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   Brian Wesbury
Chief Economist
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   Bob Stein
Deputy Chief Economist
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  Existing Home Sales Declined 3.2% in January
Posted Under: Data Watch • Home Sales • Housing


Implications:  Existing home sales fell for the second straight month in January, as a lack of options for buyers continued to weigh on activity.  Sales of previously-owned homes fell 3.2% in January to a 5.38 million annual rate.  Going forward it is important to remember that home sales are volatile from month to month. Despite January's weak headline number, sales in 2017 posted their best year since 2006, an upward trend we expect will remain intact.  That said, the major headwind for existing homes has been inventories, now lower on a year-over-year basis for 32 consecutive months, and down 9.5% from a year ago. In fact, inventories hit their lowest level for any January since at least 1999, when records began.  It's no wonder then that January also posted the largest annual drop in sales since 2014.  The months' supply of existing homes – how long it would take to sell the current inventory at the most recent sales pace – rose to a still extremely low reading of 3.4 months in January (from December's record low reading of 3.2 months) as inventories rose and sales slowed.  According to the NAR, anything less than 5.0 months (a level we haven't breached since 2015) is considered tight supply.  Despite the lack of choices, demand for existing homes has remained remarkably strong, with 43% of homes sold in January remaining on the market for less than a month.  Higher demand and a shift in the "mix" of homes sold toward more expensive properties has also driven up median prices, which are up 5.8% from a year ago.  The strongest growth in sales over the past year is heavily skewed towards the most expensive homes, signaling that supply constraints may be disproportionately hitting the lower end of the market.  Tough regulations on land use raise the fixed costs of housing, tilting development toward higher-end homes.  Although some analysts may be concerned about the impact of tax reform on home sales, few homeowners exceed the new thresholds for deductibility.  Finally, though mortgage rates may be heading higher, it's important to recognize that rates are still low by historical standards, incomes are growing, and the appetite for homeownership is starting to move higher again.  

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Posted on Wednesday, February 21, 2018 @ 11:30 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 Wednesday, February 21, 2018 @ 8:08 AM • Post Link Share: 
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  QE and Its Apologists
Posted Under: Bullish • Government • Markets • Monday Morning Outlook • Stocks

On March 9, 2018, the bull market in U.S. stocks will celebrate its ninth anniversary.  And, what we find most amazing is how few people truly understand it.  To this day, in spite of massive increases in corporate earnings, many still think the market is one big "sugar high" – a bubble built on a sea of Quantitative Easing and government spending.

While passing mention is given to earnings (because they are impossible to ignore), conventional wisdom has clung to the mistaken story that QE, TARP, and government spending saved the economy from the abyss back in 2008-09.

A review of the facts shows the narrative that "Wall Street" – meaning capitalism and free markets – failed and government came to the rescue is simply not true. 

Wall Street was not the driving force behind subprime mortgages.  In his fabulous book, Hidden in Plain Sight, Peter Wallison showed that by 2008 Fannie Mae, Freddie Mac and other government programs had sponsored 76% of all subprime debt – not "Wall Street."  Everyone was playing with rattlesnakes and government was telling them it was OK to do so.  But, when the snakes started biting, government blamed the private sector, capitalism and free markets. 

At the same time, Wall Street did not cause the market and economy to collapse; it was overly strict mark-to-market accounting.  Yes, leverage in the financial system was high, but mark-to-market accounting forced banks to write down many performing assets to illiquid market prices that had zero relationship to true value.  Mark-to-market destroyed capital.

QE started in September 2008, TARP in October 2008, but the market didn't bottom until March 9, 2009, five months later.  On that day in March, former U.S. Representative Barney Frank, of all people, promised to hold a hearing with the accounting board and SEC to force a change to the ill-advised accounting rule.  The rule was changed and the stock market reversed course, with a return to economic growth not far behind.

