He's got it going on
In Chicago this week, where I love to go—for the food, coffee shops, one of my favorite regional consultants, my daughter! And the spirited advisors there. Several gentlemen, willing to step away with me from consensus views, had me thinking yes, he’s got it going on! As in, “Wouldn’t a Fed rate cut be a worrying event?” Agreed! And in response to my suggestion that Main Street doesn’t care about tariffs and my canvassing whether their clients are calling with such concerns—“No.” Political discussion came up in most meetings, though. “I don’t like government by Twitter anymore.” Trump “is a fraud—a horrible person.” “This president has caused such a divide!” “I don’t think there’s a chance he doesn’t get reelected.” And several advisors worried about MMT, which one dubbed “pop culture.” A millennial had an interesting idea—“We’ve got to get a millennial in office. They will fix Social Security! (By taking it to the GenXers). The Purge!” MMT, or Modern Monetary Theory, a likely topic in the upcoming presidential debates, at its core puts the government, not the Fed, at the center of managing the economy. Clearly, that’s not the case today. With policymakers set to meet next week, futures continue to price in three rate cuts by the end of 2019. Why?? Wolfe Research says this only happens when weekly jobless claims start running above 300,000 and Institute of Supply Management surveys show manufacturing consistently in contraction territory. Neither is the case today. In fact, the level of claims remains near multi-decade lows.
If I had a nickel for every time I heard the word, “tariffs,’’ I could go shoe shopping. The consensus view—formed by a daily dose of “trade-war crisis” stories—is for growth to remain sluggish, if not weaken further. This has strategists lowering earnings estimates and S&P 500 targets, even as Dudack Research observes, forward earnings are looking good. Isn’t that what the market ultimately reflects? Earnings? All of this downgrading is in reaction to President Trump’s escalating trade rhetoric and the 24/7 news media’s breathless response, rather than an unbiased view of domestic economic trends. Oh, how the winds have changed, Leuthold muses. Just a little over eight months removed from Fed Chairman Powell’s “long way from neutral” statement, telegraphing several more rate hikes and opening a 20% trapdoor in the S&P, the market is boiling down every economic data point to an up-and-down vote on Fed rate cuts, seeking to remind the Fed of its real mandate—to keep asset prices high! Ha! Never mind consumers don’t care about tariffs. Why would they? Despite the media’s obsessive focus on tariffs’ supposedly negative impact, import prices are tumbling and inflation is staying low (more below), job openings are at an all-time high, unemployment is at a 50-year low, mortgage applications are soaring, consumer confidence measures are rising and retail sales are accelerating (more below). U.S. household net worth surged 4.5% in Q1 and real wages have risen 1.4% in the last 12 months, vs. just a 0.2% annual increase as of May 2018. Similarly, even as optimism among Business Roundtable CEOs fell, the executives nonetheless raised their outlook for U.S. growth this year. And the mood among small businesses is downright giddy (more below).
It appears the central thesis of market skeptics is multiple political risks (U.S.-China, Brexit and Trump generally) will undermine corporate and financial markets’ confidence sufficiently to lead to a self-sustaining contraction. This consensus view has investors defensively positioned—the bulk of recent new highs is concentrated in defensive sectors. Yet the long-term yield curve is steepening, even as the front-end of curve has inverted (more below). This steepening suggests the growth outlook is accelerating, not slowing. The collapse of the 10-year U.S. Treasury yield over the last seven months to below 2.10% is helping business cost pressures ease considerably—annual unit labor cost inflation has slowed from 2.1% in Q1 2018 to -0.8% in this year’s first quarter. Material costs also have plunged—the S&P’s measure of commodity prices is down 20% since last October’s high. All of this is good for margins. Liquidity is strong, with real growth in M2—a broad measure of money supply that includes cash, checking accounts and easily convertible deposits and investments—doubling since the last half of 2018 and currently rising at more than a 6% annualized rate. And fiscal stimulus abounds. The combination of tax cuts and increased defense spending has pushed federal deficit spending as a share of nominal GDP to 4.7%, up 1.3 points since the start of 2018. Yet the market is expecting the Fed to hop on the globally synchronized easing parade with an “insurance cut.’’ I don’t get it. My favorite comment this week came from a brilliant woman advisor who reads my weekly. “I love your comments on shoes.” Now, she has got it going on!
