All posts by joel

July Home Builders Index, Philadelphia Fed Manufacturing Survey and Weekly Jobless Claims

KEY DATA: NAHB: 60 (unchanged)/ Phil. Fed: -9.5 points/ Claims: down 15,000

IN A NUTSHELL: “The housing sector is moving to the forefront and if manufacturing can ever get its act back together, this economy could really accelerate.”

WHAT IT MEANS: The economy continues to expand at a moderate pace even as we would like to see it grow more rapidly. One of the factors in this decent but not great expansion has been a rotation in sector leadership rather than broad based growth. Housing has been a laggard, but that looks like it is changing rapidly. The National Association of Home Builders/Wells Fargo Housing Market Index is now at a level not seen since November 2005. From January 2001 to December 2005, the housing bubble period, the index averaged 63. Given that the current reading is 60, it appears that builders are getting bulled up once again. We are not talking a new bubble here, but we are looking at significant gains in activity, especially in the single-family segment. Also, it looks like the long-suffering Northeast will be seeing a lot more construction as that region’s index has finally broke into the black.

While housing is coming back, manufacturing continues to decelerate. The Philadelphia Fed’s manufacturing index dropped sharply in July. The sector is still growing, but not strongly. And with backlogs going nowhere and payrolls largely flat, it doesn’t look as if manufacturers in the Philadelphia region will be ramping up production soon. Confidence about the future is picking up, but it is still below recent high levels.

On the labor market front, last week new unemployment claims jumped, raising questions about future job gains. Well, never mind. This week, most of the rise was wiped out. While the level is still a touch higher than it had been for much of the past year, it is now back to where solid job gains should be expected.

MARKETS AND FED POLICY IMPLICATIONS: Fed Chair Yellen keeps repeating that a rate hike is coming, probably this year. She also keeps warning that the first one doesn’t matter: It is the pathway going forward that is critical. But markets keep focusing on hike number one and the data keep telling us that it is unclear which meeting this year it will occur. I have not ruled out September, as I believe the labor market data, including compensation gains, will be strong enough to convince the members that the economy can absorb a rate hike. In particular, follow the compensation numbers reported in the quarterly Employment Cost Index. Second quarter data will be released on July 31st. These data are much more comprehensive than the monthly hourly wage numbers and have been accelerating.   If that pick-up continues, and the unemployment rate falls even a little over the next two months preceding the September 16-17 FOMC meeting, the Fed could consider making its first move then. As for investors, when you get divergent economic numbers, the best thing is to punt, especially since earnings are coming out.

June Producer Prices, Industrial Production and 2nd Quarter Workforce Vitality Index

KEY DATA: PPI: +0.4%; Goods: +0.7%; Services: +0.3%/ IP: +0.3%; Manufacturing: 0%/ WVI (Year-over-Year): +4.1%

IN A NUTSHELL: “Manufacturing remains sluggish but with business costs rising the labor market tightening, the Fed remains on track for a rate hike this year.”

WHAT IT MEANS: One of the sore spots with the Fed is the continued underperformance of inflation. I know that sounds weird, but having inflation at a reasonable level, which means neither too hot nor too cold but just right, is one of its two mandates. The FOMC has said that 2% is the target and that is nowhere in sight. Yesterday we saw that import prices remain tame and that should restrain consumer costs. Today, however, we see that wholesale prices are starting to pick up. Yes, energy is a factor and it looks like we could be in for another down leg on those costs, but even excluding energy, producer prices are finally accelerating a bit. And the bird flu’s impact on food costs cannot be dismissed as wholesale egg prices skyrocketed. But even excluding food and energy, the cost of producer goods was up. Indeed, the special index personal consumption goods excluding food and energy has risen 1.5% over the year. That is not high, but it is clearly moving back toward levels that the Fed can live with. On the services side, we are also seeing a touch of acceleration. Don’t forget that services are nearly two-thirds of the total Producer Price Index.

One major disappointing segment of the economy has been the manufacturing sector. Manufacturing output was flat in June, the second consecutive month of no gains. Second quarter production rose at a meager 1.3% annualized pace – not good. That said, the details were less discouraging. The June number was depressed by a large cut back in vehicle assemblies. Given the strong sales, that should reverse. There was also a solid rise in business equipment production, another positive sign. Excluding vehicles, manufacturing activity was up solidly, so we should probably discount the headline number.