Yes, the Fed did QE and, yes, the stock market went up while bond yields fell, but correlation is not causation.  Stock markets fell after QE started, and rose after QE ended.  Bond yields often rose during QE, fell when the Fed wasn't buying, and have increased since the Fed tapered and ended QE.

A preponderance of QE ended up as "excess reserves" in the banking system, which means it never turned into real money growth.  That's why inflation never took off.  Long-term bond yields fell, but this wasn't because the Fed was buying.  Bond yields fell because the Fed promised to hold short-term rates down for a very long time.  And as long-term rates are just a series of short-term rates, long term rates were pushed lower as well.

We know this is a very short explanation of what happened, but we bring it up because there are many who are now trying to use the stock market "correction" to revisit the wrongly-held narrative that the economy is one big QE-driven bubble.  Or, they use the correction to cover their past support of QE and TARP.  If the unwinding of QE actually hurts, then they can argue that QE helped in the first place.

So, they argue that rising bond yields are due to the Fed now selling bonds.  But the Fed began its QE-unwind strategy months ago, and sticking to its plans hasn't changed a thing. 

The key inflection point for bond yields wasn't when the Fed announced the unwinding of QE; it was Election Day 2016, when the 10-year yield ended the day at 1.9% while assuming the status quo, which meant more years of Plow Horse growth ahead.  Since then, we've seen a series of policy changes, including tax cuts and deregulation, which have raised expectations for economic growth and inflation.  As a result, yields have moved up.

Corporate earnings are rising rapidly, too, and the S&P 500 is now trading at roughly 17.5 times 2018 expected earnings.  This is not a bubble, not even close.  Earnings are up because technology is booming in a more politically-friendly environment for capitalism.  And while it is hard to see productivity rising in the overall macro data, it is clear that profits and margins are up because productivity is rising rapidly in the private sector.

The sad thing about the story that QE saved the economy is that it undermines faith in free markets.  Those who argue that unwinding QE is hurting the economy are, in unwitting fashion, supporting the view that capitalism is fragile, prone to bubbles and mistakes, and in need of government's guiding hand.  This argument is now being made by both those who believe in big government and those who supposedly believe in free markets.  No wonder investors are confused and fearful.

The good news is that QE did not lift the economy.  Markets, technology and innovation did.  And this realization is the key to understanding why unwinding QE is not a threat to the bull market.

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

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Posted on Tuesday, February 20, 2018 @ 11:32 AM • Post Link Share: 
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  Housing Starts Increased 9.7% in January
Posted Under: Data Watch • Home Starts • Housing


Implications:  After posting the best year in a decade in 2017, housing starts surprised to the upside in January, beating even the most optimistic forecast by any economics group.  Starts rose 9.7% in January to a 1.326 million annual rate, the second fastest post-recession pace.  It is important to note that while single-family starts did rise in January, 74% of the month's gain was due to the volatile multi-unit sector.  But, looking past monthly volatility, single-family starts are still the main driver of trend growth, as the chart to the right shows.  The horizon also looks bright for future activity, with permits for new construction, the number of units authorized but not started, and units currently being built all sitting at post-recession highs.  Notably, this has all happened despite a significant uptick in mortgage rates in the past year, which some analysts claimed would derail the housing recovery.  Based on population growth and "scrappage," housing starts should eventually rise to about 1.5 million units per year.  And the longer this process takes, the more room the housing market will have to eventually overshoot the 1.5 million mark.  Although tax reform trimmed the principal limit against which borrowers can take a mortgage interest deduction to $750,000 versus the current law amount of $1 million, the law only affects new mortgages.  In addition, large reductions to marginal tax rates in the early 1980s, which reduced the value of the mortgage interest deduction, coincided with a rebound in housing.  In other words, we don't expect the changes in the deduction to cause problems for the housing industry at the national level, although we do expect some shift in building toward regions with lower taxes and land prices.  In other recent housing news, the NAHB index, which measures homebuilder sentiment, remained unchanged at 72 in February, a historically elevated level signaling strong optimism from developers.  On the inflation front, import prices jumped 1% in January while export prices rose 0.8%.  In the past year, import prices are up 3.6% while export prices have increased 3.4%, reinforcing other recent data showing a rising trend in inflation.

