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Friday, September 7, 2018

It’s hard to poke holes in today’s non-farm payroll numbers. In August the U.S. economy added 201K jobs, the 95th straight month of job creation, and the unemployment rate remained at an 18-year low of 3.9%. Despite slight net downward revisions in June and July, this year’s average monthly gain of 207K jobs is running higher than last year’s average job gains. In addition, wage growth accelerated, up 2.9% YoY from 2.7%. But this does not necessarily foretell a spike in inflation. The recent increase in productivity (up 2.9% in Q2 and running 1.2% over the last six quarters) is an offset to higher wages. With higher productivity, employers can offer raises to workers without eroding profit margins. Markets reacted negatively to the payrolls report because it affirms a robust economy and the perceived pressure on the Fed to raise rates. Some economists have also bemoaned the lack of skilled workers as a gaping hole in the employment picture. However, there are still more than 96 million noninstitutionalized civilians between ages 16 and 64 not employed, many of whom can be enticed back into the workforce and trained to fill gaps. Please keep track of labor costs and productivity on page 65 of the Global Perspectives Book.

Thursday, September 6, 2018

It’s hard for investors to keep their eyes on the road with so many distractions. The latest political drama and intrigue, contentious Supreme Court justice hearings, and upcoming midterm elections are all investor eye candy, potentially causing them to swerve. On the other hand, the economic data – 49-year low on new jobless claims, ISM services index soaring to 58.5, productivity climbing to 2.9%, the highest in three years – should help to keep investors on the straight and narrow. Earnings are the fundamental driver of markets and now that Q2 earnings season is winding down a spectacular 25% YoY growth quarter, investors may be tempted to change lanes during the lull between reporting quarters. Letting extraneous headline events affect your investing behavior is like texting and driving. Don’t do it. Company earnings are the GPS of the global economy. Follow them. And if you need yet another reason to keep your eyes on the road, a recent WSJ article claimed you would need 130% of your income in retirement, not the often-cited 70%. Why would you need 130% of your income in retirement? Well, in order to live the high life of global travel; bungee jumping in the jungles of an exotic destination; and golfing at Pebble Beach to name a few. Please note the S&P 500 all-time high operating profits on page 21 of the Global Perspectives Book.

Wednesday, September 5, 2018

U.S. data and animal spirits continue to run high. The August ISM manufacturing report burst to a 14-year high rocketing to 61.3, up 3.2 points from July. New orders hit 65.1, running above 60 since May 2017. The Dallas Fed Manufacturing Activity and Richmond Fed Manufacturing indices also edged higher in August. The UMich consumer sentiment outperformed expectations and is holding at a 14-year high. As measured by the Conference Board, August consumer confidence hit a level not seen since the dawn of the new millennium. Q2 GDP was revised upward in ways that show continued solid growth. Nonresidential fixed investment (CAPEX) was revised higher, with imports revised downward. There are some estimates that $500bn was repatriated in the first half of 2018, so it is interesting that given the rising investment, the current account has remained moderate thus far. The July PCE report showed a supportive consumer. While the PCE deflator was up 2.3% YoY and the core was up 2.0%, it appears that inflation remains in check. The three-month moving annualized measure of the core PCE deflator is 1.9%. It’s a good situation for the U.S. – and the rest of the world as well. Globally, the August PMI run has been showing above 50. There are a few caveats: 1) Europe seems to still be ebbing, definitely down from the blistering Q4 2017 and 2) Emerging Markets are still reeling a bit. Not unexpectedly, South Africa showed a major downward bump. But, with the U.S. moving smartly, there seems to be a room for the world to get a second wind. - Special Guest Blogger: Tim Kearney, PhD

Friday, August 31, 2018

Last year we could not stop talking about the global synchronized recovery. This year the global economic outlook is still good but has become somewhat unsynchronized with the U.S. soaring to the head of the class after enacting pro-business policies. It’s not always easy being the teacher’s pet. The Fed’s interest rate hikes and the U.S. dollar strength have had global implications, especially in emerging markets. Emerging markets have seen their currencies weaken and capital outflows surge. However, in theory a weaker currency helps increase the export outlook and therefore the economy and profits in these markets. Conversely, a significantly weaker dollar would help U.S. exports and the U.S. GDP, potentially sparking cheating accusations and a trip to the principal’s office. You can’t please everyone. As we head out for a long weekend, remember the words of Maya Angelou – “Nothing will work unless you do.” But you deserve some rest too. Happy Labor Day. Please watch Karyn Cavanaugh’s latest comments about the market on CNBC.