The Fed is also concentrating on the labor market. ADP’s second quarter Workforce Vitality Index show the labor market improved from its first quarter slowdown. Importantly, hourly wage gains are accelerating, as are turnovers. The issue of retention has not been a major concern for employers for this entire decade but that could be changing rapidly.

MARKETS AND FED POLICY IMPLICATIONS: Today, Fed Chair Yellen again tried to soften up the beaches by reiterating we are on track for a rate hike this year. If don’t believe that and it happens, shame on you. Today’s data help her out. On inflation, she is not saying that the rate has to be at 2% for the FOMC to start hiking rates. She has said it must be making progress for that rate to be reached in the “medium term”. She can wait probably up to a year. A tightening labor market where wages are rising faster would help create the belief that would happen and the ADP report points to that reality. And if we really examine the industrial production data, it is not that bad. So, taken together, today’s data support the Fed Chair’s message that the economy can support a rate hike.

June Retail Sales, Import and Export Prices and Small Business Optimism

KEY DATA: Sales: -0.3%; Excluding Vehicles: -0.1%/ Import Prices: -0.1%; Nonfuel: -0.2%; Export Prices: -0.2%; Farm: -1.5%/ NFIB: -4.2 points

IN A NUTSHELL: “With consumers not buying, inflation decelerating and small businesses worried, the greatly expected second half boom may turn out to be a little less robust.”

WHAT IT MEANS: While not all economic indicators were showing a rapid recovery, there were many signs that the economy was really picking up some speed. Well, it might be time to sit back and rethink this a bit. May retail sales were robust and while June vehicle demand was strong, it was below the huge May sales pace. So most economists, including myself, expected consumer spending to grow minimally in June. Well, it didn’t. Instead, demand declined, even when vehicles were excluded. Sales at electronics, appliances and general merchandise stores were pretty solid, but demand for furniture, clothing, building materials was off, we didn’t buy anything online and we didn’t go out to eat. Weird. Worse, gasoline purchases rose and that was likely due to a rise in prices. In other words, this was not a very good report.

The gap between the Fed’s inflation target and the inflation rate has been widening slowly and today’s import price report indicates that trend could continue. Import prices fell in spite of an increase in energy costs. Food costs dropped sharply, while consumer and capital goods as well as vehicle prices were flat. Only energy related products showed a rise. On the export side, prices fell as well and the long-suffering agricultural sector continued to see its prices drop.

As for small businesses, confidence took a major hit last month. It had risen back to normal levels in May, but it seems June was a bummer, reflecting the lack of consumer spending we saw in the retail sales report. Firms didn’t hire anybody and kept wages stable.

MARKETS AND FED POLICY IMPLICATIONS: Today’s reports were disturbing as they point to an economy that may not be picking up as much steam as seemed to be the case. Why the downturn in consumption occurred is baffling. Plenty of jobs are being created and confidence picked up, so why households stayed home is unclear. With the FOMC meeting in two weeks, reports that show modest consumer spending and moderating inflation play into the hands of those who want to push off hiking rates. No one expects the Fed to do anything at the July meeting, but there was the possibility that the Committee would signal that the economy was strong enough to absorb increases in rates. That may not occur. Even if it doesn’t, a September rate hike cannot be ruled out as we get two more jobs report before then, but they will have to be strong. As for the markets, who knows what will drive activity today. The weak reports would normally be taken as a positive for stocks as they could delay the inevitable. There is also the Iran agreement and that would point toward lower energy costs. Regardless, we need the consumer to get back into the game and soon.

June Manufacturing Activity, Jobs, Layoffs and Help Wanted

KEY DATA: ISM (Manufacturing): +0.7 point/ ADP Jobs: +237,000/ Layoffs: +3,808/ Help Wanted: -144,300

IN A NUTSHELL: “Manufacturing is starting to recover and with job gains strong, the accelerating economy looks like it is picking up even more steam.”

WHAT IT MEANS: Today we had a data dump as everyone rushed to beat the long July 4th weekend. For the most part, the numbers point to a pretty solid economy and the potential for a very good payroll number tomorrow. Let’s start with the Institute for Supply Management’ June Manufacturing report, which rose to its highest level since December 2014. Yes, it is still below what we saw in the second half of last year, but rising is better than falling. Importantly, new orders are rising solidly and that is leading to better hiring. The report did have its warts. Production moderated, backlogs eased and export demand moderated. Still, this report furthers the belief that the industrial sector’s problems are fading.

