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Thursday, May 10, 2018

The tug of war between good news and worry is finally favoring the good news. Inflation is now out of the deflation-zone danger but it’s not too hot. Core inflation rose .1% in April, a little less than expected and held steady at 2.1% over a year ago. Interest rates are rising but they are not surging. The 10-year UST yield is still hovering just below 3%. Oil prices have rallied, helping the out of favor energy stocks regain some mojo, but haven’t pushed high enough to put a dent in consumer spending. The China trade war is on hold, as negotiations seem to be progressing. And most importantly, earnings have not peaked. In fact, in absolute terms, the second quarter dollar amount is actually higher than Q1 and estimates for Q2 growth have moved up to 19% and are likely to go higher. The bears need to hibernate for a while because it looks like most of the geopolitical news has been priced in as well. One possible piece of negative news - the Wall Street Journal reported today that beer sales are down. Oh no.

Please watch Karyn Cavanaugh's latest market comments on CNBC.

Wednesday, May 9, 2018

I read the May FOMC press report as signaling that the Fed will remain data dependent throughout 2018. I think it will take a breakout of inflation, real wage growth in excess of productivity or an investment slowdown to prompt a fourth 2018 hike. The Fed noted its policy is “symmetric” which says that the Fed will have to allow the PCE deflator to move a bit above 2% to retain credibility in its statements and intentions. The data already show that trend PCE inflation is lifting, currently at 1.8% up from the low of 1% in 2016 but still on top of the 20-year mean.
But how far above 2%? It strikes that this is more of a Fed-behavior question than a straight statistical question. The data show that 20-year mean in the PCE deflator is 1.8%, and that it is statistically “symmetric”. That is important but does not provide a guidepost to the Fed’s objectives. Frankly it is doubtful that the Fed will allow as much upside deviation as the -3% deviation in the financial crisis. I believe that the Fed’s reaction function will be data dependent. There are likely to be four gauges the Fed will consider: the headline itself (now at target); shorter inflation trends (six-month annualized rate now at 2.2%); core PCE inflation developments (currently at 1.7%); and real wage growth (at 0.9%, less than productivity growth). Taken together, there is not enough data for the Fed to become aggressive and begin to hike more than currently advertised - yet. Along with lessened ‘slack’ (low unemployment rate), there are reasons for them to be vigilant, but not enough to get aggressive. The stronger USD is likely to help contain oil prices (perhaps driven by Iran/Venezuela more than monetary policy) and hence inflation. - Special Guest Blogger: Tim Kearney, PhD

Tuesday, May 8, 2018
The unemployment rate has slowly improved in line with economic growth; recent reports and news of job growth and payrolls have continued the favorable trend.

Today the market is anxiously awaiting the Trump/Iranian deal decision and investors may have missed the latest economic good news, which contrary to investor sentiment, has been plentiful. The U.S. economy now has a record high number of 6.55 million job openings, according to the March JOLTS survey and this economy is poised for acceleration, not deceleration. The unemployment rate is at an 18-year low of 3.9%. However, the more comprehensive U6 rate, which includes discouraged and reluctant part time workers, is a 7.8% indicating there is still some slack in the labor pool. In addition, the overall labor participation rate slipped to 62.8%. These factors are holding back higher wage pressures and hence Fed fears of an overheating economy. Wages are up only 2.6% year-over-year. Sluggish productivity is also a factor holding back wage gains. This falls squarely on the business sector which until recently was skimping on business investment and capital spending. So with 6.55 million job openings, it means that for every opening, there is only 1.01 unemployed person out there seeking a position. If you are seeking a job, how can you lose? But before you start planning your office décor, companies are reporting that many job openings are going unfilled because of a skills mismatch. These skills are particularly lacking in the fields of tech, healthcare and manufacturing. Please see page 64 of the Global Perspectives Book where you can watch the steady decline in the unemployment rate from 10.0% in October 2009 to its current ultra-low levels.

Friday, May 4, 2018
Total payrolls, including all non-farm employment, have inched steadily upward with private job creation leading the way.

