 | Personal Income Declined 0.1% in October, Personal Consumption Rose 0.3% |
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| Posted Under: Data Watch • PIC |
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Implications: Another Plow Horse report on income and spending in October shows the consumer is doing just fine. This report is one more nail in the coffin for the supposed concerns about the partial government shutdown in October affecting consumer spending for the month. Spending rose 0.3% overall, absolutely unaffected from the drama out of Washington. Although income fell 0.1% in October, this comes after eight consecutive months of gains, and most of the decline was due to farm income which has been very volatile. Wages and salaries continued to grow and are up 3.2% from a year ago. Income growth has accelerated over the past three months, growing at a 3.7% annual rate versus a 3.4% gain the past year. Despite all the hand-wringing by pundits at the beginning of the year, there is still no evidence that the end of the payroll tax cut or federal spending sequester hurt consumers. We expect further gains in both income and spending over the remainder of the year and into 2014. Job growth will continue and, as the jobless rate gradually declines, employers will be offering higher wages. Meanwhile, consumers’ financial obligations are hovering at the smallest share of income since the early 1980s. (Financial obligations are money used to pay mortgages, rent, car loans/leases, as well as debt service on credit cards and other loans.) On the inflation front, the Federal Reserve’s favorite measure of inflation, the personal consumption price index, was unchanged in October. Core consumption prices were up 0.1%. Overall consumption prices and core prices, which exclude food and energy, are up 0.7% and 1.1% respectively in the past year. Both are well below the Fed’s 2% target. However, we think these price measures will move higher over the next year. QE was a mistake. The sooner the Fed starts to taper, the better.
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| | Non-Farm Payrolls Increased 203,000 in November |
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| Posted Under: Data Watch • Employment |
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Implications: The labor market surprised to the upside in November, showing a lack of damage from the government shutdown. Nonfarm payrolls grew 203,000 in November after gaining 200,000 in October. Private-sector payrolls expanded 196,000 in November after gaining 214,000 in October. The big negative for October was a 735,000 drop in civilian employment, an alternative measure of jobs that includes small business start-ups and which is measured at a different time of the month than the payroll survey. That figure rebounded 818,000 in November. Largely as a result, the unemployment rate dropped to 7%, a new low for the recovery. However, after dropping 720,000 in October, the size of the labor force only rebounded 455,000 in November and is still below year-ago levels. This suggests the potential of a further rebound in the labor force in December/January, which may push the jobless rate back up slightly (or prevent it from falling further) in the short-term. Apart from the good headlines – better than expected payrolls and a large drop in the jobless rate – the details of the report were also good. Total hours worked increased 0.5% and are up 2.4% from last year. Average hourly earnings rose 0.2% and are up 2% versus a year ago. Combined, this means total cash earnings are up 4.4% in the past year, or about 3.2% adjusted for inflation. This is more than enough for workers to keep pushing up spending, particularly in an environment where consumers’ financial obligations are low relative to income. Also, once again a new report destroyed one of the recent negative stories about the job market. Part-time employment dropped for the fourth month in a row and is now down 137,000 from a year ago. The labor market could and would be doing better with a better set of public policies. But it is still improving. In the past year nonfarm payrolls have grown at an average monthly rate of 191,000 while civilian employment is up 82,000 per month. Over time, we expect these two rates of job growth to converge and think the pace of growth in civilian employment is likely to accelerate.
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| | Real GDP was Revised to a 3.6% Annual Growth Rate in Q3 |
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| Posted Under: Data Watch • Employment • GDP |
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Implications: Forget the good headline real GDP number for a moment. The best news in today’s report was that corporate profits increased at a 7.5% annual rate in Q3 and are at a new all-time record high. Ultimately, high profits are why we still think equities are substantially undervalued and today’s data supports further gains in equities in the year ahead. Today’s attention-grabbing headline was an unexpectedly large upward revision to real GDP growth, to a 3.6% annual rate in Q3 versus an original report last month of 2.8%. However, all of the upward revision, on net, was due to inventories. As a result, don’t be surprised if real GDP grows at a rate of about 0.5% in Q4 even though personal spending accelerates. The bottom line is that the underlying pace of growth remains about 2%, but should pick up next year. Nominal GDP (real growth plus inflation) was revised up to a 5.6% annual rate in Q3 from a prior estimate of 4.8%. Nominal GDP is up 3.3% from a year ago and up at a 4% annual rate in the past two years. These figures suggest further quantitative easing is not helpful. Even zero percent interest rates are inappropriate when nominal GDP is growing at this pace. In other news this morning, new claims for jobless benefits declined 23,000 last week to 298,000. Continuing claims for regular state benefits declined 21,000 to 2.74 million. Claims are often volatile around Thanksgiving, so expect some rebound in claims next week. Regardless, plugging these figures into our models generates final forecasts for November of a 200,000 gain in nonfarm payrolls and a 197,000 gain in private payrolls. We also expect the jobless rate to slip to 7.2% from last month’s report of 7.3%.
