energy.  Meat shortages led to the wholesale price of beef and veal to surge by 69% and as every shopper knows, those costs have been passed through to the consumer.  Crude oil prices (West Texas Intermediate) jumped by almost 73% in May, so the wholesale surge in energy costs also made sense.  Excluding those two sectors, though, the prices of wholesale goods were flat.  On the services side, there really was minimal inflation pressure except from airlines starting to increase their prices from the rock bottom levels they had been. 

IMPLICATIONS: In May, for the first time since the unemployment numbers were created in 1967, the number of people receiving unemployment checks (continuing claims) exceeded the number of people unemployed.  That, of course, makes no sense since you have to be unemployment to remain on the unemployment rolls.  That is the clearest indication that BLS, which produces both of those numbers, got the May unemployment report wrong.  They admitted that the misclassification of data started in March and the unemployment rate was understated by one roughly percentage point in March, five in April and three in May.  Assuming that BLS will finally correct the classification process in June, you have to use an unemployment rate of approximately 16.4%, not 13.3%, when comparing the May to June numbers.  That would be the apples to apples comparison.  Given the size of the labor force, three percentage points means about 4.75 million workers have to come off the rolls before we can cut into the reported 13.3% rate.  That could happen in June, but it also means that the decline in the rate might be minimal. 

But the real news came from Fed Chair Powell.  His press conference yesterday was a classic two-handed economist approach.  On the one hand, he made it clear the Fed would be providing massive amounts of liquidity to the system for an extended period.  The Fed’s Summary of Economic Projections (SEP) table showed the funds rate at the current level through 2022.  But then he produced the other hand.  He noted that millions of workers might never return to their old jobs, implying that getting back to February’s 3.5% unemployment rate was not likely to happen for who knows how long.  It is likely that the unemployment rate will not get below double-digits until the last quarter of the year.  The GDP growth forecast, which showed solid gains the rest of this year and next, still implied that we would not get back to the 2019 fourth quarter level until spring 2022, two years from now.  And all that is occurring without any assumption of a second wave of the virus, which the FOMC did not discount in its statement.  Basically, Mr. Powell let everyone know that the Fed will do all it can, but the best it can do is limit the damage.  That is a sobering message for investors, who were assuming that everything is beautiful and the virus was a nonevent.  We will see if politics takes over the future course of fiscal policy, as it seems to be doing.  My concern has always been what will happen when the economy has to stand on its own.  Stretching out that time frame will be up to our political leaders, which means putting politics aside.  Good luck with that.   

June 9,10 ‘20 FOMC Meeting

In a Nutshell:  “The ongoing public health crisis will weigh heavily on economic activity, employment, and inflation in the near term, and poses considerable risks to the economic outlook over the medium term.”

Decision: Fed funds rate target range remains at 0% to 0.25%.

The Fed kept rates close to zero today.  But that was not a surprise.  What observers were looking for was the tone of the message and the hints the members were sending as to how aggressive they will be going forward.  Put simply, it’s pedal to the metal for quite a long time.

During his press conference, Fed Chair Powell made it clear that there is no timeframe for when the central bank will move off of its aggressive, low rate policy.  As the report states: “The Committee expects to maintain this target range until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals.” 

But that was just a repeat of past statements.  More important was the comment that the virus could impact the economy not just in the short-term but over the next two years as well (the medium-term). Indeed, the economic projections have the funds rate at 0.1% through 2022. 

And the Fed is confident that it can keep rates down for an extending period of time because recent experience.  Mr. Powell stated and restated in his press conference that despite unemployment rates at historically low levels for an extended period, inflation remained contained.  To me, that is saying that rates don’t have to go anywhere until we are at full employment and that could take years to reach. 

While the Fed has made it clear that rates will be low for a very long time, which is good for liquidity and equity prices, we have a long way to go before we get back to where the economy was before the pandemic hit.  The forecasts for economic growth over the next three years (-6.5% in 2020, +5% in 2021 and +3.5% in 2022) imply that we will not see GDP at where it was at the end of 2019 until roughly the middle of 2022 – two years from now!  The unemployment rate is still expected to be in the 5.5% range in the fourth quarter of 2022, compared to 3.5% in February of this year.  Those forecasts are hardly great for earnings, especially given how far the markets have come since the bottom in March.

So, when it comes to equities, investors need to ponder this key question: Will liquidity or economics reign?

