LSA Connect

It was an eventful week in regard to economic releases, so we tried to keep the summary relatively succinct (sometimes a tall order).

(+) Perhaps the biggest news was the release of real 2^nd quarter GDP.  Estimates had been continually downgraded over the past few weeks, to a consensus level of +1.0% or so, but even a sub-1% number didn’t appear to be out of the question.  So, the actual figure of +1.7% was quite a positive surprise for markets.  Personal consumption gained +1.8%, which surpassed expectations by two-tenths of a percentage point, while nonresidential fixed investment gained +4.6% and residential investment rose over +13%.  Per the numbers, housing and peripheral effects from housing-related industries are significant pieces of the growth puzzle.  Federal spending declined -1.5% (not as bad as feared, though), as defense cuts stabilized somewhat—poor defense spending has been a largely negative drag on economic growth as of late.  Imports rose about twice as much as exports (roughly 10% vs. 5%), so the trade deficit widened a bit.  Exports have been hit a bit with a much stronger U.S. dollar as of late.  Inventory accumulation helped by adding almost a half-percent onto the final GDP number.

Additionally, historical revisions (coupled with a methodology change) lowered annualized GDP growth by about a third of a percent from the past year—bringing year-over-year economic growth to +1.4%.  It also lessened the severity of the 2008-2009 recession slightly, as well as raised 2011-2012 recovery data somewhat.  At the same time, growth over the past year was lowered a bit, so, all-in-all, this had the overall effect of ‘smoothing’ the extremes of the past few years.  These are Continue reading →

The FOMC completed their July meeting today with little fanfare.  Their official statement alluded to ‘modest’ economic growth as of late (downgraded from ‘moderate’), reflecting recent weaker figures, as well as an acknowledgement of improved but continued struggles with high unemployment, as well as federal budget tightening and weak overseas growth.  For now, the QE bond buying program will continue, with no hints given as to its end (it may have been assumed enough damage was done between meetings in regards to policy clarity to encourage even more carefully controlled language than usual).

While ‘taper talk’ spooked markets in recent months, the reality of this is that tapering will happen—although the timeframe is still up for debate.  Some economists think it could be as soon as September, others assume December-January or even beyond.  It’s not possible to tell yet, and decisions will be dependent on economic data coming out over the next several months.  Despite some strength this spring, summer data has fallen off a bit.  Of course, the stronger the data, the more likely and more quickly tapering will occur; the weaker the data, the farther the timeframe may get pushed out a few meetings further.

Underlying this are interest rate expectations, which have leveled off from highs, but remain under upward pressure.  Rates in the short term are notoriously difficult to anticipate, but over the long run, tend to have a loose correlation with nominal GDP growth.  So, now, roughly 1.7% inflation + 1.7% real GDP growth gets us to 3.0-3.5% on the 10-year Treasury in a ‘fair value’ sense, assuming some room for error in either direction.  Expect more information from us regarding management of fixed income positions in this type of environment, in an ongoing evolution to an even more ‘defensive’ posture with long-term expectations for rising rates.

Lastly, we are likely to see much more press and discussion regarding the potential successor to Ben Bernanke as Chairman.  While early yet (and early predictions tend to be largely irrelevant, per past experience in reviewing these chairmanships), it appears current Vice Chair Janet Yellen and former White House economic advisor and Treasury Secretary Larry Summers are the leading candidates.  Yellen’s views appear largely in keeping with the current administration, so may provide a higher level of consistency in terms of soothing market fears.  Summers, on the other hand, is a controversial character and considered to be a bit of a ‘hothead’ by some, and has also been more vocal about of the potential downsides of qualitative easing in recent years.  So, an appointment in this direction could make markets a bit nervous.  But much more to come.

(+/0) Durable goods orders for June came in a bit better than expected, at a gain of +4.2% versus a consensus increase of +1.4%.  The surprise was led by a +31% increase in non-defense aircraft orders during the month, so, removing spottier defense and aircraft, core durable goods order growth rose +0.7% (relative to an expected gain of +0.6%) and May core growth was revised up a percentage point to over 2%.  Core cap good shipments fell -0.9% in June, which underwhelmed based on the forecast of +1.1% growth.  This latter measure is somewhat disappointing, as shipments translate into the government’s GDP estimate…something that appears to be shrinking by the week insofar as Q2 is concerned (now stand to be somewhere between 0.5-1.0%.  Inventory investments for June were generally in line with what was expected.

