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Thursday, May 2, 2019

The U.S. productivity growth data continue to rise. First quarter 2019 productivity growth of 3.6% well outperformed expectations for 2.2%. As we noted a year ago, “…assuming 0.5% labor force growth and a productivity growth rate of 1.3% we are looking at a potential GDP growth rate approaching 2% —before the impact from the 2018 corporate tax rate reductions…there is a real chance to take trend GDP above 2% and possibly 3%.”

With GDP growth of 3.2% during the most recent trailing four quarters, and the unemployment rate down just 0.2% during the same period, it appears that potential GDP could be higher than previously believed. Despite the tight labor market, productivity is matching employment costs. Hence, unit labor cost declined by 0.9% in 1Q19. On a year-over-year basis, nonfarm business sector output per worker is up to 2.4%. Developments in investment (hence productivity) will be important to markets in the coming quarters.

Please follow productivity on page 65 of the Global Perspectives book.

Tuesday, April 30, 2019

The S&P 500 reached historic all-time highs last week, but not everyone is convinced of the bull market’s ability to keep charging ahead. The worry is that we are in the ninth inning, but we think this game is instead a double-header. There has been some FOMO – fear of missing out – but overall fund flows do not indicate an imminent melt up. Equity flows have picked up in the last few weeks but bond flows are still far outpacing equities for the year.

Investors may be worried that stocks are overvalued; however, the 2019 forward P/E based on today’s S&P 500 price is less than 17x. While this is marginally above the historical average P/E of 15.8x between 1990 and 2018, the current level of earnings has hit a record high. There are additional signs of a double-header:

  • Q1 GDP blasted past expectations with a three-handle at 3.2%
  • Initial jobless claims (unemployment claims) are at a half-century low
  • Industrial production is still expanding with March durable goods orders surging 2.7%, the fastest in seven months
  • The Federal Reserve has affirmed that interest rate hikes are on hold, while other central banks remain accommodative
  • Inflation is still below target, with a recent core PCE reading (the Fed’s preferred measure) well below 2%
  • First quarter earnings growth — the biggest indicator — is just shy of being positive according to Lipper

The market hit all-time highs due to the plethora of good news. Remember it is fundamentals that drive markets. Please follow fund flows on page 80 of the Global Perspectives book and read the latest commentary.

Tuesday, April 23, 2019

Special Guest Blogger: Tim Kearney

As late quarter data roll through, it appears that growth momentum is to the upside. First quarter GDP growth is released on April 26th, and the consensus shifted up to 2.2% growth, within a range of 1%-2.9%. Last week the consensus was for 1.8% growth. The Atlanta Fed GDP Now forecast, which was near zero in mid-March, is now above 2%. March retail outperformed expectations. Sales ex-autos, building materials and gas stations were strong. The Leading Economic Index LEI in March increased from the near zero readings at the turn of the year. The YoY growth rate is now 3.1%, well above the annualized 0.7% six-month change, another indication of momentum. The Bloomberg U.S. National Consumer Economic Expectations index 3-month moving average seems to have stabilized at 50. Consumer Comfort index also appears to be stabilizing above the 3-month average. If momentum picks up from the 2% growth expected in the first quarter, then it should be positive for risk assets. Our expectation is that growth can run at 2.5%. It will take some time to work out, but it’s important to note momentum is shifting and supportive of markets.

Tuesday, April 16, 2019

Special Guest Blogger: Tim Kearney

Manufacturing had a difficult first quarter, perhaps the result of trade concerns. A few areas of the economy recorded weakness was. The slowdown had been presaged by Manufacturing PMI data, which have been ebbing for nearly a year. Manufacturing output in March was flat with the YoY growth rate down to 1.5%. Six months ago, the YoY growth rate reached 3.5%, its fastest pace in six years. The key to the outlook is not so much the growth rate, but rather the business investment data, as well as the following productivity data.