 (The next FOMC meeting is July 28,29 2020.) 

May Employment Report

KEY DATA:  Payrolls: +2.5 million; Private: +3.1 million; Restaurants: +1.37 million/ Unemployment Rate: 13.3% (down 1.4 percentage points); Unemployed: -2.1 million

IN A NUTSHELL:  “The road to recovery has begun.”

WHAT IT MEANS:  Boy, did we get it wrong.  It was expected that May would be the last month of really ugly employment numbers, but the moves to reopen came faster and stronger than anticipated.  Instead of another large decline in payrolls, the economy added 2.5 million jobs.  The restaurant sector, which was largely shuttered in March and April, started to reopen in May and added the most numbers of workers.  With take-out turning into eat-in this month, those gains should accelerate. Keep in mind, in February, there were 12.3 million workers in this sector but in May, the total was still only 7.6 million, meaning a lot of workers still need to be rehired.  Big increases were also seen in construction, retailing, manufacturing, health care and administrative services.  As far as weak links go, the major one was state and local governments, which cut over 570,000 workers.  The education sector was decimated and that raises serious concerns for schools in September.  As for the private sector, airlines continued to reduce employment significantly.  One final note: Despite the large addition to payrolls, there were still 19.6 fewer jobs in May than in February.  That is the hole we have to dig out of.

On the unemployment front, the news was way better than expected as well.  Despite the large number filing for unemployment insurance in May, the callbacks overwhelmed the layoffs and the unemployment rate dropped.  Keep in mind, the rate is still nearly ten percentage points above where it was in February and well above the 10% peak during the Great Recession, so we have a long way to do to get back to where we were.  The number of people employed rose by nearly four million, half of those coming from the unemployed rolls and half from people who had dropped out of the labor force.  Though the so-called “real” unemployment rate remained above twenty percent, about a third of that rate came from workers employed part-time for economic reasons. That could be due to the partial re-opening of restaurants.  The move back toward at least some eat-in arrangements should cut into that number sharply in the months to come. 

IMPLICATIONS:  The reopening of the economy is starting and the first clear sign is in employment.  Given the massive and widespread shut downs, it was assumed we would see some really big increases, it’s just that they started happening a month earlier than expected.  Don’t be surprised if the June report is even better.  Thus, those who forecast a third quarter economic decline of up to forty percent will likely be revising their numbers dramatically.  I was near the bottom of the panels with -22%, but that may be too large.  However, we knew that the first few months of recovery would be really robust.  That it came in May and June instead of later is a timing issue.  Instead of an historic, massive decline in the second quarter, it will be only huge.  That means the third quarter growth rate will be large not massive. 

I have argued over the past few months that what matters is not the third quarter growth rate but what happens once we get past the initial phase of re-openings and government supported hiring and income supports.  That is, once the economy has to stand on its own.  The continued high levels of unemployment claims and the likelihood of continued cut backs in government payrolls argues that we have to be cautious about thinking we can get back to the pre-virus shutdown economy quickly.  The extra $600 per week unemployment add-on and the business subsidies are slated to end this summer and we saw in the income report that government transfer payments have supported income growth.  This report makes it harder to argue the government should go further into debt if the economy is already recovering.  Once government support is withdrawn, though, one critical driver of the recovery will disappear and that could slow growth.  Let’s be realistic, there will be a lot of firms that have been permanently damaged or who will be operating at lower levels than they were pre-virus for an extended period. You don’t shut down an economy for two months and think there will be no long-term impacts.  Let’s enjoy the fact that we are starting to recover and the short-term looks good, but the long-term path remains uncertain.    

Jobless Claims, April Trade Deficit and May Layoff Announcements

KEY DATA:  Claims: 1.88 million (down 249,000); Benefit Recipients: +649,000/ Deficit: $49.4 billion (Up $7.1 bil.); Exports: -20.5%; Imports: -13.7%/ Layoffs: 671,129

IN A NUTSHELL:  “The reopening of the economy is reducing the unemployment rolls in fits and starts as layoffs remain extraordinarily high.”

