Weekly Update: The economy's in recession ... in Alaska

05-12-2017

I spent the week in Anchorage, Alaska, a state where "we live and die by oil.'' With the price slipping below $50 again, it was on everyone’s mind. I asked them what price they need. “$100, and we need it now!” That sounded awfully high to me, and I was told that $65 is needed for drilling (higher than the $50 I hear in the lower 48 states, because here they must do horizontal drilling), but $100+ is needed for a stable state budget. Oil, since the 1980s, has “been paying everybody’s bills.” Beginning in 1981, dividend checks have been sent annually to every man, woman and child from the Permanent Fund Dividend (PFD), created to share oil’s riches with the state’s residents. Alaska faces a $3.6 billion deficit because of lack of oil revenue, so the governor wants to tap the PFD and the people are not happy. I was told the state has been trying for 2 decades to diversify away from oil, into timber, fisheries and international trade. Trade—and the potential for a trade war—was about the only area where it seemed Alaskans might disagree with Trump. I didn’t hear the name Comey once, but there was much discussion about the millennial generation. An advisor told me about the many millennials who work for 2-6 weeks on Prudhoe Bay in Alaska’s North Slope Borough. They take the next 2-4 weeks off and travel the world. What do they do for money when it runs out, I asked? “Parent’s basement—at age 31.” Millennials, I was told at another event, are “high IQ, low I do.” In another meeting, a boomer complained that they can’t “read or write. They disgust me.” Whoa!

The people I met in Alaska are strong-willed, diverse, proudly opinionated, self-contained so as not to rely on the economy, and mostly from somewhere else. I can’t remember laughing out loud in so many meetings. I met an ex-hockey player, computer geek, pilot, surgeon, guitar player (shout-out to the Arctic Jungle Band), forensic economist, real estate developer, geophysicist, a Greek orphan who came to the U.S. in 1955 on the SS Andrea Doria (one year before it sank!) and an original homesteader after whom local streets are named (she left New Jersey in the ’40s “to escape my in-laws!”) Discussing dividend stocks, tobacco companies in particular, at a client event, we debated the future of that business when our host reported that they are on the verge of creating a healthy cigarette. Really? “It’s called weed,” shouted the computer geek. It was legalized here 2 years ago, having been decriminalized 20 years ago. An advisor told me he receives calls all the time asking about marijuana stocks. These people were not worried about politics (although one remarked that Alaska is uncomfortably close to North Korea) and are bullish on the stock market. For the first time in my travels I heard in numerous meetings that investors are feeling bullish “because their portfolios are doing well.” Yellow light? Perhaps. The S&P 500’s current streak without a 5% correction is one of the longest on record. Day-to-day market fluctuations are at historically low levels. The bull market is still healthy, Ned Davis Research says, but the recent correction was not enough to set the stage for a meaningful move higher. Several technical studies point to the early 1960s, a boring market, as a comparable environment.

Boring surely describes this market. Over the past 3 months, it’s closed the day within 0.5% of the previous day's close 80% of the time. The VIX’s foray into single digits reflects intraday ranges that have imploded—shares cannot go down until there is an upward inflection point in volatility. With a strong earnings season that has revenues on track to grow at their fastest pace in 5 years, the forward multiple for the S&P currently computes to a 17.65 P/E, FBN Securities says. Extrapolating this metric to its cyclical peak of 18.06 yields an intermediate term target of 2,455. Jeffries looked back to 2003 to see what happens to the S&P after the index reaches a -0.5 standard deviation level—it got to within 1 point of such a move early last week—and found that 3 months later, the S&P is up 4%; 6 months later, it’s up 5.8% and 12 months later, it’s up 11.3%. Why? Weaker data such as what we got in Q1 isn’t lost on the market, and economic surprises are mean reverting. So if they weaken enough, they’re likely to improve as long as the economy doesn’t appear to be heading into recession. No one expects a recession anytime soon—except for in Alaska, where they are living it without complaint.

