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   Brian Wesbury
Chief Economist
 
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   Bob Stein
Deputy Chief Economist
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  Despite a Wimpy Fed, September Hike on the Table
Posted Under: Government • Fed Reserve • Interest Rates

 

Mark your calendars for a rate hike on September 21st.  Today's statement was much more hawkish than the June statement and Esther George, the Kansas City Fed Bank President, hopped back on the dissent train in favor of hiking rates by 25 basis points at today's meeting.
 
The Fed tilted towards tightening in three areas of today's statement.  First, they said "the labor market strengthened," and that "on balance, payrolls and other labor market indicators point to some increase in labor utilization in recent months." This comes in contrast to last month, when the one off weakness of the May employment report led to a knee-jerk overreaction by the Fed as they fretted about slower improvement in the labor market.  Second, the Fed noted that "economic activity has been expanding at a moderate rate," meaning the economy continues to grow. Third, it was clear last month in Fed Chief Janet Yellen's post-meeting press conference that the Fed was worried about outside forces effecting economic growth in the U.S. (think Brexit). Today, the Fed added in extra text stating that "near-term risks to the economic outlook have diminished."
 
Taken together, we believe the Federal Reserve is starting to signal that it intends to raise rates by 25 basis points at the next meeting, consistent with the projections it made in June that it would still raise rates twice in 2016. This suggests one hike next meeting and then one at the end of the year after the election. But this is by no means guaranteed.  Today's statement stopped short of adding specific language suggesting a rate hike is imminent, like it did in October 2015, when it referred to the "next meeting" and then followed through, raising rates that December.   
 
In our view, economic fundamentals warrant a rate hike as soon as possible (we would have liked at least once already in 2016).  The economy can handle higher short-term rates. The unemployment rate is already very close to the Fed's long-term projection of 4.8% and nominal GDP – real GDP growth plus inflation – has grown at a 3.6% annual rate in the past two years.  Moreover, we are starting to see early signs of accelerating inflation.  "Core" consumer prices are up 2.3% versus a year ago, tied with the largest increase since 2008.
 
Slightly higher short-term rates are not going to derail US growth, but will help avoid the misallocation of capital that's inevitable if short-term rates remain artificially low.   

Brian S. Wesbury, Chief Economist
Robert Stein, Dep. Chief Economist

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Posted on Wednesday, July 27, 2016 @ 2:59 PM • Post Link Share: 
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  New Orders for Durable Goods Declined 4.0% in June
Posted Under: Data Watch • Durable Goods • Housing

 

Implications: Durable goods orders fell in June at the fastest pace in nearly two years.  Reason for panic?  We think not.  Aircraft led orders lower, as Boeing reported just twelve new orders in June, compared to 125 in May and 153 in June 2015.  Excluding transportation, durable goods orders declined 0.5% in June.  Orders have been relatively weak in 2016 compared to other measures of the economy, coming in contrast to continued gains in employment, rising wages, a pick-up in inflation, and positive readings from the ISM for both the manufacturing and service sectors.  What could be causing the divergence in readings? First, companies are becoming more efficient, making better use out of existing equipment.  Second, companies may be pairing back on spending due to the slowdown in global growth and uncertainty regarding international operations. If that's the case, expect orders to pick up in the months ahead as the dust settles and companies feel more confidence building for the future. The employment market shows that companies are planning for growth.  Shipments of "core" capital goods - non-defense, excluding aircraft – declined 0.4% in June, and fell at a 1.7% annualized rate in the second quarter versus the Q1 average.  This is the measure that the government uses for calculating GDP, so durable goods were a drag, but that doesn't mean that we expect GDP growth slowed in Q2. The first estimate of second quarter growth comes on Friday, and we are forecasting that the U.S. economy grew at around a 2.3% rate, a pick-up from the 1.1% annual rate in the Q1, and just slightly below the 2.5% annual growth rate seen over the past two years.  Looking forward, we expect durable goods to rebound.  Outside of aircraft, the biggest drag on orders in the past year has been machinery, but that should end soon given the rebound in energy prices.  In other words, business investment should pick up in the months ahead.  In addition, consumer purchasing power is growing with more jobs and higher incomes, while debt ratios remain very low, leaving room for an upswing in big-ticket spending. On the housing front, pending home sales, which are contracts on existing homes, rose 0.2% in June after declining 3.7% in May.  Combined, the past two months suggests existing home sales, which are counted at closing, may take a temporary breather in July after rising substantially earlier this year.