As for the labor market, there was one really strong report and two warning flags. First, the good news. ADP’s estimate of June job gains was well above expectations. Small businesses are adding workers like crazy and mid-sized firms are hiring solidly as well. However, large companies, especially those with more than 1,000 workers are not adding to payrolls very rapidly. Mergers, acquisitions and the strong dollar are likely the reasons that these companies are not doing much. Still, the ADP number has been underestimating national job growth and if that pattern persists, we could be looking at an employment increase in excess of 250,000 (I have been at 252,00). It is also likely that the unemployment rate will tick back down to 5.4%.

While job gains should be strong in June, going forward, the increases may be more moderate. Challenger, Gray and Christmas reported that layoff notices rose in June and were up by 17% during the first half of the year compared to the same period in 2014. The energy sector has been the reason for the increase but the large declines seem to be behind us. But other sectors are still cutting and it is unclear why. Also, the Conference Board’s Help Wanted OnLine measure dropped, pointing to a slowing in openings. Still, job openings are extraordinarily high, so I don’t expect any major moderation in hiring.

MARKETS AND FED POLICY IMPLICATIONS: The economy has shifted back into solid growth mode. The strong payroll gains in the small business sector point to broad based growth. Wage gains have been solid and consumers have the means to spend. Clearly, they have the confidence to buy more.   Yesterday’s sharp rise in the Conference Board’s Consumer Confidence Index clearly says that. The May construction report was also strong and that, in conjunction with a recovering manufacturing sector implies that all components of the economy are now moving forward. Greece may be dominating the news but tomorrow the jobs report will hold sway. A strong June jobs number would make it clear the economy can absorb a rate hike and the Fed can move at any time it wants. Indeed, a reasonable resolution of the Greek impasse could mean the green flag will go up at the July 28-29 FOMC meeting.

May Pending Home Sales

KEY DATA: Sales: +0.9%

IN A NUTSHELL: “With households signing contracts to buy homes at a growing pace, we should see even better housing sales in the months ahead.”

WHAT IT MEANS: The housing market just keeps getting better. The National Association of Realtors Pending Home Sales Index, a leading indicator of existing home sales, rose solidly again in May. The index is up over 10% between April 2014 and April 2015 and has clawed its way back to its April 2006 level. For the first five months of the year, pending home sales were up by a very solid 7.3%. The May increase was not spread evenly across the nation. The Northeast, which has been lagging, had the best gain. There was also a solid rise in pending sales in the West. However, there was a slowdown in activity in the South and the West. Still, except for the Northeast, the three other regions have shown strong increases in activity over the first five months of the year compared to the same period in 2014.

Texas has been hit hard by the decline in energy prices but the free fall may be ending. The Dallas Fed’s Texas, while still negative, moved up solidly in June. Declining output in the oil patch has cast a pall on the industrial production numbers nationally and if slowdown is fading, that should lead to better national manufacturing data.

MARKETS AND FED POLICY IMPLICATIONS: All eyes are on Greece right now so almost any U.S. economy except the most important ones are likely to be put aside by investors. Why anyone should be shocked if Greece defaults is beyond me, but I have said the same thing about the Fed raising rates. Markets may be efficient, but not necessarily rational. And that is important to remember when it comes to Fed policy. The housing numbers are showing that this sector is getting better. To the extent that rising prices will bring forth more supply and ultimately even more sales is good, at least for a while. On Thursday we get the June employment report and that is likely to be very good, though not as strong as the May one. A decline in the unemployment rate to 5.4% would put it almost at the Fed’s full employment level. Another good gain in wages would show that the tight market is doing what it should be doing: Allocating scarce labor resources through the pricing mechanism. Rising incomes imply that consumption should improve even more going forward as well. In other words, by the end of this week, it should be clear that the U.S. economy is strong enough to absorb a rate hike. So, should the Fed try to save irrational investors who have decided to wait until they see a Greek default or a Fed rate hike before doing anything? I may be in a minority believing they shouldn’t, but investors have had the information to make rational portfolio decisions for quite a while now and it is not the Fed’s job to bail them out if they don’t do that. We talk about moral hazard and the Fed should not keep creating additional moral hazard. Boy it is good to get that off my chest. Basically, I think the Fed should start raising rates and stop acting as the not so invisible hand covering up for irrational investors in the equity, bond, currency, housing and whatever other market it is supposed to be protecting.