(-) The Richmond Fed manufacturing index took a slight turn downward this month, falling from +7 in June to -11 in July (compared to an expected +9 reading).  New orders, shipments and average workweek length all declined, while employment remained unchanged with a neutral ‘zero’ score.  This region performed much worse than the Empire and Philadelphia Fed surveys that showed more encouraging characteristics; however, the Richmond district, that encompasses the greater Washington D.C. metro area, tends to reflect defense spending to a greater degree (and we know that’s not been a solid contributor to growth as of late).

(+) The final University of Michigan consumer sentiment survey results were revised up positively, from the initial estimate of 83.9 to 85.1 for July (forecast being 84.0)—to a new high for sentiment in the post-recession period.  For the month, consumer expectations about the future rose a bit, while assessments of current conditions fell by a small amount.  Inflation expectations fell slightly (one to two tenths of a percent) for the short- and long-term periods, hovering just below 3%.  Consumer sentiment is certainly continuing to improve, although it is fickle and news-based.  From a broader perspective, higher readings here ultimately translate to better buying patterns and economic bullishness—both of which have been difficult hurdles in recent years due to job concerns and investment market volatility all too fresh in many minds. Continue reading →

It was a week with a few interesting economic reports being released.  The bottom line with the bulk of recent releases is that estimated GDP for the second quarter has fallen from close to 2% to perhaps a shade below 1%, with lower net exports (weaker international demand and a strong dollar) and several other factors such as lower inventory buildup.

(0) The consumer price index for June rose +0.5% on a headline level, which was slightly more than the +0.3% expected.  The core CPI that excludes energy/food rose +0.16%, which was just a shade lower than the estimated +0.2% (if even by a few basis points).  This brought the year-over-year inflation numbers to +1.8% and +1.6% for the headline and core, respectively.  For the month, higher energy prices on a seasonally-adjusted basis formed the basis for the increase (of over 3% for that segment).  In the core area, price gains in apparel and medical care services served as the strongest inflation contributors.  Overall, a continuation of tempered reports, but inflation has risen slightly to a level closer to a recent-normal 2%.

(-) Retail sales for June disappointed somewhat, growing only +0.4% versus the +0.8% expected.  The headline figure was aided by an almost 2% rise in auto sales, while the ‘core’ report that removes more volatile components (autos, gasoline, building materials) gained a practically-flat +0.1% for the month—lower than the +0.3% anticipated—in addition to a two-tenths revision downward for May.  Underneath the core figures, grocery store sales fell by -0.2%, and department store/general merchandise rose by +0.1%.  Smaller groups of apparel and furniture showed slightly better growth.

(-/0) Business inventories rose a bit for May by +0.1% (versus a flat prediction), but were tempered a bit by revisions downward in April’s growth.  Retail inventories, which were newly released, rose +0.6% (half of which were autos).  This report, along with retail sales, was largely responsible for recent downgrades to estimates for Q2 GDP.

(0) Industrial production rose +0.3% June, which was right in line with consensus.  The core manufacturing category rose in line with the broader number, auto and machinery production were up a percent and a half each, while information processing equipment production fell by a percent.  Capacity utilization for June was 77.8%, which was a tick above estimates. Continue reading →

(-) Wholesale inventories came in weaker than expected for May, falling -0.5% versus an anticipated gain of +0.3%.  Auto inventories were flat (in contrast to making positive contributions in recent months), while machinery and nondurable goods fell nearly a percent each.  The inventory-to-sales ratio declined to its lowest level in the last year, which is not necessarily a bad thing—and represents either sales rising (which they have been) and inventory build-up remaining tempered and not overshooting demand.