WHAT IT MEANS:  Tomorrow may be the big day when it comes to the jobs numbers, but today’s claims report provides some texture to the data.  Initial claims for unemployment insurance moderated once again, but anything over half-million is extremely high and over a million is unthinkable.  To put the nearly 1.9 million numbers in perspective, during the same week last year, claims were 220,000.  Last weeks numbers were simply ugly and imply that firms and governments continue to cut their workforces at a rapid pace.  In May, over nine million people filed for unemployment.  But the economy is reopening and the impact of people being called back to work should be seen in the continuing claims, or total recipients numbers.  They had been coming down, but rose in the latest report.  It should be kept in mind that the recipient numbers are a week lagged, so look for the total to drop sharply next week. 

The trade deficit surged in April as exports collapsed more than imports tanked.  The economy shut down in April and that included trade.  The level of exports was the lowest since November 2009.  On the import side, the level was the lowest since November 2010.  The only import category that posted a rise was industrial supplies and that was due to a massive influx of nonmonetary gold.  I guess everyone took the cash from the stocks they sold and bought jewelry from domestic fabricators (really, I have no idea).  Imports of vehicles were down 52%.  Of course, vehicle exports were off 66%.  That sector collapsed and we see it in the trade numbers. Trade with China has also collapsed, but that means the trade deficit is narrowing dramatically.  So far this year, it is off 28.5%.  The real or price-adjusted goods deficit began the second quarter over eight percent wider and with the economy reopening, it looks like trade will be a major drag on growth going forward. 

Challenger, Gray and Christmas reported that May layoff announcements hit the second highest level since the report began in January 1993.  The highest was, not surprisingly, in April.  The key point is that firms are still cutting workers like crazy and while the May unemployment rate could be the peak, the decline could be slower than many expect. That just may be the case through the summer as the slow reopening will likely lead to firms deciding to either downsize or upsize more slowly until the true growth potential of the economy becomes clearer. 

IMPLICATIONS:Progress is being made on the labor front as the economy reopens. Though the pace has been disappointing, we should see things accelerate as we move through June.  That should limit the damage in the second quarter GDP report.  In the latest Blue Chip Financial report (of which I am a panel member), second quarter growth estimates range form -17.6% to -49.2%.  The consensus is -34%, while I am at -22%.  All of those are historic numbers, but the wide range shows how reopening is creating confusion in the forecasting ranks.  But the real issue is not so much the decline in the second quarter, but the recovery in the third and fourth quarters.  That will depend upon the pace in cutting the unemployment rate.  The Blue Chip Economic report will be released in a few days (we are just now filling that out now), and it will be interesting to see where the panel comes out on the fourth quarter unemployment rate.  I have it still around 10% and if that is the case, it will be tough to post two consecutive quarters of really strong growth even given the low level of activity from which we start.  Tomorrow, the May employment report should provide the depth of the hole we are in.  It is likely to be quite deep.

May Manufacturing Activity and April Construction Spending

KEY DATA:  ISM (Manufacturing): +2.6 points; Orders: +4.7 points; Production: +5.7 points; Employment: +4.6 points/ Construction: -2.9%; Residential: -4.5%; Nonresidential: -1.8%

IN A NUTSHELL:  “The reopening is slowing the decline in activity.”

WHAT IT MEANS:  The economy is reopening and we are starting to see the economic numbers look less ugly.  Not, they are not good, but terrible can be an improvement from horrendous, so I will take it.  Consider the state of manufacturing.  The Institute for Supply Management’s May index rose.  On the surface, that looks good and in this case, up is always better than down.  But while just about every component increased, the levels still point to massive problems in the sector.  Consider new orders, which seemed to be a lot better.  Not really.  While the percent of respondents saying demand and production improved, the percent saying orders and output were down remained above fifty percent.  What is happening is that conditions are worsening at a slower pace.  That was also true with employment. The share saying payrolls were down fell to 41% from 46% in April, indicating that lots of firms are still downsizing. 

As for construction, it is actually holding in pretty well.  Yes, activity declined in April but less than expected.  Most of the drop was in residential.  Given the collapse of starts, the drop was much lower than forecast. States had started allowing construction to resume earlier than other activities, so I don’t expect construction to be the weakest link this quarter.

Commentary: Don’t take the data at face value.

We are entering a difficult time for the data mills, which includes the government, the Fed, industry groups and those private sector companies that produce numbers.  Government actions have created special circumstances that raise questions about the true meaning of the numbers.