May Spending and Income and Weekly Jobless Claims

KEY DATA: Consumption: +0.9%; Income: +0.5%; Inflation: +0.3%; Excluding Food and Energy: +0.1%/ Claims: +3,000

IN A NUTSHELL: “Consumers have the money to spend and they are doing just that.”

WHAT IT MEANS: Another day, another day of good economic data. Oh, I have said that before. Well, I expect to be able to say that many more times. Yes, I am poking fun at the Fed’s evaluation of the economy. There are those that look into the future who are called forecasters. There are those that evaluate current data and we call them nowcasters. And there are those that can only see the past and we call them Fed members. Enough. The good news today was the income and spending numbers. Consumers went out and bought a lot of everything in May. We knew the report would be strong because of the jump in vehicle sales. But it was not just durable goods demand that was up.   Demand for nondurables was also robust and spending on services continues to be solid – even when adjusted for inflation.   So far this quarter, consumption is running at a 2.5% annualized pace. A moderate June increase would get us to 3%. With services, which is two-thirds of all spending, holding up, that is a possibility even if vehicle sales fade from their ten-year high.   Strong gains in income add to the belief that the consumer will continue to spend solidly. Income rose sharply and much of that increase came from gains in wages and salaries. Adjusting for inflation, disposable income for the first five months of the year is up a strong 3.6% compared to the same period last year. Consumption outstripped the strong rise in income and the savings rate eased. Inflation picked up, but

The tight labor market remains tight as new claims for unemployment insurance inched up last week. The level is at historic lows when adjusted for the labor force and that means hiring is likely to continue to be strong with wage gains accelerating as well. More firms are announcing they are raising the minimum wage they are paying their workers and as that trend spreads, even small businesses will have to follow or risk losing workers.

MARKETS AND FED POLICY IMPLICATIONS: People have the money to spend and it looks like they are actually spending it. The labor market is tight, wages and incomes are rising solidly so we should expect consumers to help lead the economy forward. I had commented that this report was the one on which I was focusing. It shows that on the consumer side, everything is good shape: Both spending and income are solid. The only issue for the Fed is inflation. While it is ticking up, the rate over the year is still well below the Fed’s target. As the declines in energy start coming out of the index, that will change and it would not be surprising if the overall index is running at a 2.5% pace by the end of the year. Excluding food and energy, though, the index doesn’t seem to have much upward momentum. Modest inflation and Greece are the only two things standing in the way of the Fed finally becoming a more positive about the current and future economy. Basically, the economy is strong enough if the Fed wants to move and the markets, especially the fixed income markets, need to start taking that into account.

May Durable Goods Orders and New Home Sales

KEY DATA: Orders: -1.8%; Excluding Aircraft: +0.7%; Capital Spending: +0.4%/ Home Sales: +2.2%

IN A NUTSHELL: “Businesses are investing again and the housing market is shifting gears, so why is the Fed so unsure about the economy?”

WHAT IT MEANS: And the hits keep coming, except in this case, it’s the good kind – the ones that make lots of money. The data seem to be moving to the top of the charts and while all the songs are not that great, they are making sweet music. Today, we saw that durable goods orders improved in May, though the April gain disappeared. Still, when you exclude aircraft, the rise in demand for big-ticket items was strong and the increases were pretty much across the board. Primary and fabricated metals, communications and machinery were up solidly. There was a decline in computers and appliances and electrical equipment, while vehicles were flat. Importantly, business capital spending, excluding defense and aircraft, was up solidly for the second time in three months. Still, there was a warning sign in the report: Order books are thinning. That does not bode well for a strong improvement in production.