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| | The ISM Non-Manufacturing Index Declined to 53.9 in November |
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| Posted Under: Data Watch • ISM Non-Manufacturing |
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Implications: Unlike the manufacturing sector, which showed strong acceleration in November, the service sector continued to grow in November, but at a slightly slower pace. The ISM services report came in at a healthy 53.9 in November, slightly below consensus expectations but showing expansion for a 47th consecutive month. The business activity index – which has a stronger correlation with economic growth than the overall index – declined to 55.5. The employment index also declined in November, slowing to 52.5 but remaining above 50.0 for a 16th consecutive month. The new orders index pulled back slightly in November, but even with the decline it remains at a strong 56.4. On the inflation front, the prices paid index declined to 52.2 in November from 56.1 in October. Still no sign of inflation, but given loose monetary policy, we expect this measure to move upward over the coming year. The Federal Reserve has been far too easy for far too long. Today’s report, along with other data we have received this week, show the economy is doing just fine and will continue to plow ahead through the end of 2013.
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| | New Single-Family Home Sales Rose 25.4% in October to a 444K annual rate |
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| Posted Under: Data Watch • Home Sales • Housing |
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Implications: Due to the government shutdown in October, data for new home sales was delayed. So today we received both September and October numbers. New home sales took a nosedive in September but then boomed in October rising 25.4%, the biggest monthly gain in over 30 years. So, in the face of higher mortgage rates and an increase in inventories of existing homes, which should be drawing some buyers away from buying new homes, the market for new homes continues to improve. It has by no means been a straight line higher, but, as shown in the chart to the right, the 12-month moving average for new home sales is at its highest level since March 2009. The inventory of new homes is up 25.5% from a year ago. However, we don’t see these gains as anything to worry about. The months’ supply of new homes – how long it would take to sell all the new homes in inventory – declined to 4.9 in October, below the average of 5.7 over the past twenty years. As a result, as the pace of sales continues to recover, home builders can keep increasing inventories. Another way to think about it is that the construction of new homes can outpace a rising pace of sales over the next few years. On the pricing front, the median sales price of a new home was down 0.6% from a year ago. We do not believe that prices will remain negative year over year, but will slow somewhat from the double digits increases we have been seeing over this past year.
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| | The Trade Deficit in Goods and Services Came in at $40.6 Billion in October |
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| Posted Under: Data Watch • Trade |
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Implications: The trade deficit got smaller in October, but was revised higher in September. As a result of the September revisions, it now looks like real GDP grew at a 3% annual rate in Q3. However, the improvement in October suggests net exports should add to real GDP in Q4. Over the past year total exports are up 5.5% while total imports are up a smaller 3.6%. The trend shrinkage in the trade deficit is largely due to US energy production, driven by horizontal drilling and fracking. Petroleum product exports are almost eight times higher than they were in October 2005. During these same eight years, petroleum product imports are only up 26%. If these trends continue and the US fixes its pipeline and refinery issues, the US will be a net petroleum product exporter by 2018. Usually, when the US economy is growing, the trade deficit tends to expand relative to the size of our economy. However, given recent energy trends and plow horse economic growth, the trade deficit has been in a gradual shrinking trend for the past two years. In other recent news, automakers reported car and light truck sales at a 16.4 million annual rate in November, up 7.7% from October, up 7.1% from a year ago, and the fastest pace since early 2007. It’s early, but it appears real (inflation-adjusted) consumer spending is growing at a 2.5 – 3.0% annual rate in the fourth quarter, which would be the fastest pace since early 2012. On the jobs front, the ADP Employment index, a measure of private sector payrolls, increased 215,000 in November. As a result, we are now forecasting that the official Labor Department report will show payroll gains of 194,000 nonfarm and 191,000 private.
