Weekly Update: A market with no character
I’m starting to look over at the window of opportunity for signs that it is beginning to close. No news yet. We’re getting good news with rate cuts (see below), cheaper gasoline and improving housing, and bad news on soft jobs, sagging confidence, and continued worries about the eurozone, China and the fiscal cliff (more below). Historically, this is the last week of seasonal strength for stocks, as performance tends to roll over with the start of second-quarter earnings. Second-quarter preannouncements continue to pick up, and analysts are now making more cuts than increases to estimates. Bloomberg data shows that S&P 500 companies are now forecasted to post a 1.8% dip in net income compared to the first quarter, down from predictions of a 0.5% increase as of May 11. However, analysts expect earnings to reverse in the third quarter with 3.9% sequential earnings growth. And for the fourth quarter, expectations have earnings jumping by 15%. Gulp.
If the economy continues to track its average path of 2010/2011 growth problems, as it has been doing, then the economic data will continue to weaken through September, which will keep downward pressure on the stock market. The average path then shows the economy improving in the fall. However, unlike those two periods, there are significant stimulative policy initiatives globally, and the U.S. housing market is improving. On the other hand, while the second half of a presidential election year historically has been positive for equities as investors respond to the certainty of knowing the election outcome and the belief that Congress would act on stimulus if the economy slows, neither of these two factors are at work today. Strategas Research thinks we actually may be heading for a four-month “dead spot” as businesses, consumers and investors sit on the sidelines until the fiscal cliff gets resolved, the political polling becomes less volatile, and uncertainty about Europe and China clears. (BTW, the market may not like some of these resolutions.)
It appears corporate profit margins have peaked, and given that the rise in unit labor costs is due from a drop in productivity, not a rise in consumption, businesses have limited ability to offset the bottom-line loss with top-line growth. Gulp. Another productivity surge such as that witnessed in 2009-2010 is unlikely, further spelling trouble for profits. (I’m looking over at the window). Deutsche Bank believes we are now in a “liquidity vacuum” in which politicians and central bankers have done all they are prepared to do for now, even though their interventions of the last month haven’t really reversed the negative trend in the areas of most concern—Spain and Italy. (10-year Spanish yields topped 7% this week despite a bailout and reprieve on austerity deadlines.) Oppenheimer’s technical analysis of thousands of chart patterns reveals that the current market has no character. It is neither bullish nor bearish. The only thing remarkable about the current unremarkable tape is that this is the fourth weekend in a row when little has been revealed as to the next directional move the market will take. A market with no character. So, how’s your summer going?
Positives
It’s too early to worry about recession May’s slight decline put the OECD composite leading indicator just below its long-term average and is historically consistent with 3.1% global industrial production growth, not far from its long-term average of 3.3%. While the U.S. and Japan deteriorated, strength was found in developed parts of Asia Pacific, Latin America and non-eurozone developed European countries. Also, some eurozone economies showed signs of stabilization. The tailwinds of housing and cheaper gasoline are aiding the U.S., while China—which reported second-quarter growth was the slowest since the beginning of 2009—is likely to accelerate in the second half as authorities adopt more stimulative policies. In addition, jobless claims and auto sales tend to signal oncoming recessions, and both clearly are signaling the opposite at this juncture.
Easing does it While the market was discouraged by the dearth of discussion about potentially more quantitative easing, Bank of America’s reading of the minutes from the June FOMC meeting found a larger number of Fed officials considering additional easing if conditions weaken. It said the minutes suggested even greater uncertainty and risks to the downside, indicating additional easing may occur sooner rather than later. (A lot of what I’m reading suggests the most likely meeting for additional easing would be at the Sept. 12-13 FOMC meeting.) Meanwhile, several other central banks acted to further ease in the past week, including Brazil, Japan and Korea, whose unexpected rate cut was its first since February 2009. And China’s second-quarter slowdown is expected to add more pressure to ease.
Slow job growth is still growth Employment readings over the past four months have been disappointing, but the latest Job Openings and Labor Turnover Survey (JOLTS) reflected an increase in May openings, led by manufacturers and state and local governments. The monthly survey tends to lead payroll employment and has been trending up, more consistent with a softening labor market recovery than an outright contraction. Also, while delayed auto factory shutdowns may have tainted seasonal adjustments, this week’s surprise plunge in weekly jobless claims to their lowest since March 2008 also was indicative of improvement.
Negatives
Waning confidence June’s much worse-than-expected decline put the NFIB Small Business Optimism Index at an eight-month low, while the University of Michigan’s initial gauge of July consumer sentiment dipped to its low for the year. In the NFIB survey, the percentage of owners planning to hire was just 3%, reversing three months of improved readings and definitely not typical of an expansion. Gulp! Moreover, only one of the 10 components in the NFIB index improved. The top three complaints: weak sales, taxes and “unreasonable regulations and red tape”—the latter cited before the U.S. Supreme Court’s ruling on health-care reform. “It could be worse,’’ observed King Securities. “Just imagine having to listen to Chris Berman doing the Home Run Derby over and over.”
Fiscal cliff starting to bite The latest Blue Chip report on consensus GDP estimates found nearly nine in 10 panelists believe uncertainty associated with the scheduled expiration of the Bush tax cuts will dampen consumer spending and business investment, and thus GDP growth, in this year’s second half. King Securities notes the use of temps is outpacing outright new hires by 10-to-1, a clear sign few businesses want to commit. And the Equipment Leasing & Finance Foundation lowered its expectation for 2012 capex, saying that “the European debt crisis, U.S. unemployment, and regulatory and political uncertainty continue to hamper growth.”
Hot and dry won’t cool inflation Soil moisture in Illinois, Kentucky, Indiana, Ohio and Missouri is in the lowest 10th percentile of all years since 1895. And only 40% of the U.S. corn crop is considered to be in good-to-excellent condition, a low figure which is falling rapidly. According to a plant biologist at the University of Illinois, “You couldn’t choreograph worse weather conditions for pollination. It’s like farming in hell.” Might this lead to inflation problems? Possibly, but not yet—import prices dropped much more than expected in May, with imported food prices down 2.6% year over year. This is likely to put further downward pressure on U.S. inflation rates, a view shared by Fed policymakers, which according to minutes from June’s meeting see more downside risk than upside risk to inflation. Also, while this morning’s slight increase in June PPI was above expectations, the core rate held at an inline 0.2% increase, with deflation prevalent in many categories: electricity, drug, auto and computer prices.
What else
How low rates help Consumer credit expanded at the fastest pace of the year in May, doubling expectations—an expansion that ISI Global believes is partly due to record low interest rates. While government debt continues to explode, household debt service on mortgage debt and consumer credit as a percentage of disposable personal income is at 11%, almost the same as its 1982 secular low. And despite the huge increases in federal debt, gross interest payments as a percentage of spending have been remarkably stable near 8%.
Unintended consequences ISI Global estimates that the Affordable Care Act could raise 2/3 of retail labor costs by 15%, putting 350,000 to 600,000 jobs at risk … The Doctor Patient Medical Association says 83% of American physicians have considered leaving their practices over the health-care reform law.
What does an agnostic dyslexic insomniac do? He lies in bed all night wondering whether there is or is not a dog. (Shout out to my beloved Anthony.)