The first and maybe biggest issue is that the seasonal adjustment factors may be largely meaningless.  Changes in activity are likely occurring more because of states allowing activities to occur rather than normal seasonal changes. Seasonal factors cannot adjust for that.  Thus, while all of the data creators are doing the best they can, the seasonally-adjusted data they produce are suspect. The employment numbers on Friday are likely to be really ugly, but they will suffer from an inability to decipher what was going on due to seasonal changes and what was happening as a result of government decisions or economic conditions.  

The second issue, which is something only we data wonks worry about, affects certain types of measures, such as diffusion indices.  For example, the ISM report referenced above is a typical diffusion index in that it asks if the measure under consideration (orders, production, employment etc.) was better (higher), the same or lower (worse).  The difference between better and worse is calculated, seasonally adjusted and turned into an index.  Consider the case of a firm that closed down its production line in April.  That month, it reported that output declined, which lowered the overall index.  But in May, if it was still shuttered, it reported that output remained the same i.e., zero.  With a diffusion index, going from down to unchanged actually increases the index level.  That would happen despite the fact that the firm still produced nothing.  In normal times, the ebb and flow of these changes even out.  In times like this, looking at the overall index level rather than the components can be very misleading.  Unfortunately, under the current circumstances, even the data nerds who dig into those details are having trouble understanding what is happening.

The final issue is the one I mentioned in my unemployment claims report.  To the extent that government policy was designed in a way that intentionally or unintentionally masks the true nature of the data, the numbers become suspect.  If the PPP causes firms to hire people that don’t actually produce anything, and that is likely given the spending requirements, the private sector employment numbers are corrupted.  A worker gets moved from unemployment, lowering that number, and is counted as employed, raising that number.  But that worker effectively remains on the government payroll (paid by a PPP grant) and still doesn’t produce anything.  The employment and unemployment numbers are artificially improved, but nothing changed.  We have no measure of those workers, so the best we can say over the next few months is that the payroll data overstate the true state of things while the unemployment rate understates what is happening.  Keep that in mind when you see the next few months of employment reports. 

April Consumer Spending and Income and May Consumer Sentiment

KEY DATA:  Consumption: -13.6%; Disposable Income: +12.9%; Wages: -8.0%; Savings Rate: 33.0%; Prices: -0.5%; Ex-Food and Energy: -0.4%/ Sentiment: up 0.5 point

IN A NUTSHELL:  “Right now, the economy is totally dependent upon the largesse of the government.”

WHAT IT MEANS:  The horrible April data continued today as consumer spending collapsed in April.  The percentage decline was nearly seven times the previous largest drop.  You just don’t see numbers like that.  Consumption of durables, nondurables and services were all down by double digits, so you cannot simply ascribe the collapse to just a fall off in vehicle purchases.  On the income side, the numbers were totally different, but just as worrisome.  Income surged, but it was all due to an additional $3 trillion in government payments, a 90% increase.  However, wages and salaries were down nearly $880 billion, an 8% drop.  Rising income, regardless of the source, coupled with cratering spending led to a record-high savings rate of 33%.  That is nearly double the previous peak.  Households are saving for the rainy day that is already here.  On the inflation front, prices were down fairly sharply.  We started off the quarter with consumption falling at a greater than fifty percent annualized pace, compared to the level of spending in the first quarter.  That will likely moderate going forward, but it shows the huge hurdle the economy faces in getting back to more normal levels of consumption.  It also explains why some forecasters have growth declining by upwards of forty percent in the quarter.  I have been at -22%, but it is early.  Hopefully, some of the savings will be put to use in May and June and the decline will be less than feared. 

Will consumers spend more going forward?  Undoubtedly yes, but the issue is how much?  Confidence will be the key and the University of Michigan’s Consumer Sentiment Index was a disappointment.  The final May number was just a touch above the April level and was below the mid-month reading.  Current conditions were up from April, but expectations were down.  That is worrisome, as the reopening of the economy should have caused households to be more confident about the future.  So far, it hasn’t.