Yesterday, MarketWatch reported that women retire with $1 million less than their male counterparts. It makes sense that women would amass less over their lifetimes. Women generally earn less than men even in similar professions. In addition, women are less likely to gravitate toward higher paying math, science and engineering positions. But the biggest reason for disparity is most likely breaks in employment as women tend to be the caregivers for children and elderly or sick relatives. Because women live an average of 4.5 years longer, they will need to save more than men. Most retirement investors both male and female are becoming aware of the need to save early and often. However, retirement is not the finish line. The tricky part comes after retirement in devising a withdrawal strategy. Rules of thumb like the 4% rule are obsolete in this low interest rate environment. Investors needed a customized plan that incorporates individual spending needs, inflation, market volatility and tax strategies and that is quite a challenge.

Meanwhile, the labor market continues to steamroll ahead. The economy added 164k jobs in April pushing the unemployment rate under 4% for the first time since 2000. Please watch the non-farm and ADP payroll reports on page 63 of the Global Perspectives Book.

Thursday, May 3, 2018
Average hourly wages have climbed unevenly higher, and productivity gains have been inconsistent.

Yesterday the Fed acknowledged that inflation finally reached its target level of 2% and that they were comfortable around that level. Other than that, the statement was essentially a nothing burger and the Fed held steady on their benchmark rate. The Fed will be data dependent but they have been saying that for 8 years. If anything, the statement has a slightly dovish tilt by removing the phrase “the economic outlook has strengthened." This should be a positive for equities fearing higher rates. But stocks are choosing to eat a dirt sandwich by fixating on near term geopolitical risks and earnings, which are so good, investors are worried that this is good as it gets. Meanwhile wages are running hotter and while productivity ticked up in Q1, investors are concerned it is not sufficient to sustain 3% GDP growth. Through all the speculation and angst, investors are ignoring the tax cuts, which are weaving their way through the economy. Yes, the cuts immediately boosted earnings for many large companies but the growth potential will be most impactful in the small business, which is the backbone of the U.S. economy and has added more jobs to the economy since 2010 than large companies. Please watch wages and productivity on page 65 of the Global Perspectives Book.

Wednesday, May 2, 2018
China and India are growing rapidly, and China is second only to the U.S. in total economic output, while Germany’s export-driven economy is the runaway eurozone leader.

Many headlines classified Q1 GDP growth of 2.3% as ‘slowing’, but in fact, it was stronger than expected (2%), and will the economy pick up enough before the Fed shuts it down will be the tale of the tape this year and next. The four-quarter moving average of GDP reached 2.9%, continuing to build from the anemic 1.2% average ending Q2 2016. Gross private fixed investment reached 4.6% on a four-quarter moving average basis, up from 0.1% in Q3 2016 – and that is before the tax incentives hit in 2018. Consumption was stable at 2.7% on a four-quarter basis.

Perhaps a sign of confidence in the outlook, the personal savings rate continued to ebb around 3% from 6% in 2014-16. Consumers spend from their permanent incomes and from their targeted net worth. The healthy labor market (claims at a near 50-year low) and with household net worth rising are reasons enough for consumers to relax. Household net worth as a share of household income is at new record levels. Most observers on the outlook remain confident, as do I: thus far, there has been the makings of an investment rebound in the (albeit early in the process) recent data. Durable Goods were up some 9% YoY in February, factory orders were up 7.1% in February YoY, factory orders ex-transport were up 6%. Importantly, orders have been translating into shipments, with capital goods (non-defense-ex aircraft) up 9.7% YoY in February. The consensus for Q2 is heading towards 3%, with a possibility for a 3% full-year 2018. Sad to say, the U.S. economic juggernaut has not grown by 3% in a calendar year since 2005, but we are seeing the makings of a turnaround. As a reminder, the U.S. economy averaged 3.2% annual growth over the 1985-2005 period.

For more on GDP growth in the U.S. and around the world, check out page 56 of the Global Perspectives book. You can also see the long-term U.S. growth trend on page 70. - Special Guest Blogger: Tim Kearney, PhD

Tuesday, May 1, 2018
The U.S. manufacturing report has rebounded after a month of contraction; the latest eurozone and emerging markets reports also indicate expansion.

