Weekly Update: 'Most bad government has grown out of too much government'
My husband and I spent the back end of this week taking our daughter to her orientation at the University of Virginia, founded in 1819 by Thomas Jefferson, our third president and principal author of the Declaration of Independence. I challenge you to find a more beautiful college campus. Beyond being a statesman and exemplary architect, Jefferson was also known for his many famous sayings, including the one above, “I believe that banking institutions are more dangerous to our liberties than standing armies’’ and “It is incumbent on every generation to pay its own debt as it goes.” Speaking of banks and debt, there was nothing new in what Fed Chairman Ben Bernanke said in his Q&A following Wednesday’s Boston speech, but markets moved sharply nonetheless. Cornerstone Macro says it shows the power of repeating the same very dovish message over and over as the Fed has done ever since June’s FOMC meeting—eventually markets are likely to internalize it. This underscores the risk of being short equities and bonds ahead of major Fed communications. In his comments, Bernanke said the Fed will be very accommodative for a long period of time. He mentioned that given the makeup of the unemployment rate, the trigger for raising rates could be lower than 6.5%, and that inflation is too low instead of talking about a reversion higher in inflation like he did at the June press conference. None of this necessarily changes the schedule for tapering—a reduction in Treasury and agency MBS purchases may still come as soon as September. But it does reinforce the idea that tapering is not tightening, and that fed fund futures are too aggressive on rate hikes. Again, this isn’t new—Bernanke was very clear about the difference between tapering and tightening in his post-FOMC press conference. But much as it can be with the Mister, repetition often is necessary to be heard.
The point that the phasing out of quantitative easing does not imply earlier-than-expected rate hikes also was made at least three times in the minutes released this week from the June 18-19 FOMC meeting. In fact, the number of policymakers who don’t expect the target funds rate to rise until at least 2015 rose at the latest meeting. The markets this week also got a lift from China, where subtle changes in what its leaders are saying suggest an easing of its fight against inflation. The 21st Century Business Herald, a leading business newspaper in China, reported that Chinese decision-makers “have accepted a think-tank proposal to deemphasize controlling inflation in favor of highlighting the need for reform …. Premier Li Keqiang said on July 9 that it is very important to coordinate stabilizing growth, adjusting the economy’s structure and promoting reform, a change in wording from a month before when he spoke of ‘stabilizing growth, controlling inflation, preventing risk and pushing forward the economy’s transformation.’ ’’ China being less worried about inflation is a big deal if true. One of the most consensus views is for much weaker growth in China (more below).
Interest rates appear to be moving up not on inflation fears but on the looming end to QE and on prospects for stronger second-half growth (as reflected in the latest housing, autos, manufacturing, retail sales and confidence data—despite this morning’s slight dip, Michigan sentiment is still near a post-recession high). Historically, until real rates get above 4%, real rates and multiples are positively correlated. So assuming growth and rates are moving together, we are in the part of the cycle that would argue for additional P/E expansion, which is very bullish. Given the lack of global breadth confirmation and indications of short-term overbought conditions, Ned Davis Research thinks there’s a good chance that last month’s lows will be tested, at least partially. But if global economic conditions and expectations keep improving (more below), the pain trade should remain to the upside. John Q. Public has clearly favored bonds over stocks the last five years, but there are signs this is coming to an end. The Investment Company Institute said net outflows from taxable bond funds hit a record $20.4 billion for the week ended June 27; another $7.7 billion left municipal bond funds. But domestic equity funds also had net outflows of $6.4 billion on the month, so it doesn’t appear the money leaving bonds is coming into U.S. stocks yet. Domestic equity flows were up $14 billion through the first five months of 2013, however, and with cash rapidly accumulating on the sidelines, it may only be a matter of time before the long-expected “great rotation” from bonds into U.S. equities actually begins. When it does, it could be dramatic—and bullish. (Hey John Q. Public, here’s another Thomas Jefferson quote: “Don’t put off until tomorrow what you can do today.”)