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| | The ISM Manufacturing Index Increased to 57.3 in November |
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| Posted Under: Data Watch • ISM |
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Implications: The ISM index, a measure of manufacturing sentiment around the country boomed in November coming in at the highest level since April 2011, easily beating consensus expectations, and rising for the sixth consecutive month. According to the Institute for Supply Management, an overall index level of 57.3 is consistent with real GDP growth of 4.7% annually. We don’t expect real GDP to grow anywhere near that pace in Q4, but we do expect much faster growth in 2014. The new orders index boomed to 63.6 in November, coming in at the highest level since early 2011. The employment index moved higher to 56.5 from 53.2, the highest level since April 2012. This is consistent with the plow horse growth we have been getting out of the labor market over the past few years and signals another positive report on payrolls this Friday. On the inflation front, the prices paid index declined to 52.5 in November from 55.5 in October. Still, little sign of inflation, but we don’t expect this to last given loose monetary policy. In other news this morning, construction increased 0.8% in October, led by government projects, such as schools. Nonetheless, revisions to prior months and delayed data due to the partial government shutdown show some weakness, especially in home building, during September and August. We expect that weakness to be temporary. New home construction is up 20.8% from last year while home improvements are up 13.2%. Population growth and scrappage should generate enough demand for new housing that similar gains unfold in the year ahead. The Plow Horse Economy continues to move forward.
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| | Consumers Doing Fine |
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| Posted Under: Housing • Monday Morning Outlook • Retail Sales |
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According to the National Retail Federation, Thursday to Sunday holiday sales dropped 3% versus last year. No doubt, this will wake up some dozing bears. And, we are sure that when we say it’s not as bad as you think, many will argue we are perma-bulls, naïve, or downright stubborn. You can think what you want, but we don’t believe sales are falling.
First, other reports conflict with the NRF data. ShopperTrak, a Chicago-based firm that monitors sales traffic at 40,000 retail outlets and malls around the country, reported a 2.3% gain in sales for Thanksgiving and Black Friday.
Second, online sales ripped the cover off the ball, setting new records, and rose 17% for Thanksgiving and Black Friday compared to last year, according to ComScore. We expect more huge numbers for today – CyberMonday.
Third, a very short Christmas shopping season (just 26 days versus 32 last year) combined with an early Hanukkah and early discounting by retailers likely shifted holiday sales to the days before Thanksgiving.
We expect this to show up in the broader data when the overall retail sales figures for November arrive next week. Add to that an expected 3.2% year-on-year gain for car and light truck sales last month, which is impressive considering that a year ago, November auto sales were artificially boosted after Superstorm Sandy severely limited sales in October 2012.
The mixed data for the 2013 holiday shopping season keeps the debate going. The bears keep pointing to each individual on-the-ground worry – Sequester, Obamacare, Tapering…etc., while we keep pointing to the fundamentals at 30,000 feet.
Monetary policy is still loose, tax rates are relatively low, and government spending has been shrinking as a share of GDP. Meanwhile, the continued recovery in housing as seen in the construction data released today, as well as low consumer debt obligations relative to income, are major positives at the 10,000 foot level. And the manufacturing sector, according to the November ISM data remains robust.
In other words, the economy continues to grow in a Plow Horse manner and for the fifth year in a row, consumer spending is on an upward path. The bears won’t give up. We expect more pundit pessimism. But, every bull market worth its salt needs a wall of worry to climb. And this wall is steep.
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| | New Orders for Durable Goods Declined 2.0% in October |
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| Posted Under: Data Watch • Durable Goods • Housing |
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Implications: New orders for durables declined 2.0% in October. However, almost all the decline was in the transportation sector – particularly civilian aircraft – which is extremely volatile month to month. Orders were down 0.1% excluding transportation. The best news in today’s report was that unfilled orders for core capital goods rose 0.3% in October, hitting a new record high. The news on unfilled orders supports our optimism about business investment. In addition, the recovery in home building should generate more demand for big-ticket consumer items, such as appliances. Expect more plow horse growth in the months ahead. In other manufacturing news, the Richmond Fed index, which measures mid-Atlantic factory sentiment, increased to +13 in November from +1 in October. The Chicago PMI, which measures factory sentiment in that region, declined to 63.0 in November from 65.9 in October. As a result, our forecast for the national ISM manufacturing report is 56.1 for November, versus a consensus forecast of 55.0. In broader economic news, initial claims for unemployment insurance declined 10,000 last week to 316,000. Continuing claims fell 91,000 to a new recovery low of 2.78 million. Plugging these figures into our payroll models suggests November gains of 174,000 nonfarm, 169,000 private. On the housing front, mostly good news this week. The Case-Shiller home price index rose 1% in September and is up 13.3% in the past year. Prices in all 20 major metro areas increased in September, with recent price gains led by Las Vegas, Atlanta, Los Angeles, and San Diego. The FHFA index which covers homes financed by conforming mortgages, increased 0.3% in September and is up 8.5% versus last year. Permits to build new homes increased 5.2% in September, 6.2% in October, and are up 13% in the past twelve months. However, the volatile multi-family sector accounted for all of the gains in the past two months and 60% of the gains in the past year. Pending home sales, which are contracts on existing homes, slipped 0.6% in October. As a result, we expect another (temporary) decline in existing home sales in November. Sales should start recovering again in December.