Positives

Small businesses still bullish on Trump Optimism slipped but remained near historical highs a sixth straight month in April, the strongest string of readings since 1983, the NFIB said. Owners were disappointed Obamacare repeal-and-replace wasn’t completed at the time of the survey but remained confident that the Trump administration will deliver on policies that reduce regulations and support growth. A separate quarterly survey of small businesses by Wells Fargo and Gallup had similar results, with confidence holding close to a 10-year high and respondents expecting conditions to improve meaningfully over the next 12 months.

This keeps June very much in play A string of reports show labor market conditions continuing to tighten, as job openings reached their second-highest level since the Labor Department began tracking them in 2000, the number of unemployed per job opening reached a 16-year low and both jobless claims and layoffs were at generational lows. Also, April’s Employment Trends Index rose the most in 5 months, while May’s SHRM/LINE survey projects the pace of manufacturing hiring to hit a 13-year high.

Inventories appear set to add to GDP Led by durable goods, wholesale inventories unexpectedly rose while the inventory-to-sales (I/S) ratio was unchanged at its lowest level since December 2014. Business inventories also rose slightly above expectations as the I/S ratio held steady. Both reports suggest demand/supply conditions continue to normalize, which would be positive for growth.

Negatives

This keeps June very much in play Headline and core PPI bounced in April, with the former matching its biggest gain in nearly 5 years on both a monthly and year-over-year (y/y) basis and the latter rising at its fastest pace since January 2016 and, y/y, the most in 3 years. Combined with April’s 4.1% y/y jump in import prices and this morning’s report showing headline and core CPI up off March’s surprise declines, the Fed has a number of reasons to stay on its tightening path.

With consumers, it’s 'watch what we do, not what we say' The Fed’s Senior Loan Officer Survey showed consumer loan demand (outside of student and auto loans) remains low. While this morning’s retail sales report suggests improvement—April y/y sales were up 4.5%, benefitting from a late Easter, and a negative March was revised up to a 0.1% gain—on a 2-month basis, sales were still soft relative to sentiment that’s hit an above-consensus 4-month high this morning. So for now, the post-election story continues—while optimism is high, everybody is in wait-and-see mode pending tax-reform details. The longer this lasts, the greater the risk of more weakness in the hard data.

China Watch With Le Pen tail risk out of the way, the global markets are turning their attention to China, where authorities are continuing with a tightening policy and the data has turned a more worrisome. Its manufacturing and service PMIs have rolled over, commodity prices are in decline and trade numbers have weakened. However, various China measures still suggest expansion, and its slowdown is not expected to lead to a broad-based reverse in rising global growth expectations.

What else

Political Watch The specter of a presidency in trouble is neither good for the markets or the country, as whenever there's the smell of blood in the water, the press scrambles for the next bombshell. That said, the Comey story for now appears to be a political, not a markets, story (and as Alaska suggests, not a Red State story, either). The market doesn’t really care until 2 parties are talking “impeachment’’ and that’s just doesn’t seem to be happening. Might bipartisan compromise be more difficult in coming months? Certainly. But as Strategas Research observes, what this could do is force Republicans to get their act in gear and actually get tax and health-care reform done.

The ‘Trump effect’ Encouraged by the president’s rhetoric, low-skilled workers appear to be seeking employment, which could help to reduce structural employment. SIS Global says as the Fed catches on to this phenomenon, it’s likely to let the economy run a bit hot by allowing the jobless rate to reach 4% (it’s at a 10-year low of 4.4% now), significantly below its 4.7-4.8% long-run base.

The bore tide ended the honeymoon in tears The bore tide is a rush of seawater that returns to a shallow and narrowing inlet from a broad bay. It can only occur in long, narrow channels. Alaska's most famous bore tide occurs in Turnagain Arm, just outside Anchorage, boasting the second highest tides in North America after the Bay of Fundy. 700 feet of silt can act like quicksand, and one poor bride lost her life as the tide came in and she drowned after each attempt to pull her out drew her in deeper.