IMPLICATIONS: Nearly two months ago I posted my view on what I expected the recovery to look like.  I called it a “Big V little u” recovery.  That is, the third quarter would be strong, the fourth solid but afterward, the expansion would lose steam.  My biggest concern was what would happen when the economy had to stop depending upon government assistance and the private sector would have to stand on its own.  The income numbers show just how reliant the current economy is on government welfare.  Some of the savings will be spent over the next few months, but if concerns about the future that we saw in the University of Michigan’s survey continue, don’t look for a surge in demand.  Regardless, the extra funding will start running out during the summer.  What will the economy do then?  Will the federal government keep sending out checks or will the household and business welfare payments dry up?  Will state and local governments be able to keep cutbacks to a minimum or will the unwillingness to provide funding similar to what has been given to businesses and households lead to major spending and payroll reductions?  Income gains will have to come from private sector job growth that is not limited to the reopening of businesses.  We are likely to have an unemployment rate in the 10% range even at the end of the year and that means total personal income would be below where it was at the end of 2019.  These were all the points I made two months ago and the data seem to be supporting my concerns.  I am not trying to be negative; it’s just that I believe it is time to get realistic about the potential for growth over the next year, not the just next few months. 

Weekly Jobless Claims, April Durable Goods Orders and Pending Home Sales and Revised 1st Quarter GDP

KEY DATA:  Claims: 2.1 million; Insured: -3.86 million/ Durables: -17.2%; Vehicles: -52.8%; Capital Spending: -5.8%/ Pending Sales: -21.8%/ GDP: -5.0% (previously -4.8%)

IN A NUTSHELL:  “People are going back to work, but layoffs remain extraordinarily high.”

WHAT IT MEANS: The economy is opening and the PPP is kicking in, so what is happening to layoffs?  They remained above two million, a number that just two months ago would have been characterized as incomprehensible.  In this world of “what have you done for me lately”, this is likely to be viewed as “good” because it is the lowest in nine weeks.  But really, is there any reason to see something positive in this level of claims?  No.  It signals that firms and governments are still massively cutting workers.  The number of people receiving unemployment checks fell dramatically.  That, of course, was expected to happen.  As a consequence, the so-called insured rate, which is the percentage of the labor force receiving benefits, fell. 

Durable goods orders plummeted in April, but the decline was actually in line with estimates.  April was when everything shut down, so a double-digit drop was hardly a surprise.  The biggest decline was in the vehicle sector.  With sales cratering, and the assembly lines shuttered, that too was not a shock.  Conditions are changing in May, so look for things to start to turnaround in the next report.  One number, though, should be watched more closely.  The proxy for business investment spending – nondefense, nonaircraft capital goods orders – fell significantly.  It is not clear if, when or why this measure will turnaround. 

The National Association of Realtors reported that pending home sales, a measure of future existing home purchases, fell sharply in April.  That does not bode well for the spring sales numbers.  The largest drop was in the Northeast, where signed contracts fell by nearly fifty percent.  But the declines were fifteen percent or more in the other three regions, so you can say that the weakness was widespread. 

First quarter GDP was revised downward a touch, but the new number doesn’t change anything.  It really doesn’t matter if we are talking about a drop of 4.8% or 5%, activity fell sharply in the first quarter.  What is important is that the hole we are digging turned out to be a little bit deeper than initially thought. And with second quarter GDP likely to be down at least 20%, even with the economy reopening, it could take two years to get back to the fourth quarter 2019 GDP level.     

IMPLICATIONS: We are entering the confusion stage for the employment and unemployment numbers.  Reopening of the economy is taking people from government payrolls to private sector payrolls, which is good.  But the PPP is creating problems with understanding what exactly is happening.  As I noted in my many criticisms of the PPP, the requirements of hiring back a high percentage of form employees, whether they were needed or not, would hide the true state of unemployment.  Those workers who are rehired to meet the PPP requirements but who essentially do nothing, are still functionally unemployed.  But for statistical purposes, they are considered to be employed.  That artificially lowers the unemployment rate without raising production.  It also artificially raises the payroll numbers.  I am pretty sure that obfuscating the true state of the labor market was an intent of the law, as it only made it difficult for firms to operate efficiently.  Thus, the massive drop in the number of people on unemployment doesn’t necessarily translate into a strong rise in output.It does, however, hide the true labor market weakness.  What worries me is that once the PPP deadlines are met, if the firm still doesn’t need the workers, we could see a surge in layoffs.  That would be happening even though the number of people on unemployment would have been falling for weeks.  The point is that as we move through June and start approaching the PPP deadlines, the likely decline in insured unemployment could be overstating the pace of improvement.That is what happens when politicians develop programs aimed at altering economic data, not economic reality.Indeed, if many workers are forced to leave unemployment for lower-paying, non-productive private sector jobs, consumer spending and productivity could decline.  That would wind up hurting the recovery, not helping it.  I will try to provide the necessary caveats about the data, but since we have no measure of the number of workers hired because of the PPP but who are functionally unemployed, any interpretation will be suspect.