There has been a modest lift of the productivity growth rate over the past two years, but not enough yet to challenge the narrative that growth will sink back to the New Normal trend rate of about 1.8%. New York Federal Reserve President John Williams has warned that the economy is unlikely to return to the 4% growth rates of the 1990s, pegging potential growth at 2%. This is the state of play for the next two to three quarters. Right now, I expect that growth will continue above 2.5%, which would be a major surprise to the Fed but very positive for markets.

Please follow GDP on page 70 of the Global Perspectives book.

Friday, April 12, 2019

Fundamentals drive markets, and by fundamentals we mean corporate earnings. So it is no surprise that investors are a little jittery about earnings season, which kicks off in earnest today. Expectations are for -2.5% growth in 1Q19 compared to 1Q18. Yes, negative growth. Recall that 1Q18 earnings were given a boost by the 2017 tax cuts, and that boost has set a high bar to beat. But also consider that on January 1, 4Q18 earnings growth was initially expected to be 11.7%, and ended up at 16.9% when all was said and done a few weeks ago.

Companies slashed expectations in December on the heels of wild swings in the market and widespread fears of a global slowdown. It was a storm before the calm — those estimates may have been too pessimistic. Earnings usually surprise on the upside; because of the magnitude of the downgrade in expectations, the surprises may be higher than usual. Evercore ISI just released a note estimating 1Q19 S&P 500 earnings to be up 4.3%. We too expect growth, just not double-digit growth. The bull market might not be a spring chicken but it may still have a little spring in its step.

Stay tuned and please see the latest Global Perspectives quarterly commentary – Markets Springing Ahead, not Springing a Leak.

Tuesday, April 9, 2019

Special Guest Blogger: Tim Kearney

Was the recent growth pause a refresher? Nonfarm payroll growth averaged a healthy 180,000 per month in 1Q19; just about 100,000 are needed to keep the unemployment rate steady. March PMIs were solid with new orders up; auto sales spiked to a solid 17.5 million. The consensus for 1Q19 is edging back towards above-trend GDP growth of 2%. Which brings us to the Federal Reserve: while the GDP growth rate seems to be slowing towards trend, it is not there yet and there is a risk that both the Fed and market participants may be getting ahead of themselves with expectations for a rate cut.

The current fed funds rate is still a bit accommodative — even more so if a cut materializes within the next nine months. That would imply continuing growth at or above trend, as well as inflation moving back toward target. Hence, the Fed is going to be wrestling with the nexus of growth/inflation, which currently shows low inflation with above-trend growth. In our view, the Fed is now analyzing its target goals and has a high bar to change its current stance, but “patience” means data watching is an important element of its analysis.

Our conclusion is that the developing consensus of a pause with a cut within a year is premature. The Fed has signaled it won’t change its tone until more data come through the pipeline. If those data show continued above-trend growth, it may force the Fed’s hand, but for a good reason.

Please follow fed funds target rate and U.S. Treasury yields on page 34 of the Global Perspectives book.

Friday, April 5, 2019

Today we saw a healthy jobs report with 196,000 added (177,000 expected) and a 13,000 upward revision to February. Manufacturing was still sluggish, reflecting perhaps the drop in ISM manufacturing seen this quarter. Average hours worked was up 0.1% (good for growth), while average hourly earnings were down 0.2% to 3.2%. Assuming a personal consumption expenditures (PCE) deflator inflation rate of 2% and the current productivity run rate of about 1.8%, there should be little pressure on margins.

While the GDP growth rate seems to be slowing towards trend, it’s not there yet and the market may be getting ahead of itself. The 2.25‒2.50% fed funds rate is still a bit below neutral, assuming the Federal Reserve’s preferred Laubach-Williams measure of a 0.8% real rate premium is correct, which with the PCE target of 2%, would imply a 2.8% funds rate would be nearer equilibrium. Therefore, the Fed still appears to be a bit accommodative at present, and even more so if a cut materializes over the next 12 months or so.

I think that a pause with a cut stance is premature, though I wouldn’t expect to see the Fed change its tone until more data come through the pipeline.

Please follow employment on page 63 of the Global Perspectives book.