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Posted on Wednesday, July 27, 2016 @ 10:51 AM • Post Link Share: 
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  New Single-Family Home Sales Increased 3.5% in June
Posted Under: Data Watch • Home Sales • Housing

 

Implications:  The housing recovery made further strides in June, with new home sales easily beating consensus expectations and hitting the fastest pace since 2008.  Sales of new homes rose 3.5% for the month and are now up 25.4% versus a year ago.  It's important to remember that home sales data are very volatile from month to month, so let's not get too carried away, but we think there are a few reasons to expect housing to remain a positive factor for the economy in the months ahead.  First, employment gains continue and wage growth is accelerating.  Second, the mortgage market is starting to thaw.  Third, the homeownership rate remains depressed as a larger share of the population is renting, leaving plenty of potential buyers as conditions continue to improve.  And remember that, unlike single-family homes which are counted in the new home sales data, multi-family homes (think condos in cities) are not counted in this report.  So a shift back toward single family units will also serve to push reported sales higher.  The inventory of new homes rose 3,000 in June but remains very low by historical standards (see chart to right).  Moreover, the recent recovery in inventories has been led by homes where construction is still in progress, or has yet to begin.  As a result, homebuilders still have plenty of room to increase both construction and inventories.  The median sales price of a new home is 6.1% ahead of last year, which will keep builders interested.  In other housing news this morning, the national Case-Shiller price index rose 1.2% in May and is up 5.0% from a year ago.  Price gains in the past year have been led by Portland, Seattle, Denver, and Dallas.  On the manufacturing front, the Richmond Fed index, a measure of mid-Atlantic manufacturing sentiment jumped to +10 in July from -10 in June, signaling a strong rebound in activity.  Looks like the Plow Horse might be getting a spring in its step!

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Posted on Tuesday, July 26, 2016 @ 11:20 AM • Post Link Share: 
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  Fed Policy Not in Tune With Data
Posted Under: CPI • Data Watch • Employment • Government • Home Sales • Monday Morning Outlook • Retail Sales • Fed Reserve • Interest Rates

If the Fed were completely honest and transparent, its statement on monetary policy on Wednesday would be only two words:  "We goofed."

Back in June, the self-identified "data dependent" Fed walked back expectations of rate hikes with a dovish policy statement and lower projections of future rate hikes, which was odd because these changes happened despite very little change in the tone of economic data.

In reality, the Fed simply over-reacted to one bad employment report – the kind we get from time to time even when the labor market is improving at a healthy pace.  Brexit fears probably played a role, too.         

Since then, the dire Brexit fears have proved silly and economic data have clearly turned for the better.  The ISM Manufacturing index rose to 53.2 in June from 51.3 in May while the ISM Service index rose to 56.5 from 52.9.  Payroll growth surged in June, growing 287,000.  And in the past three weeks, new claims for unemployment insurance have remained below 255,000, a new consistent low reached while claims have remained below 300,000 for 72 consecutive weeks.

Worker pay is accelerating.  Average hourly earnings are up 2.6% from a year ago, which is a 30% acceleration in the growth rate from the 2.0% growth during the year ending in June 2015.  "Core" retail sales, which exclude volatile components like autos, building materials, and gas, are up 4.3% from a year ago and have risen in 15 of the last 16 months.  Tell us again about the freaked out consumer?  

Home building continues to recover.  Single-family housing starts are up 13.4% from a year ago on top of a 14.3% gain in the year ending in June 2015.  Meanwhile, price gains and low inventories of both new and existing homes signal plenty of room in the year ahead for a continued increase in home building.    

In other words, the Fed ought to be upgrading its view of the economy and the speed of rate hikes.  Especially with equities at new record highs, after mindless fear over Brexit knocked them down.  Add in the fact that "core" consumer prices (which exclude food and energy) are up 2.3% from a year ago, it's clear the Fed is actually falling behind the curve.       

Putting all this together, and given the natural inclination for government officials to save face, we're not holding our breath that the Fed will admit they could (and should) have hiked in June.  Instead, look for a statement with no great changes from last time.  The Fed will recognize the economy is better than it thought, but the language won't change much.

However, when the Fed releases the more detailed minutes from this week's meeting (on August 17th) we expect some financial fireworks.  Those minutes will show that the Fed is more confident about the economy and more willing to raise rates than is now baked into the federal funds futures market.  Right now, that market thinks the most likely outcome is zero rate hikes in 2016.  By contrast, we think the Fed is highly likely to raise rates at least once, and that the odds of two rate hikes is higher than the odds of none at all. 