May Consumer Confidence and Philadelphia Fed NonManufacturing Index, April New Home Sales and National Activity

KEY DATA:  Confidence: +0.9 point, Phil. Fed (NonMan.): +41.1 points/ Home Sales: +0.6%/ CFNAI: -11.8 points 

IN A NUTSHELL:  “The free fall started to stabilize in May, but the economy is in a really deep hole.”

WHAT IT MEANS:  We expected April to be the cruelest economic data month and it was.  In contrast, the May and June data should start to tell us the extent to which conditions have stabilized or maybe even turned.  One critical measure is consumer confidence and in May, the Conference Board’s Index rose a touch, which was good to see.  However, the current conditions index continued its decline, though that drop was modest.  There was a slightly larger increase in expectations, which was expected given that the economy did start to reopen during the survey period.  While it was nice to see that the overall confidence index is no longer collapsing, it was disturbing to see that the percent of respondents saying that business conditions were bad rose fairly solidly and is now over fifty percent.

The May Philadelphia Fed’s NonManufacturing Index rose sharply.  But don’t look at that gain as being good.  The level of the index was coming off of record lows and remains in deep recession mode.  Also, this is a diffusion index, which does not measure levels, only relative changes.  In April, manufacturing crashed and burned.  In May, the conflagration continued. 

The good news today was that new home sales actually increased.  That was totally unexpected.  Even though many states allowed construction to continue, it was expected that sales contracts would drop. Demand was up in three of the four regions with only the West reporting a decline.  The other eye-opener in the report was the 8.6% drop in prices.  It is hard to really know whether this represents builders having “fire” sales (pardon the pun) or just a shift toward lower priced homes, but the decline was quite large. 

The Chicago Fed’s National Activity Index plunged in April.  This is a very broad measure as it includes eighty-five indicators and it signaled that the downturn was spread across the entire economy.  That should not surprise anyone, but it will take a lot just to get us back to expansion mode from deep recession mode.

IMPLICATIONS: It was good to see that consumer confidence has stabilized.  Given that every state is now starting to reopen, the outlook for the future should improve solidly in the months to come.  At least for the next few months, it is the measures of current conditions that may matter more.  If they start improving significantly, it would be a sign that households are ready to spend money.  Modest improvements, though, would be warnings that consumption may not surge and that would mean a more tepid recovery.  Meanwhile, investors are more focused on vaccine issues than the economic data.  Anytime hopes for a vaccine being found by year’s end rise, the markets soar.  But as I have noted, it could take up to two years to get back to where we were at the end of 2020.  That should factor into earnings potential, since one assumes that the level of activity has something to do with the level of potential earnings.  Yet the S&P is back to late October 2019 levels, when investors were factoring in decent growth this year.  (It is also back to early March, but that was when the markets were collapsing.)  So, does earnings growth or do earnings levels matter?  Ask investors. I’m just an economist who teaches corporate finance and theory and practice don’t seem to be in synch to me.  Also, part of today’s rally is likely due to Dr. Fauci saying last week:  “I think it is conceivable, if we don’t run into things that are, as they say, unanticipated setbacks, that we could have a vaccine that we could be beginning to deploy at the end of this calendar year, December 2020, or into January, 2021”.  Man, he sounds just like an economist, hedging his forecast in every way possible. Let’s hope he is close to being right.     

April Housing Starts and Permits

KEY DATA:  Starts: -30.2%; Year-to-Date: +7.6%; 1-Family: -29.4%; Multi-Family: -40.1%/ Permits: -20.8%; Year-to-Date: +3.7%; 1-Family: -24.3%; Multi-Family: -14.2%

IN A NUTSHELL:  “The housing market has taken a big hit, but don’t count it out just yet.”

WHAT IT MEANS:  As expected, home construction faltered in April.  Multi-family projects were cut back more than single-family, but both were down massively.  Regionally, the differences were fairly large, though every area posted a decline. Starts fell by “only” 14.9% in the Midwest, were off 26% in the South and cratered by over 40% in both the Midwest and Northeast.  But these data need to be put into perspective.  Construction was really strong going into the pandemic and the total number of units started during the first four months of this year was still up sharply over the same period in 2019.  That was in spite of two months of huge declines.  The only area where activity was down during the first four months was in the Northeast and that decline was modest.  Looking forward, permit requests were not off as much as starts and the gap between the two grew dramatically.  As I have noted in the past, builders don’t pay for permits just to have them sitting around.  Indeed, homes permitted but not yet started were down from the April 2019 level, so there is not a great backlog. From the peak set in January, April housing starts were down 45%.  That provides lots of room for improvement, especially since permit requests were off only about 30%.  So look for activity to rise going forward.