(0) Producer price inflation (PPI) for June rose +0.8%, compared to a forecast of +0.5% (taking the year-over-year headline number to +2.5%).  The core component of the index sans energy and food rose +0.16%, which just surpassed the expected +0.1% (+1.7% year-over year).  The headline number was dictated by a +7% rise in seasonally-adjusted retail gasoline prices, while auto prices rising +1% underpinned core inflation results.  While a bit higher than in previous months as of late, these price measures remain contained.

(0) Import prices fell -0.2% for June, relative to a forecast of no change, making this the fourth straight month of declines.  The key areas of consumer and capital goods both declined slightly in keeping with the broader number; the primary factor appeared to be a substantial drop in prices from Japanese imports due to a weaker yen.

(-) The University of Michigan consumer sentiment survey fell from the final June number of 84.1 to 83.9 in July (compared to consensus expectations of 84.7), but remained near post-recession highs.  Consumer assessments of current conditions improved quite a bit; however, future expectations deteriorated.  Underlying these thoughts, three-quarters of consumers now believe interest rates will rise over the next year (previously, only half thought so), which may play a factor in consumer home buying before rates are expected to rise—according to anecdotal comments from the survey, as well as what makes logical sense from an economic standpoint.  Inflation expectations for the coming year ticked up to 3.3%, which is just above the long-term 3% baseline, but expectations for the longer-term beyond one year stayed around that median.  We look at this because ‘inflation expectations’ can be an important, yet sporadic, predictor of consumer behavior. Continue reading →

Despite it being a fairly quiet Independence Day week, a few significant releases made the news and affected markets later in the week.

(+) The ISM manufacturing index came in a bit better than expected, rising from 49.0 in May to 50.9 for June (vs. a forecasted 50.5 number).  Forward-looking new orders and production both improved, but employment fell and inventories rose a bit on the negative side, as did raw materials prices.  Manufacturing employment fell for the first time since Fall 2009 (more on that later).  The best industries from a growth standpoint were furniture/related products, apparel, electrical equipment and appliances (several not a surprise, considering the housing recovery); while the worst were computer/electronics, chemicals and transports.  From anecdotal survey comments in a variety of industries, business seems to be growing…albeit slowly.

(-) Conversely, the ISM non-manufacturing index fell, somewhat unexpectedly, from 53.7 in May to 52.2 in June—versus a forecasted 54.0 result.  The forward-looking new orders dropped, as did overall business activity and new export orders.  However, the employment component posted a solid gain.  Interestingly, the non-manufacturing index was the mirror image of the manufacturing version.  Anecdotal comments from respondents in these industries reflected a more challenging and nuanced environment, with cost savings measures playing a role in profitability, greater volatility in customer behavior, and uncertainty surrounding the healthcare reform issue. Continue reading →

(-) The third and somewhat final estimate of first quarter GDP was revised downward—and quite dramatically—from the second estimate of 2.4% down to 1.8%.  The revision was based entirely on a reduction in consumer services consumption growth, which ended up accounting for essentially the full 0.6% in question (a component that fell from 3.4% growth in last GDP release to only 2.6% in this one).

Although relatively dramatic, measures of growth for previous quarters don’t significantly change how economists view upcoming periods.  Second quarter GDP looks to be largely similar to that of the first quarter—likely around or just below the 1.5-2.0% range.  The second half of the year holds a bit more promise, as estimates are a bit higher (more like 2.5-3.0%), but the overall year-over-year figure looks not unlike the ‘normal’ conditions for the past 15 years, depicted in the chart below.  And, in order for Fed estimates to play out for their ‘taper’ plans, growth might need to surpass 3% for the next several quarters.  For 2014, estimates begin to rise above 3% more consistently.

(+) Durable goods orders for May came in slightly better than expected, up +3.6% relative to a consensus +3.0% gain.  Removing transports from the equation brought the gain in orders to +0.7%, compared to expectations of a flat report.  Consequently, the difference implies a big move in transports—in this case a +50% gain in non-defense aircraft, and more specifically, Boeing orders (a reminder of how fickle and nichy these series can be—when one company’s products are involved).  Core shipments rose +1.7% in May, which was partially due to a revision lower for April. Continue reading →