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Posted on Friday, February 16, 2018 @ 10:36 AM • Post Link Share: 
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  Stocks even more undervalued after the correction?
Posted Under: Bullish • Government • Inflation • Markets • Video • Interest Rates • Stocks • TV • Fox Business
Posted on Thursday, February 15, 2018 @ 11:40 AM • Post Link Share: 
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  Inflation, Interest Rates, and Stocks
Posted Under: Bullish • Government • Inflation • Markets • Video • Interest Rates • Stocks • Wesbury 101
Posted on Thursday, February 15, 2018 @ 11:23 AM • Post Link Share: 
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  Industrial Production Declined 0.1% in January
Posted Under: Data Watch • Industrial Production - Cap Utilization


Implications:  Industrial production started 2018 on a soft note, falling for the first time in five months.  The headline series declined 0.1% in January.  However, this is not the end of growth in the industrial sector.  Industrial production is still up 3.6% from a year ago.  The biggest drag in today's report was mining, which dropped 1% and can be very volatile from month to month.  Remember, January's ISM manufacturing report posted its strongest level for that month in seven years.  As a result, we expect a rebound in industrial sector growth in the months ahead as tax reform spurs investment, and stronger growth, both in the U.S and abroad, gives a tailwind to the factory sector.  Meanwhile, although mining has dropped the past two months, it's still up 8.8% from a year ago.  Notably, oil and gas-well drilling stumbled in January, falling 1.4%, after a rebound of 0.9% in December.  Even though drilling slowed in the second half of 2017, most likely associated with hurricanes Harvey and Irma, it remains up 30.1% from a year ago.  In addition, the rig count has surged in recent weeks, suggesting a rebound in drilling activity in the months ahead.  In other factory news this morning, the Empire State index, a measure of manufacturing sentiment in New York, dropped to a still healthy 13.1 in February from 17.7 in January.  Meanwhile, the Philly Fed index, its counterpart among East Coast manufacturers, jumped to 25.8 in February from 22.2 in January, signaling growing optimism.

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Posted on Thursday, February 15, 2018 @ 11:21 AM • Post Link Share: 
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  The Producer Price Index Rose 0.4% in January
Posted Under: Data Watch • Inflation • PPI


Implications:  Producer prices jumped in January, rising 0.4% as nearly every major category showed increased prices.  And producer prices are up 2.7% in the past year, exceeding the Fed's 2% inflation target.  This follows suit with yesterday's CPI report that shows inflation pressures have been picking up of late, and it's not difficult to see why.  The Federal Reserve is running an incredibly loose monetary policy.  Yes, the Fed Funds rate is slowly and steadily on the rise, but there are still more than two trillion dollars of excess reserves in the banking system, and monetary policy won't be tight until that excess slack is removed.  This is especially true because anti-bank attitudes and regulation have been reversed, which reduces the headwinds to monetary growth.  To put it mildly, new Fed Chair Jerome Powell and the rest of the FOMC have their work cut out for them.  Taking a look at the details of today's PPI report shows rising costs for hospital services, apparel, and gasoline leading the way.  Energy, led by a 7.1% jump in gasoline prices, increased 3.4% in January.  Meanwhile food prices declined 0.2% in January.  Strip out the typically volatile food and energy groupings, and "core" producer prices rose 0.4% in January and are up 2.2% in the past year.  For comparison, "core" prices rose 1.4% in the twelve months ending January 2017, and were up 0.8% in the twelve months ending January 2016.  And a look further down the pipeline shows the trend higher should continue in the year to come.  Intermediate processed goods rose 0.7% in January and are up 4.6% from a year ago, while unprocessed goods increased 0.9% in January and are up 2.5% in the past year.  Both categories have seen a pickup in price increases over the past six and three-month periods.  Given these figures, and with employment growth remaining strong and inflation rising, we expect four rate hikes in 2018.  On the jobs front, initial jobless claims rose 7,000 last week to 230,000, while continuing claims rose 15,000 to 1.942 million.  Both measures remain near the lowest levels seen in decades, so look for another solid jobs report in February, although heavy snow in parts of the country might put some temporary downward pressure on payrolls for the month.  If so, don't fall into the trap of thinking the good times are over.  Job gains should rebound in the following months.