Housing is getting better, no if, ands or buts about it. Yesterday we saw that existing home sales rose solidly in May and that result was duplicated in the new home market. While the percentage increase was not huge, it came on top of a sharply upward revised April sales pace. The level was the highest since February 2008, so we are starting to claw our way back toward more normal levels. We still have a long way to go, though. The long-suffering Northeast finally showed some strength. While total sales for the first five months of this year compared to last year are up by 24%, they are down by 23% in the Northeast. The West was also strong in May but there were declines in the South and Midwest. Interestingly – or strangely – median prices declined even though inventory is largely nonexistent. These data are volatile and given the existing home price increases, the decline will likely turn around next month.

Two other reports indicate that the economy is running strongly. The Richmond Fed’s June manufacturing index jumped while the Philadelphia Fed’s June non-manufacturing index eased but remained at a very high level. Both surveys point to strong job and wage gains.

MARKETS AND FED POLICY IMPLICATIONS: I love to poke fun at the Fed’s inability to forecast and right now, the monetary authorities are easy targets. The economy may not be soaring, but it is hard to say that conditions haven’t rebounded strongly from the winter downturn. I will wait until Thursday when the consumer spending numbers come out before I say the central bankers are clueless. We aren’t certain what households are thinking right now and while they are clearly buying big-ticket items such as homes and vehicles, they also have to doing something other than borrow money. If Thursday’s consumption report is as strong as I expect, and if the inflation data point to a continued move upward toward the Fed’s target, then there is every reason to think that at the July 28-29 meeting, the FOMC will start to signal a rate hike is near.

May Existing Home Sales

KEY DATA: Sales: +5.1%; 1-Family: +5.6%; Median Prices: +7.9%; 1-Family: +8.6%

IN A NUTSHELL: “The housing market has rebounded sharply and now looks to be a leading part of the spring economic acceleration.”

WHAT IT MEANS: Another day, another indication that the economy is in really good shape. The existing housing market was a disaster in the first quarter, as sales tanked. But that was clearly a winter issue and the rebound is really strong. The National Association of Realtors reported that existing home sales jumped in May to their highest level in 5½ years. And the details were just as good as the headline number. Demand improved in every region, led by a double-digit gain in the Northeast. Purchases of single-family homes led the way as condo demand improved modestly. We are also seeing a sizable shift in the profile of buyers, out of investors and distressed properties and into first time buyers. While the number of homes on the market rose, when adjusted for the sales pace, inventory actually declined. The shortage in homes is restraining total sales and since buyers are bidding on limited product, home prices are soaring, especially in the single-family component of the market.

MARKETS AND FED POLICY IMPLICATIONS: Second quarter economic growth is setting up to be very solid if not even strong. The indicators that had gone south in the winter are coming back in the spring. Households are buying homes and vehicles, a clear sign that they are feeling better about their financial situations. We get May new home sales tomorrow and with builders’ optimism strong, I would expect that report to exceed expectations as well. But the big number this week is Thursday’s income and spending report. We know that retail sales were robust in May but we don’t have any idea about spending on services, which is two-thirds of consumption. If that shows another decent rise, then we could be getting a strong boost to GDP growth from consumption. With household spending and housing on the upswing, the next logical domino to fall would be business investment. Since the trade deficit is stabilizing, there is hard to find any real weakness in the economy. The Fed doesn’t seem to get that yet, but ultimately the members will figure it out. By the time Janet Yellen meets the press again in September, it will be hard for her to argue that she will need more support for a rate hike. As long as Greece doesn’t create too much chaos, there seems to be little standing in the way of strong growth the rest of the year and a rate hike in September.   That should be good news for investors, at least if they love U.S. companies. Yes, it means the Fed is going to do what it keeps saying it is going to do, but a stronger economy means that domestic companies should do well going forward.

May Consumer Prices, Leading Indicators, June Philadelphia Fed Manufacturing Survey and Weekly Jobless Claims

KEY DATA: CPI: +0.4%; Excluding Food and Energy: +0.1%/ LEI: +0.7%/ Phila. Fed: +8.5 points/ Claims: -12,000

IN A NUTSHELL: “If the Fed needs confirmation that the economy is picking up steam, they got some of that today.”

