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Weekly Review - December 11, 2017

Weekly Review - December 11, 2017

Guest Post - Monday, December 11, 2017


Economic releases were mixed on the week, with weaker results in non-manufacturing ISM, factory orders and lower sentiment. On the other hand, labor markets continued to perform, with jobless claims running at cyclical low levels and the monthly employment situation report coming in stronger than expected.

U.S. stocks gained for the week, as did developed foreign markets despite the tempering influence of a stronger dollar. Bonds were generally flat, while commodities also fell due to the dollar's strength coupled with other specific factors.

Economic Notes

(-) The ISM non-manufacturing survey for November fell by -2.7 points to 57.4, which underperformed expectations of a 59.0 reading. The supplier deliveries component fell by -4 points, due to normalization of the baseline following recent hurricane activity; however, other areas also declined, including new orders, employment and general business activity. Despite the weaker month, the overall level in the upper 50's continues to point to strong economic activity on the services side.

(+) The final report for factory orders for October declined by -0.1%, which was less than the expected -0.4%. A strong report in core orders and shipments, each revised up to a +1% growth level, offset a decline in commercial aircraft, which is a spotty series on a short-term basis. Inventories ticked up only a few tenths, which was the slowest pace in about six months.

(-) The October trade balance widened to -$48.7 bil., which was larger than the expected -$47.5 bil. While exports were unchanged, imports rose nearly +2%, which was split among both petroleum and non-petroleum items. Data was revised going back six months as well, which served to raise imports and weaken export numbers.

(-) Wholesale inventories for October fell -0.5%, which slightly worse than the -0.4% drop expected, along with a revision down by a tenth for the prior month. The ratio of inventory to sales also ticked down a hundredth to 1.25.

(-) The preliminary consumer sentiment survey for December fell by -1.7 points to 96.8, below the 99.0 forecast by consensus. The overall assessment of current conditions rose by +2 points while, the expectations component of the survey declined by -4 points. Inflation expectations for the coming year rose +0.3% to +2.8%, which is the highest level in several years. Expectations for inflation over the next 5-10 years also rose a tenth to +2.5%.

(+) Initial jobless claims for the Dec. 2 ending week fell by -2k to 236k, which was below the 240k level expected. Continuing claims for the Nov. 25 week declined sharply, by -52k to 1,908k, in a reversal of the prior week. This was a bit lower than expectations calling for 1,919k. It appears that much of the post-hurricane recovery data has been filtered through, while the holidays provide some seasonal adjustment challenges, as is typical this time of year. Nevertheless, claims levels continue to remain at very low levels, which is an ongoing sign of labor market strength.

(0) The ADP employment report for November showed a gain of +190k jobs, which precisely matched expectations. Within the report, goods-producing employment declined to a pace of +36k, after rising to over twice that rate following October's hurricane recovery numbers; manufacturing jobs rose by +40k, while construction declined by -4k. As usual, service employment represented the strongest contribution at +155k, +5k stronger than the prior month, led by education/healthcare, trade/transports/utilities, as well as professional/business services, while information services jobs fell by -13k. Overall, per the closeness of the report to consensus, there were little surprises.

(+) The November employment situation report on Friday came in a bit better than expectations, and reaffirmed consensus expectations for a Fed rate hike coming up this week (which is priced in at a near-100% probability).

Nonfarm payrolls came in at +228k, which outperformed consensus calling for +195k. Gains were broad across a variety of categories, with private service employment gaining +159k, led by education/health and professional/business services. Retail and manufacturing experienced gains, as did construction and leisure. Conditions returning to normal in hurricane-affected areas helped segments such as leisure, but overall employment levels there remained below normal somewhat, with overall gains nationwide within range of recent months, when the sizeable room for error is considered. The unemployment rate was unchanged at 4.1%, which was on par with estimates, with the participation rate unchanged. The U-6 underemployment measure ticked up a notch to 8.0%. The household employment measure rose +57k, which reversed the substantial decline from October.

Average hourly earnings rose +0.2% for the month, a tenth of a percent below expectations, led by wholesale trade and transportation/warehousing, and were accompanied by some revisions downward for prior months. This brought year-over-year wage growth down a bit to +2.5%. This has continued to baffle economists looking for a faster pace, but recent Fed wage growth models have placed wage growth levels for full employment (around now) at just under this pace, so this does not appear too far off base. Average weekly hours rose a tenth to 34.5.

Earlier in the week, the final nonfarm productivity report for the 3rd quarter was unchanged at +3.0%, despite expectations of this being raised to +3.3%. Unit labor costs for Q3 showed a decline of an annualized -0.2%, which was weaker than the expected gain of +0.2%. Year-over-year, unit labor costs have fallen -0.7% over the past year, which is partially the result of compensation per hour declines from new census data sources included.