Investors are driving through fog. Sure, earnings are coming in better than expected and GDP is trending higher. But the 10-year yield is approaching 3% again and inflation has been ticking higher as seen in the Employment Cost Index’s first quarter jump of .8% and the April ISM price index rising to the highest level since 2011. Accordingly, the dollar has moved to its highest level in four months. Now the White House has delayed the tariffs on steel and aluminum for our allies for another month, which just prolongs the uncertainty. And to top it off, the Fed will be making a statement tomorrow possibly indicating more interest rate hikes. It’s natural for investors to want to take it slow. However, try to look through the fog. Earnings are an affirmation of a healthy economic backdrop. That latest ISM manufacturing report continues to show robust expansion and new orders at a lofty 61.2. It was recent higher steel and aluminum costs and lack of skilled workers that accounted for the slight reduction in manufacturing production to 57.2. Business is on an upswing. Small business optimism is soaring and M&A activity is surging. Higher inflation does not mean high inflation. Higher rates don’t mean high rates. Lower manufacturing does not mean low manufacturing. The fog may be dense, but the road is still there, just with less traffic. Please watch global manufacturing on page 9 of the Global Perspectives Book.

Friday, April 27, 2018

The first quarter is notoriously an economic disappointment. No one is really sure why first quarter GDP on average lags the other quarters. Maybe it is the severe weather throughout much of the country. Perhaps it is a consumer holiday spending hangover. Or maybe businesses are still prioritizing spending budgets. So amid all of the worry about trade wars, economic slowdown and rising deficits, markets were bracing for the grim reaper to deliver todays preliminary Q1 GDP report. However, Q1 surprised on the upside with growth of 2.3%. Consumer spending of 1.1% was notably weak, especially the purchases of goods which posted a decline. But the tax cuts and business investment more than took up the slack. Private domestic investment jumped 7.3%. Trade (yes trade) also contributed positively, with slower growth in imports and faster growth in exports. Meanwhile, earnings are also surprising on the upside. Q1 earnings growth is now forecasted to exceed 23%. Please see Karyn Cavanaugh’s latest comments on the markets.

Thursday, April 26, 2018

Earnings are coming in much better than expected – more than 80% beating expectations. Yet investors are unmoved. Revenues expectations, an indicator of the true quality of earnings, are guiding higher. Yet investors yawn. Durable goods orders surged 2.6% in March, the trade deficit for goods contracted for the first time in seven months and initial jobless claims fell to 209K, the lowest level in 48 years. Yet investors are indifferent. Investors and markets seem to be intently focused on the 10-year yield and if companies can continue to grow in a higher rate environment. Today the 10 year ducked below 3%. Phew! Investors have become so used to the ultra- low interest rates that may not realize that there have been plenty of times when yields and GDP were much higher and inflation did not blink let alone overheat. Today the ECB announced they are in a holding pattern. Global demand for U.S. Treasuries is still robust given much lower rates in other developed countries and global aging populations hungry for bonds. So higher rates are still facing some fundamental headwinds. And more importantly, earnings and the economy are accelerating. Investors are beginning to remind me of my teenage daughters – when the hair is wrong, nothing is right. Please take a look at GDP, Inflation, 10-Year Yields and Unemployment all the way back to 1975.

Wednesday, April 25, 2018
Over the past 20 years the average asset allocation investor has significantly underperformed stock and bond markets and barely kept pace with inflation.

With fiscal policy set, a key question facing the economy is, will there be an increase in trend growth? The Q1 real GDP report is set to come out on Friday (4/27), and the consensus is for 2% growth. Assuming that 2%, the four-Q average GDP growth of 2.8% is well above prior year’s 2% - and that is before the fiscal stimulus hits. The impact of better ‘animal spirits’ continues in 2018. NFIB small business optimism is holding 11% higher YoY than the pre-election levels; the UMich Consumer Expectations Index is up 13% YoY; the Conference Board’s Consumer Confidence is 12% higher YoY. Better consumer confidence supports consumption but the key to a sustained consumer boom will be rising real wages.
For productivity and the economy going forward, the key is a rebound in investment to raise the capital/labor ratio, drive productivity and lift real wages. The sequencing will be that investment incentives from the tax bill generates investment in 2018 with growth improved. So far so good, as we are seeing the makings of an investment rebound in the (albeit early in the process) recent data. ISM data have recorded a sharp rise in new orders, and while still above 60, it has tampered down a bit in Q1 2018. While a volatile series, it is both hopeful overall while the recent trend bears watching. Other orders data are positive, starting with US Durable Goods up some 9% YoY in February (next release 4/26 with a 1.5% MoM increase expected). Factory orders were up 7.1% in February YoY with ex-transport up 6%. Importantly, orders have been translating into shipments, with capital goods (non-defense-ex aircraft) up 9.7% YoY in February. It is early in the game, but the seeds are being planted. For more on business investment and GDP, please look at page 71 of the Global Perspectives book. - Special Guest Blogger: Tim Kearney, PhD

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