WHAT IT MEANS: It is doubtful that Janet Yellen and her band of petrified monetary policy makers will throw caution to the wind and start raising rates like crazy. She made that quite clear yesterday. But she also said that the decision to start tightening, if you can call moving up from 0% to 0.25% is tightening, will be driven by the data. So, what are the data saying? On the inflation front, the disinflationary process looks like it is over. Consumer prices jumped, largely because of the rise in energy costs. Commodity prices were stagnant. Food, furniture, major appliances and apparel costs fell, but medical goods and new truck prices rose. On the other hand, the service component continues to show some gains and in May, rising airline fares led the way. Hospital services and rent were also up. Over the year, overall consumer costs were flat and core prices decelerated slightly. In other words, inflation is still not a major worry for the Fed. But with consumer costs rising sharply, real earnings fell slightly as the solid gain in hourly wages was offset by the faster rise in prices.

Philadelphia may not be the hot bed of manufacturing, but the Philadelphia Fed’s manufacturing index does tend to reflect manufacturing nationally. If the index rises, as it did sharply in early June, then that is a sign that we should be seeing a pick up in other measures, including the Institute for Supply Management’s manufacturing index.

As for the labor market, the days of modest job gains, or make that the couple of months of subpar increases, also looks to be behind us. Jobless claims fell sharply and the 4-week moving average continues to trend downward. The level is consistent with strong monthly payroll increases and I expect that to be the case during the second half of this year.

MARKETS AND FED POLICY IMPLICATIONS: The Fed made it clear that once rate hikes begin, the process will be slow. Maybe. This is a group of forecasters that are poor “nowcasters”. If you don’t like their forecast, wait a meeting (6-7 weeks) and it will change. A strong June employment report could cause the forecasts to change. They will not start raising interest rates sharply, but the implied 100 basis points a year process makes very little sense. We are starting at zero, so even a one percent increase still keeps us nearly three percentage points below a “neutral” or long-term funds rate. Yesterday, Janet Yellen sounded like I do when I try to calm my somewhat hyper cat: “Now take it easy, Gibbs, things will be fine, don’t get excited”. He does start purring, just like investors have. But I still yell at him when he starts attacking his sister and if the economy picks up steam, don’t expect the Fed to be calm. They will raise rates more frequently than every other meeting. As for now, investors are purring but that calm will not last if the data keep coming in as strongly as they did today.

June 16-17 ‘15 FOMC Meeting

In a Nutshell: “Conditions for the first rate hike have not yet been met.”

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

The FOMC concluded its two-day meeting this afternoon and the statement basically told us nothing we didn’t already know. The economy picked up from the winter downdraft but there is still a way to go before we get back to strong growth. Yes, 2015 growth was downgraded from the March forecasts, but few expected a negative first quarter at that time. It was just math. Otherwise, there was little change in the comments as the Committee kept the funds rate range the same and there was no change in its investment policy.

So, does that mean there was nothing to be gleaned from today’s news? Absolutely not. First, and maybe most importantly, most members expect there to be at least two rate hikes this year. According to the “dot chart” of forecasts, the “central tendency” is for the funds rate to be at 0.625% at year’s end. The only way to get there is if the rate hikes start in either September or October. Since there is no press conference in October (it’s that dumb press conference calendar issue again), the target month looks like September.

Chair Yellen’s press conference also provided some good information. First, she made it clear, time after time, that the conditions for a rate hike had not yet been met – but they could be soon. While the labor market has gotten a lot better, there is still some slack that needs to be taken up. A reduction in the number of people working part-time but wanting full time jobs needs to fall while wage gains and the participation rate need to rise. She seemed to think the participation concern is less of an issue now that it has stabilized.   Stronger growth, which most members expect, would resolve the labor slack issue.

Chair Yellen noted often that almost all members expect rates to rise this year. However, she tried to persuade everyone that there was no set pathway once the first rate hike occurred. She pointed out that most members expect something on the order of 100 basis points rise each year. Even with my challenged mathematical abilities, I can figure that to be a 25 basis point rate hike every other meeting. She is trying to dissuade people from assuming there had to be 25 basis point moves every meeting. I don’t believe it because at that pace, a neutral fed funds rate of 3.75% will not be reached until sometime in 2018. If it takes that long, I fear for the economy.

Okay, what is the takeaway here? Barring some negative international event, such as Greece hurting European growth, the Fed remains on track for a September rate hike. I suspect that most market participants don’t believe that. People still want to see it before they believe it. So, don’t be surprised if there is some real volatility if the Fed does what it says it will likely do.

(The next FOMC meeting is July 28-29, 2015.)