IMPLICATIONS:The housing market was leading the way until the pandemic shut things down.  Where it goes from here is not totally clear but it is likely that April was the cruelest month for this sector as it was for just about every other one in the economy.  Mortgage rates are down to historic lows and demand seems to be reviving.  But the problem is buyer uncertainty about making a purchase in this environment.  That consists of both the willingness to visit homes and the ability or readiness to commit to the largest purchase they make.  Listings are dropping like rocks and it is not clear that virtual tours do it for many or even most buyers.  That is less of an issue for new-home buyers, but still a concern. Starts were at such a low level in April that it is still likely that residential construction will be off by at least 25% this quarter and it could take a year or more to get back to the January peak pace.  Meanwhile, back in the markets, investors keep searching for the positive and are largely dismissing the negative as being a remnant of the past.  That is what has powered the massive upturn, not any hard evidence that a vaccine will be ready anytime soon or that opening up in the random way we are doing it will be safe.  Hope may run eternal, but it is reality that counts.  Here is a story I like to tell.  In the early 1980s, I attended a U.S. House of Representative hearing on oil shale production.  An industry representative was asked how long it would take to start producing oil.  Remember, the country was desperate for domestic supply given the oil embargoes of the seventies.  The answer was, if everything goes right, about twelve months (at least that is what I remember).  Nearly forty years later, we are still waiting.  Actually, we no longer care.  There is nothing wrong with hoping for the best, but it is always best to plan for the worst.  I am not sure investors are doing that.  They seem to be hoping for the best and planning for even better.

Weekly Jobless Claims and April Import and Export Prices

KEY DATA:  Claims: 2.98 million (down 195,000); Continuing Claims: 22.83 million (up 456,000)/ Import Prices: -2.6%; Fuel: -31.5%/ Exports: -3.3%; Farm: -3.1%

IN A NUTSHELL:  “New unemployment claims remain at extraordinarily high levels and the modest decline points to an extended deterioration in the labor markets.”

WHAT IT MEANS:  New claims for unemployment insurance eased a touch last week, but the deceleration in the rate of filings was disappointing.  The level remains in the three million range and has been there or above for eight weeks now.  Over that time period, 36.6 million people have filed for unemployment compensation.  Not every person who files receives compensation and right now only about sixty percent who have filed have made it onto the rolls.  It looks like there is a major backlog that states still have to get through.  That is bad news but also good news.  Too many households don’t have money to spend, but once they start receiving the checks, consumption should pick up.  Maybe more importantly, as the backlogs disappear, the continuing claims number could take center stage.  With the economy reopening, that number will provide a weekly indication of how well the back-to-work process is reducing the number unemployed.

Prices for lots of things keep coming down, at least that is what the government data claim.  Import prices dropped sharply in April, but as we saw with consumer and wholesale costs, most of that was in energy, where prices simply cratered.  Imported consumer goods costs were off modestly as food prices dropped.  But vehicle and capital goods prices were up.  On the export side, the farm sector continues to be battered as the prices of the goods they sell fell again. 

IMPLICATIONS:  About the only good thing about recessions is that prices generally don’t go up and often they fall.  But that is usually a short-term phenomenon that is followed by a steady recovery back to more normal inflation.  The problem facing the Fed is that its “normal” of 2% had been hard to reach since the Great Recession.  So running into a massive economic collapse cannot help in its drive to revive inflation.  Right now, low inflation is not the Fed’s number one concern.  However, while it was pretty much back to 2% earlier this year, the progress has been lost.  Since deflation is the major fear for developed nations, the focus of attention will shift quickly once the economy is well on its way to opening up completely.  Just as the peak in the unemployment rate will determine how difficult it will be to get the labor markets back to a reasonable position, the inflation rate nadir will determine the difficulty in getting inflation back to a desirable rate.  Simply put, the lower the rate, the longer the Fed will have to keep rates at rock bottom.  That is something investors should keep in mind. 

Linking the Economic Environment to Your Business Strategy