Brian S. Wesbury - Chief Economist
Robert Stein, CFA – Deputy Chief Economist
  

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Posted on Monday, July 25, 2016 @ 9:36 AM • Post Link Share: 
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  M2 and C&I Loan Growth
Posted Under: Government • Fed Reserve

 

Source: St. Louis Federal Reserve FRED Database

Posted on Monday, July 25, 2016 @ 8:00 AM • Post Link Share: 
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  Stocks Will Beat Bonds
Posted Under: Markets • Video • Bonds • Stocks • Wesbury 101
Posted on Friday, July 22, 2016 @ 12:28 PM • Post Link Share: 
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  Existing Home Sales Increased 1.1% in June
Posted Under: Data Watch • Home Sales • Housing

 

Implications:  Existing home sales continued to show strength in June, posting the fourth consecutive monthly gain and hitting the fastest pace since 2007.  Sales of previously owned homes rose 1.1% in June to a 5.57 million annual rate and are up 3% from a year ago.  Moreover, in a sign of a mild loosening of lending standards (finally!), the share of first-time buyers reached its highest level since 2012 in June, helping boost sales.  This is encouraging, and we think the broader trend will continue to be upward, but there are still some headwinds.  Tight supply and rising prices continue to hold back sales.  Inventories fell 0.9% in June and are now down 5.8% from a year ago.  The months' supply of existing homes – how long it would take to sell the current inventory at the most recent selling pace – is only 4.6 months.  According to the National Association of Realtors® (NAR), anything less than 5.0 months is considered tight supply.  The good news is that demand was so strong that 48% of properties in June sold in less than a month, pointing to further interest from buyers in the months ahead.  However, higher demand from the summer selling season also helped push the median price for an existing home to a new all-time high, up 4.8% versus a year ago.  While this may temporarily price some lower-end buyers out of the market, it should help alleviate some of the supply constraints as "on the fence" sellers take advantage of higher prices and trade-up to a new home, bringing more existing properties onto the market as well.   In other housing news this morning, the FHFA index, which measures prices for homes financed with conforming mortgages, increased 0.2% in May and is up 5.6% from a year ago.  Another sign that supply remains limited and home builders have room to keep ramping up construction.  On the manufacturing front, the Philadelphia Fed index, a measure of sentiment among East Coast manufacturers, came in at -2.9 in July versus +4.7 in June.  However, more broadly, new claims for unemployment benefits declined 1,000 last week to 253,000, defying the consensus, and marking the 72nd consecutive week below 300,000. Continuing claims declined 25,000 to 2.13 million.  These figures are consistent with the kinds of job gains that should get the Fed back on track toward higher rates, possibly as early as September.

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Posted on Thursday, July 21, 2016 @ 12:32 PM • Post Link Share: 
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  Will the Yield Curve Invert?
Posted Under: Government • Video • Fed Reserve • Interest Rates • Wesbury 101
Posted on Wednesday, July 20, 2016 @ 3:12 PM • Post Link Share: 
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  Housing Starts Rose 4.8% in June
Posted Under: Data Watch • Home Starts • Housing

 

Implications:  Home building continues to be a bright spot for the US economy.  Housing starts rose 4.8% in June, beating consensus expectations. In fact, the pace of starts in the second quarter as a whole was the fastest since 2007.  While starts are 2% below a year ago, that's due to a surge in multi-family home building in June of last year, which made it the strongest month for overall home building in all of 2015.  Starts in June this year were a solid 7.3% higher than the average for all of 2015.  Moreover, the "mix" of homes being built is improving.  When the housing recovery started, multi-family construction generally led the way.  The number of multi-family units now under construction is the highest since the early 1970s.  But the share of all housing starts that are multi-family appears to have peaked in 2014-15 and single-family building is starting to climb more quickly.  This trend should continue.  Single-family building permits are up 5.1% from a year ago while multi-family permits are down 34.3%.  The shift in the mix of homes toward single-family units is a positive one because, on average, each single-family home contributes to GDP about twice the amount of a multi-family unit.  Based on population growth and "scrappage," housing starts should rise to about 1.5 million units per year, so a great deal of the recovery in home building is still ahead of us.   It won't be a straight line higher, but expect the housing sector to keep adding to real GDP growth in 2016-17.  In other recent housing news, the NAHB index, which measures sentiment among home builders, slipped to 59 in July from 60 in June.  However, 59 is still well above 50, showing that the index remains in healthy expansion territory.  More jobs and faster wage growth are making it easier to buy a home and builders are responding.