Thursday, August 30, 2018

The U.S. consumer is the economic game changer accounting for nearly 70% of the economy. The consumer sure did its share of heavy lifting during the economic recovery helping to bolster GDP when business spending and investment lagged. More recently, tax cuts, wage gains, home price increases, scarce layoffs and market highs are keeping consumer spending strong. As a result, Q2 GDP was revised up to 4.2% and consumer confidence soared to an 18-year high according to The Conference Board. All this spending also increased the Fed’s preferred measure of inflation, the PCE Index, up 2.3% YoY, core 2.0%, the highest levels since 2012. With so much positive consumer data, it is natural for the bears to come out of the woods calling for a correction, crash, recession, meltdown, alien invasion, etc. Sure, the global trade issue is an ongoing fly in the ointment. A few steps forward after an announced deal with Mexico were met with a step back today after an affirmation of China tariffs. No one said it would be easy. Rules, discipline, diversification are investment anti-bear spray. And of course, an eye on corporate earnings which are the true driver of markets. Take a look at inflation and the PCE index on page 60 of the Global Perspectives Book and note that the Fed has been waiting many years to finally hit its inflation target.

Wednesday, August 29, 2018

Fed Governor gave an address at Jackson Hole that has been declared ‘dovish’ from many corners; I prefer to call it ‘modest’. That is, modest in its understanding of the Fed’s ability to discern the future and hence in its ability to set monetary policies. He lays out the historical shortcoming of predicting ‘stars’ that have guided monetary policy: the r* (equilibrium real interest rate) and u* (the natural rate of employment). I find the most interesting comment to be “Navigating by the stars can sound straightforward. Guiding policy by the stars in practice, however, has been quite challenging of late because our best assessments of the location of the stars have been changing significantly” In some ways, it is about as straight forward a statement there can be, yet it underscores that the Fed does not have much of a lodestar to guide policy. This does appear to be a longer-term problem for the Fed: first there was the Bretton Woods fixed exchange rate system (where as Nobel Prize winner Robert Mundell taught the exchange rate was the monetary policy rule); then came a breakdown of the Philipps Curve rules until Paul Volker broke the back of inflation thanks in large measure to monetarism. This has given way to a ‘slack’ model augmenting a neo-Phillips Curve approach. As I have written before, it is a credible monetary policy that anchors expectations. That is, if the FOMC is seen ready to take steps to keep inflation in check then businesses will move slowly before raising prices. It’s a virtuous cycle. Governor Powell cites Greenspan’s risk management rule as “if we see inflation moving, then we’ll do something”, or what is a string of ‘one more meeting, and we’ll reassess’. He places much importance on anchored expectations. He downplays the importance of slack, and notes they see no signs of an inflation acceleration above 2%, nor an ‘elevated risk of overheating’. A modest, hopeful message. One more meeting indeed.

Friday, August 24, 2018

With the market at all-time highs, many investors on the sidelines face a psychological barrier. No one wants to jump in at the peak. So investors are now questioning how long the market can climb. In short: a while. Earnings drive markets and current 25% growth levels may not be sustainable, but growth rates for 2019 are about 10%. The Fed is not worried about inflation and will raise rates very cautiously. Economic growth has been vastly underestimated. The new tax code is not merely a sugar high. U.S. GDP has shifted to a higher gear based on higher business investment. Today’s durable goods report was a miss with headline orders down 1.7% on notoriously volatile aircraft orders. However, a surge in business investment was affirmed with core durable goods orders up 1.4% MoM, 7.2% YoY and June core revised up to .9%. This bodes well for a potential positive revision to Q2’s 4.1% GDP and the Atlanta Fed just posted a 4.6% GDP estimate for Q3. Investor psychology unfortunately motivates behavior, which may be detrimental to a portfolio. There is more than $10 trillion in cash on the sidelines, barely keeping up with inflation. The current bull market’s climb is a testament to the underlying strength of the economy and earnings. Yes, there are risks but the market’s ability to plow through them in the past should increase investor confidence, not rattle them. Please see the Dalbar study regarding investor behavior on page 77 of the Global Perspectives Book.