Market Notes

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U.S. stocks fared well during the week on the large cap side, while small caps lost ground. From a sector perspective, industrials and financials led with gains well over a percent, while utilities, healthcare and energy lost ground, ending in the negative. Tax reform continues to drive overall sentiment, with varying degrees of celebration and concern based on which rumors emerge from Washington surrounding the bill's status in conference committee. It appears the corporate rate may have to rise from an original 20% to something around 22%, which is still desirably low. Again, the key area of importance here is the impact on earnings for 2018 and beyond, which could be driven much higher assuming some type of tax package is passed. Stronger payroll numbers on Friday also drove equities higher.

Interestingly, a unique catalyst pushed markets downward on Wednesday as the President appeared poised to recognize Jerusalem officially as the capital of Israel and begin moving the U.S. embassy there, from its current location in Tel Aviv. While seemingly innocuous from a geographic standpoint, this gets to the heart of the Israeli-Arab conflict, the desire of Palestinians for their own state, and thus has been unpopular with Arab neighbors.

Foreign stocks performed decently in local terms, with gains over a percent on the week in Europe and U.K., but a stronger dollar pulled these back to earth, and turned gains into losses for Japan. Generally, in line with what's been seen in recent weeks, politics have been relatively benign, such as in Germany where discussions to create a coalition have again been opened and economic data has been demonstrative of continued growth. Brexit negotiations have been moving along, with a deal in the U.K. agreed upon that includes a financial settlement to the EU that could reach nearly £40 billion. Emerging markets fared weaker than developed nations during the week, but retain their year-to-date outperformance.

U.S. bonds were flat with minimal changes in the treasury yield curve, with high yield and bank loans performing a few basis points better. Foreign bonds performed similarly in local terms to U.S. debt, but lost ground when accounting for the much stronger dollar during the week.

Municipals, however, gained sharply as investors snapped up new issuance for unique areas such as private activity bonds, which may lose their special tax-exempt status upon completion of tax reform. In fact, a sizable portion of the muni universe may disappear upon changes in rules concerning such public/private bonds (such as for stadiums, airports and hospitals) as well as general muni 'refunding' activity, where new bonds are issued to replace older issues in order to take advantage of more favorable financing rates. The private activity muni bond market contains carryover into infrastructure, which could affect how any broader plans are ultimately financed, when a larger-scale proposal is expected to be released by the administration in January.

Real estate pulled back last week in the U.S., with negative results also in Asia but gains seen in Europe. Mortgage REITs experienced a solid week, continuing a strong year-to-date performance of nearly +20% upon a gradually rising rate environment; residential and industrial lagged for the week with negative returns. Foreign REITs have continued to outperform the U.S. group, with help from a weaker dollar but also stronger fundamentals and M&A activity globally in the real estate space.

Commodities generally lost ground on the week, on the heels of a much stronger dollar—with all key segments declining several percent. Energy fared better than most, although still lost ground as crude oil prices dropped by -3% mid-week due to a surprise gain in unleaded gasoline inventories and natural gas falling -10% upon more reports of a possibly warmer-than-forecast winter season across the U.S. Industrial metals, particularly copper, also experienced weakness with concerns over Chinese demand on a forward-looking basis and higher supplies.

Sources: FocusPoint Solutions, American Association for Individual Investors (AAII), Associated Press, Barclays Capital, Bloomberg, Deutsche Bank, FactSet, Financial Times, Goldman Sachs, JPMorgan Asset Management, Kiplinger's, Marketfield Asset Management, Minyanville, Morgan Stanley, MSCI, Morningstar, Northern Trust, Oppenheimer Funds, Payden & Rygel, PIMCO, Rafferty Capital Markets, LLC, Schroder's, Standard & Poor's, The Conference Board, Thomson Reuters, U.S. Bureau of Economic Analysis, U.S. Federal Reserve, Wells Capital Management, Yahoo!, Zacks Investment Research. Index performance is shown as total return, which includes dividends, with the exception of MSCI-EM, which is quoted as price return/excluding dividends. Performance for the MSCI-EAFE and MSCI-EM indexes is quoted in U.S. Dollar investor terms.

The information above has been obtained from sources considered reliable, but no representation is made as to its completeness, accuracy or timeliness. All information and opinions expressed are subject to change without notice. Information provided in this report is not intended to be, and should not be construed as, investment, legal or tax advice; and does not constitute an offer, or a solicitation of any offer, to buy or sell any security, investment or other product. FocusPoint Solutions, Inc. is a registered investment advisor.

Notes key: (+) positive/encouraging development, (0) neutral/inconclusive/no net effect, (-) negative/discouraging development.

Additional Reading

Read the previous Weekly Review for December 4, 2017.

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