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Posted on Tuesday, July 19, 2016 @ 10:29 AM • Post Link Share: 
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  Real GDP Accelerating
Posted Under: GDP • Government • Monday Morning Outlook • Fed Reserve

Forecasting economic growth from quarter to quarter is a humbling experience. Even when you get the trend right – and it's hard to beat our forecast of Plow Horse growth – there's always a quarter here and there that will throw you for a loop. 

Trying to estimate growth in the second quarter is even tougher than others because that's the time of year when the government goes back and revises the GDP reports for the past few years.  Moreover, the government has had persistent problems seasonally adjusting GDP, tending to underestimate growth in the first quarter each year while overestimating growth in the middle two quarters.  Government statisticians say they're trying to fix that problem, but who knows how much they'll do this time.
 
With all this in mind, we're forecasting that the economy grew at a 2.2% annual rate in Q2, maintaining a Plow Horse pace.  However, there are important signs of improvement.  For example, it looks like "real" (inflation-adjusted) personal spending rose at the fastest pace in a decade.  And the key reason holding down overall growth in Q2 is an inventory correction that may end up overshooting, helping boost growth in the quarters ahead.
  
Meanwhile, the M2 measure of the money supply has grown at an 8.2% annual rate in the first six months of 2016, the fastest pace since 2012.  This is consistent with our forecast that both real GDP growth and inflation should be accelerating more than most investors expect in the next year or so, which, in turn, should be good for equities and bad for most bonds.        

Below is our "add-em-up" forecast for Q2 real GDP.

Consumption:  Auto sales declined slightly in Q2, but retail sales outside the auto sector rose at a 7.1% annual pace in Q2, and services, grew at about a 2.5% rate.  Overall, it looks like real personal consumption of goods and services, combined, grew at a 4.4% annual rate in Q2, contributing 3.0 points to the real GDP growth rate (4.4 times the consumption share of GDP, which is 69%, equals 3.0).

Business Investment:  Business equipment investment looks like it declined at a 1% annual rate in Q2 while commercial construction fell at a 10% rate. R&D probably grew around its trend of 5%.  Combined, we estimate business investment slipped at a 1% rate, which should subtract 0.2 points from the real GDP growth rate (-1.0 times the 13% business investment share of GDP equals -0.1).

Home Building:  Residential construction looks like it took a breather in Q2, dropping at an 8% annual rate.  Don't get worried, though.  This a temporary breather; builders still need to ramp up production to fill a shortage of homes.  In the meantime, the temporary drop in Q2 will trim 0.3 points off of the real GDP growth rate.  (-8.0 times the home building share of GDP, which is 4%, equals -0.3).

Government:  Military spending rose in Q2 while public construction projects declined.  On net, we're estimating that real government purchases rose at a 1% rate in Q2, which would add 0.2 percentage points to real GDP growth (1.0 times the government purchase share of GDP, which is 18%, equals 0.2).

Trade:  At this point, the government only has trade data through May, but the data so far suggest the "real" trade deficit in goods has gotten a little smaller.  As a result, we're forecasting that net exports add 0.3 points on the real GDP growth rate.

Inventories:  At present, we have even less information on inventories than we do on trade, but what we have suggests companies were surprised by the acceleration in consumer spending, resulting in a sharp slowdown in the pace of inventory accumulation during Q2.  We're forecasting inventories subtracted 0.9 points from real GDP growth in Q2.

Put it all together, and we get a forecast of 2.2% for Q2, another Plow Horse quarter.  However, the sharp inventory slowdown suggests production and, therefore, real GDP is likely to pick up in the third and fourth quarters.  Corporate profits and stock prices are likely to keep rising as well.  We expect this to affect the Fed and Fed speakers to become more hawkish, letting investors know a rate hike is a serious possibility by September.

Brian S. Wesbury - Chief Economist
Robert Stein, CFA – Deputy Chief Economist
   

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Posted on Monday, July 18, 2016 @ 9:51 AM • Post Link Share: 
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These posts were prepared by First Trust Advisors L. P., and reflect the current opinion of the authors. They are based upon sources and data believed to be accurate and reliable. Opinions and forward looking statements expressed are subject to change without notice. This information does not constitute a solicitation or an offer to buy or sell any security.
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