Thursday, August 23, 2018

Let’s add housing to the wall of worry. The wall is already crowded with worries regarding Fed rate actions, dollar strength, political drama and the biggest worry of all – trade battles, particularly with China, the second biggest economy in the world. Although nationwide mean home prices rose 4.5% in July helping household wealth, many of the latest housing numbers have been less than spectacular:

  • New home sales trended down 1.7% in July to the slowest pace in nine months, although still up 12.8% year over year.
  • Existing home sales were down for the fifth month in a row and are down 1.5% from a year ago.
  • Housing starts have barely budged and the annual number of homes being built is only 1.168 million, far below the 2006 peak of 2.273 million.
  • Hindered by affordability and limited inventory, first time buyers account for only 32% of home sales.

A wobbly housing market is indeed a concern. However, demand is still strong because unemployment keeps falling and mortgage rates are not rising significantly faster. In fact, mortgage rates are down for the third week in a row. Although some potential home buyers have decided to sit on the sidelines and take a breather, it is supply that is the problem when it comes to housing. Limited supply is slowing sales, relentlessly driving up prices and reducing affordability especially for first time home buyers. The strong economic outlook will continue to fuel demand and housing price increases until supply meaningfully increases. Please view the latest housing stats on page 67 of the Global Perspectives Book and read the latest comments about the overall robust global economy.

Wednesday, August 22, 2018

Consider that the USD is up against all currencies, basically, save the JPY this month. So if we consider some conventional measures of monetary policy as expressed in the marketplace, we see that conditions have tightened: yield curve famously has been flattening, 10-year UST yields have slipped from 3% to 2.8% and commodity prices are falling. There have been no big movements in prices over the past month. ISM Prices Paid, Core PPI, Core PCE Deflator and PCE Deflator all underperformed expectations (though it can be classified as a plus/minus 0.1% YoY in the main). Clearly, US growth numbers continue to be strong which aids currencies. The Atlanta Fed GDPNow forecast for Q3 is 4.3%. ISM new orders remain at 60, capacity utilization is 78% and unemployment rate is 3.9%. The issue is stagnant wages; July real average hourly earnings were off 0.2% YoY, part of a long ebb. This is not an outlier; the Atlanta Fed Wage Tracker likewise shows stagnant wages. What to make of this? I’ll propose that dollar strength has come around as markets have digested a December hike and still strong growth. I suspect this channel will stand down. While the Fed may have room to hike in December, I doubt that the Fed will sneak in much more unless we see wages moving higher. With developed country growth continuing, the global engine is available for EM to stabilize and begin to move back higher.

Tuesday, August 21, 2018

Tomorrow the current bull market will be the longest on record. It will be 3,453 trading days without a 20% correction in the S&P500 Index. However, the current bull market is not the highest in terms of market returns. This bull market started on March 9, 2009 and is up more than 320%. The prior longest bull run was November 1990-March 2000, accompanied by returns of 417%. But the current bull market is the highest in terms of earnings growth. Earnings are up more than 1600% since the low. And earnings are not showing signs of slowing down. In fact, projections for the current year have moved up in the last month, not down. Aggressive Fed action could slow the bull but most bull markets are killed by recessions. The robust path of the U.S. economy, driven by tax cuts is breathing life into our current bull and calling an end would be premature, similar to the demise of retail that was widely broadcast last year. Lo and behold, the consumer discretionary sector is up more than 15% YTD after posting 25% earnings growth in Q2. So don’t count this bull out yet, 3,453 may just be the new 2,000. Age is just a number. Please see page 15 of the Global Perspectives Book for the history of the current bull run, which is up more than 80% from the prior peak in 2007.

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