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Posted on Thursday, February 15, 2018 @ 11:00 AM • Post Link Share: 
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  Retail Sales Declined 0.3% in January
Posted Under: Data Watch • Retail Sales


Implications: Retail sales fell well short of expectations in January and were revised down for November and December.  Overall, a dismal report relative to expectations that have improved with growing optimism about the economy.  Retail sales in January itself declined 0.3%, versus the consensus expected gain of 0.2%.  As a result, it now looks like real GDP grew at a 2.3% annual rate in the fourth quarter instead of the original report of 2.6%.  In addition, it also looks like real GDP is growing at about a 3.0% annual rate in Q1 versus our prior estimate of 4.0%.  That said, today's report has more to do with the timing of economic growth; it does not alter our general optimism about an acceleration of growth in 2018.  At present we estimate that real GDP will grow 3.4% this year, which would be the best year since 2003.  It is not unusual for retail sales to fall three or four months in a year, even during periods of robust growth.  January was one of those months.  Hurricanes in the second half of last year pulled some sales forward. It makes sense that autos and building materials were the largest decliners in January, as hurricane victims were fixing and replacing houses and buying new cars at a rapid clip late last year.  As we get back to normal, expect retail sales to resume their trend higher in the months to come.  Even with today's decline, both overall retail sales and "core" sales, which exclude autos, building materials, and gas, are up a respectable 3.6% from a year ago.  Why are we optimistic about retail sales growth in the months ahead?  Jobs and wages are moving up, tax cuts are taking effect, consumers' financial obligations are less than average relative to incomes, and serious (90+ day) debt delinquencies are down substantially from post-recession highs.

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Posted on Wednesday, February 14, 2018 @ 10:23 AM • Post Link Share: 
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  The Consumer Price Index Rose 0.5% in January
Posted Under: CPI • Data Watch • Inflation


Implications:  New Fed Chief Jerome Powell has his work cut out for him, with consumer prices in January rising at the fastest monthly pace in more than five years.  The consumer price index rose 0.5% in January and is up 2.1% in the past year, marking a fifth consecutive month of year-to-year prices rising more than 2%.  In the past three months, CPI is up at a 4.4% annual rate, showing clear acceleration above the Fed's 2% target.  A look at the details of today's report shows rising prices across most major categories. Energy prices increased 3% in January, while food prices rose 0.2%. But even stripping out volatile food and energy prices shows rising inflation.  "Core" prices rose 0.3% in January, the fastest monthly pace since 2005.  Core prices are up 1.8% in the past year, but are showing acceleration in recent months, up at a 2.6% annual rate over the past six-months and a 2.9% rate in the past three months.  In other words, both headline and core inflation stand above the Fed's 2% target, and both have been rising of late.  Housing costs led the increase in "core" prices in January,  rising 0.2%, and up 2.8% in the past year. Meanwhile prices for services rose 0.3% in January and are up 2.6% over the past twelve months.  Both remain key components pushing "core" prices higher and should maintain that role in the year ahead.  The most disappointing news in today's report is that real average hourly earnings declined 0.2% in January.  However, these earnings are up 0.8% in the past year. And, given the strength of the labor market, with the unemployment rate at the lowest level in more than a decade and headed lower, paired with a pickup in the pace of economic activity thanks to improved policy out of Washington, expect upward pressure on wages in the months ahead.  Add it all up, and the Fed is on track to raise rates at least three times in 2018, with a fourth rate hike more likely than not.

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Posted on Wednesday, February 14, 2018 @ 10:08 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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