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| | QE: Not That Big of a Deal |
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| Posted Under: Government • Markets • Monday Morning Outlook • Fed Reserve • Interest Rates • Bonds |
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The most frequent question we get lately is “what happens to long-term interest rates when quantitative easing ends?” Many analysts argue that the Federal Reserve is buying and holding a huge share of Treasury debt and once QE ends other buyers will suddenly have to absorb more. This will cause interest rates to soar, bust the housing market, undermine stocks, and possibly cause a recession.
We disagree with this analysis in major ways. To respond, we crafted some charts which you will be able to find on our blog, here. In addition, a friend and one of our favorite economists, Scott Grannis at Calafia Beach Pundit, tackled the same topic last week. We urge you to read his take as well.
Much of what people believe about QE is mistaken. It has boosted the monetary base, but not M2. Interest rates are low because of the zero fed funds rate policy, not QE. And most importantly, despite trillions in purchases, the share of Treasury debt held by the Fed is not out of line with history.
Don’t get us wrong. We expect interest rates to move higher in the years ahead, but not because QE ends and not as quickly as the QE-bears say. Until the Fed raises short-term rates, it’s unlikely the 10-year Treasury yield will rise above 4%. QE is a signal of the Fed’s commitment to hold short-term rates near zero, not a direct driver of rates. The longer investors expect the Fed to keep rates near zero, the lower longer-term yields will be. QE itself is not as important as many think.
The Fed has not cornered the Treasury market. The Fed now owns 18% of marketable Treasury debt. This is not an unusually large share; the recent peak was 20% in 2002 and the Fed still held 17% in 2008. Borrowing exploded upward in the Panic, the Fed’s share of debt fell to 8%, but, with QE, it’s back up to 18%. If the Fed still bought $45B/month of Treasuries for the next twelve months – which is very unlikely – we estimate the Fed’s share of Treasury debt would rise to just 21%, slightly above the peak in 2002.
Interest rates have moved in the same direction as the Fed’s share of Treasury debt. Those who see QE as the driver of interest rates have a huge problem – the facts. From late 2007 through early 2009 the Fed’s share of the debt plummeted while interest rates fell. From late 2009 through early 2011, the Fed used QE to push its share back up, but interest rates trended up slightly. From early 2011 through the end of 2012, the Fed’s share of the debt gradually fell. In theory, interest rates should have risen; instead, they fell. So far this year, the Fed’s share of Treasury debt has risen while interest rates have gone up.
Don’t worry; private markets can absorb debt normally. Since 1975, the amount of marketable Treasury debt held outside the Federal Reserve (known as privately-held debt) has increased $9.3 trillion, or $242 billion per year. During this time, annual GDP averaged $8.1 trillion per year. So, on average, the private markets have absorbed Treasury debt equal to 3% of GDP, sometimes more and sometimes less.
If the Fed goes “cold turkey” on QE, but rolls over the debt it already owns, private purchasers of Treasury debt would have to absorb an amount roughly equivalent to the budget deficit, which we forecast to be about 3% of GDP in fiscal year 2014. That’s no different than the long-term average.
More likely, the Fed will taper purchases in 2014 rather than going cold turkey. Assuming the Fed bought $250 billion (about $20 billion per month), private markets would be left to absorb debt equal to about 1.5% of GDP. Easy peasy.
We don’t believe deficits drive interest rates, but for those who do, the idea that QE itself is the driving force behind long-term rates is seriously flawed. The Fed owns no greater share of the debt than normal, and, deficits are shrinking.
While we expect interest rates to head higher, the bottom line is that QE was never that important and ending it is not the Armageddon event that the Bearish clan wants to believe.
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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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