It’s too early to worry about inflation Headline producer prices unexpectedly jumped, 0.8%, largely on seasonally adjusted increases in gasoline prices. Core rates remained relatively tame but also came in slightly above expectations, though there were few signs of core pipeline inflation pressures. Elsewhere, import prices unexpectedly fell 0.2% on broad-based non-petroleum price declines in food and beverages, industrial supplies, autos and non-auto consumer goods. The narrower ex-food and fuels measure of core import prices also was down 1.1% year-over-year. These reports give the Fed plenty of time to be slow to make changes.
Receding fiscal risks Tax receipts exceeded spending by $116.5 billion in June, producing the largest monthly budget surplus since April 2008, the Treasury Department said. A recovering economy generated more tax revenue, while spending fell 47%.The Obama administration is forecasting that the federal budget deficit will decline to $759 billion for the fiscal year ending Sept. 30, which would be the smallest deficit in five years and would represent a $214 billion improvement from its previous deficit projection in March. Standard & Poor’s has raised the U.S’s AA+ credit-rating outlook to stable from negative based on an improving fiscal situation.
Steady global growth The composite leading indicator for OECD countries, a proxy future global growth, edged above 100 in May to its highest level since March 2012 and in line with its long-term average of 100, indicating global growth remains firm. This was the eighth straight increase in the indicator, indicating the global growth cycle still has more room to go, as typical growth cycles last a median of 12 months. The OECD U.S. composite leading indicator also rose for a 10th straight month to its highest level since February 2008. Its year-over-year increase also was encouraging change and indicative of a recovery that should continue at trend pace of the next three months.
This will be a problem for Q2 GDP but not beyond Wholesale inventories fell 0.5% in May, the biggest drop since September 2011, and contrary to expectations for a 0.3% gain. This raises the odds inventory investment could weigh on growth in the second quarter. However, the inventory to sales ratio fell to 1.18, the lowest level in over a year, on a surge in sales. If the sales pace is maintained in the future, businesses would have to increase their inventories, which would be positive for economic growth going forward.
Small business blahs June’s NFIB optimism index slipped and, while at 93.5 remains above the current expansion’s 90.8 average, has been range-bound over the past three years. This suggests that small businesses remain dubious about the economic outlook and business prospects. While hiring plans for the next three months rose to their highest level since last August, the percentage of firms planning to hire was only 7%, providing only a modest lift to this summer’s labor-market outlook. The percentage of firms reporting an inability to fill positions was unchanged at 19%, indicating supply remains constrained by a skills-mismatch problem.
Global blahs The IMF reduced its global GDP growth forecasts for 2013 and 2014 to 3.1% and 3.8%, respectively, driven largely by an appreciably weaker domestic demand, slower growth in several key emerging-market economies and a more protracted euro-area recession. China’s growth forecast for 2014 was slashed six-tenths of a percentage point to 7.7% on continuing concerns about declining trade activity and its crackdown on internal credit. Chinese authorities this week reported exports unexpectedly declined 3.3% year-over-year in June, vs. market expectations for a 3.7% increase. It marked the first negative year-over-year export reading since January 2012.
All roads lead to JOBS Monthly private payroll gains have averaged over 200,000 year-to-date, almost back to the average of 233,000 from 1992-1999. Over the past three years, private employment has increased an average 0.2% monthly, a pace that could push private employment to a record high (!) by early 2014.
“Demographics is destiny’’ That quote, credited to French mathematician and social scientist/philosopher Auguste Comte, comes to mind as we review current birthrates. They hit an all-time low in 2011 and stayed there in 2012 amid economic uncertainty coupled with a general trend towards fewer births. This suggests there may not be a bounce-back in birthrates, putting the onus on increased immigration to meet our labor needs as boomers retire.
Don’t bother … I won’t read it More than a third of employees report getting work-related emails after work hours. Some even have to deal with requests on weekends or while on vacation.