- Consumers are in a seriously good mood … This morning’s read showed May nominal retail sales up almost 60% above their recession low and almost 40% above their 2007 peak. The same metrics for employment are up almost 15% and 10%, respectively. Yet inflation remains low and slowing. Consumers also are happy—the Bloomberg gauge is close to a record high and levels last reached during the tech boom.
- … so are small businesses The National Federation of Independent Business monthly survey found small business confidence surging, with capital expenditure (capex) plans and expectations for sales, business conditions and expansion all advancing strongly. Considered a better read of Main Street than Wall Street, the gauge hit a 7-month high, just a few points off its peak. Separately, Manpower’s quarterly survey of hiring demand rebounded to a 13-year high, while commercial and industrial loans at U.S. commercial banks hit a record.
- Tariffis, schmariffs All of this week’s inflation readings came in below forecasts, with year-over-year (y/y) headline and core consumer prices dropping to 1.8% and 2.0%, respectively. Producer prices followed a similar path, and both y/y import and export prices plunged.
- Gloomy CEOs Unlike their small business brethren, the outlook among Business Roundtable CEOs fell a fifth straight quarter on "unease about the direction of U.S. trade policy and uncertain prospects for global growth." Capex and hiring plans moderated, as did expected sales growth. Even so, the CEOs raised projections of real GDP growth this year to 2.6% from 2.5%. In a separate Duke University/CFO Magazine survey, optimism among CFOs improved for the first time in five quarters, even though they expect a recession to start sometime next year.
- Trillion-dollar deficits as far as the eye can see The federal government posted a budget deficit of $207.8 billion in May, raising the year-to-date total to $738.6 billion, up nearly 39% y/y. The Treasury projects the deficit will hit $1.092 trillion by the end of September, which would be the biggest fiscal-year gap since 2011.
- Why wage growth is so-so Y/y job growth in May’s establishment and household surveys rose 1.6% and 0.8%, respectively, well below their long-term average growth rates of 1.8% and 1.5%. This weakness has been true throughout this cycle, Dudack Research says, as the normal rebound in employment seen after a recession never appeared in 2009. Looking at the past 10 cycles, it ranks the current expansion near the bottom in terms of job growth, which is one reason why wages have failed to rise to a 4% annual rate that would be typical for this stage of a cycle.
Love the Wall of Worry Investor sentiment is stretched to the downside, with the percentage of American Association of Individual Investors bulls less bears down three consecutive weeks by 10% or more, in line with levels in September 2017, March 2018 and December 2018—all major buying opportunities. Global equity vs. bond flows also are at a 3 standard-deviation extreme, the lowest level since Bernstein began measuring it in 2004.
Inversion not yet a worry The 10-year/3-month inversion of the Treasury yield curve is solely a function of plunging 10-year yields, not spiking 3-month yields. Looking at the seven previous 10-year/3-month inversions since 1966, FundStrat found six of seven to be the result of 3-month rising above 10-year yields. Those were recession signals. The sole exception, it said, was 1998, when the Russian debt/Long-Term Capital crisis triggered massive risk aversion and a plunge in the 10-year yield. This ultimately proved to be a major buying opportunity.
Google was brought up many times during my Chicago visit Are Google/Siri/Alexa actually listening to our conversations? A colleague on vacation with extended family tried an experiment. “I love Skittles, love, love, love Skittles.” The next day ads for Skittles appeared on all of the family’s phones! (Check out the Amazon Echo Silver Saturday Night Live skit—I laughed until I cried.)