Tuesday, April 2, 2019

Special Guest Blogger: Tim Kearney

U.S. economic growth slowed more than initially reported in the fourth quarter. GDP advanced by 2.2% rather than 2.6%, as business fixed investment was trimmed down from 3.9% to 3.1% and consumer spending revised to an increase of 2.5% from 2.8%. A moderation of growth is not a recession and investors may be more pessimistic than warranted. Uncertainty surrounding China trade relations, Brexit negotiations and a slightly inverted yield curve will continue to weigh heavily on investors’ minds.

On the flip side, the Federal Reserve has made clear it is on hold. Recent initial jobless claims have come in close to historic lows, suggesting a robust employment outlook for consumers, the mainstay of the economy. These conflicting signals have resulted in a somewhat sideways market over the last month, after two months of strong advances. Despite the ups and downs, the S&P 500 index has gained about 20% from its lows in late December. The volatility makes market timing especially difficult.

Consider this latest study from Dalbar reported in Financial Advisor magazine on March 26, 2019:

• Investors lost 9.42% over the course of 2018, compared with a 4.38% retreat by the S&P
• In October 2018, a bad month, the S&P return was -6.84%, while the average equity investor return was -7.97%
• In August, a good month, the S&P return was 3.26%, while the average equity investor return was 1.8%
• According to its research, the average investor consistently earns “much less” than market indices suggest

Global Perspectives advocates broad global diversification to help smooth market bumps and resist temptation to time volatile markets.

Please see an example of a globally diversified portfolio on page 5 of the Global Perspectives book.

Friday, March 29, 2019

We have seen a vicious cycle of bad news, from slowing growth to nascent inverted yields curves topped with another failed Brexit plan. This has held back the equity market after its initial burst out of the gates in 2019. But is it over for the year? Is it time to sell and lock in gains? Absolutely not. There are too many good things happening that tend to get missed by the sensationalist media. For instance, U.S. GDP is at all-time record highs; as are S&P 500 corporate earnings, U.S. retail sales and U.S. industrial production.

The global economy is also powering along; it has actually more than doubled the annual $38 trillion of GDP since 2003, and stood at $84 trillion in 2018. If a few items tilted in favor of the market — such as a solid China-U.S. trade deal or even a federal funds rate cut by the end of 2019 — they could create a virtuous cycle. We believe this bull market still has legs and possible upside surprises.

Please read the Global Perspectives 2019 outlook, “The Storm before the Calm.”

Tuesday, March 26, 2019

Special Guest Blogger: Tim Kearney

As noted recently, there has been a run of disappointing manufacturing data thus far in 1Q19. This includes two consecutive monthly drops in manufacturing production, softer payrolls, PMI hitting a 25-month low and Markit PMI falling to 52.5. First-quarter GDP is likely to carry a one-handle and concerns over recession have risen. Both the Atlanta Federal Reserve and New York Fed Live Action GDP NowCasts are clocking in at a 1.3% growth rate for 1Q19. With the yield curve flat and the Fed on hold, there is concern over the direction of the economy for the balance of 2019.

This uncertainty is showing up in the NY Fed probability of recession hitting 25% (end-Feb), up from 9% a year earlier. The Voya Multi-Asset Strategy and Solutions team’s probability hit 67%, driven by the weak nonfarm payrolls data (could be revised) and yield-curve inversion (may not mean what we think). Smoothing the payrolls over three months reduces our recession probability from 67% to 51.5%, still elevated.

Nonetheless, I’d caution that it’s too early to call a recession. The NY Fed notes that the yield-curve recession signal is more like an 80‒100 bp inversion, more extreme than what we are seeing now. What’s more, the effects of extraordinary Fed policy over the past 10 years have distorted signals from the yield curve — after all, we have no precedents for gauging the effects of quantitative easing/tightening.

At times like these it’s good to look back at what has worked in the past. The Lucas critique (named for Nobel Prize winning free-market economist Robert Lucas) notes that changing the rules of the road effectively changes the outcome of the analysis — and potentially the expected impact of an inverted yield curve. For success in the markets now it’s better to follow the data, watch what the Fed is doing and monitor the continued emphasis on market economics from the Trump administration.

Please follow U.S. leading indicators on page 68 of the Global Perspectives book.


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