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Weekly Review - December 18, 2017

Weekly Review - December 18, 2017

Guest Post - Monday, December 18, 2017


Economic activity for the week centered on the Federal Reserve, which raised short-term interest rates another quarter-percent, as expected. Retail sales gained more sharply than expected, while industrial results were mixed and inflation came in weaker than consensus though several measures. Labor force gains remain robust.

U.S. equities gain for the week, with positive sentiment related to tax reform. Foreign markets were mixed on net, falling behind U.S. stocks for the week with little change in the dollar. Bonds on net made slight gains, with the treasury yield curve flattening further. Commodities were generally little changed with crude oil experiencing a quieter week.

Economic Notes

(0) As reported earlier, the FOMC meeting that ended Wed. resulted in an increase in the fed funds rate by a quarter-percent. Projections released by the committee did not show meaningful change, but, based on comments from Chair Yellen during her post-meeting press conference, implied that members took pending tax legislation effects into account. Otherwise, labor markets are expected to improve further (the unemployment rate revised from 4.1% to 3.9% for 2018), estimates to economic growth were enhanced (from 2.1% to 2.5% for 2018) and a tempered pace of inflation was noted—for the latter, some committee members dismiss this as 'transitional', while others see it as a persistent phenomenon—so no changes in that argument. The release also implied three hikes in 2018, two in 2019 and a single hike in 2020, but these estimates are naturally less accurate the further we move out in time.

(+) Retail sales rose +0.8% in November on a headline basis, which sharply outperformed consensus estimates calling for a +0.3% increase. The core/control version gained at a similar rate, beating forecasts calling for +0.4%. In addition, sales levels for several prior months were revised higher several tenths of a percent, which was taken as a strong positive. Unsurprisingly due to the time of year, non-store retail (primarily online activity) led, with +3% gains, followed by electronics/appliances up +2%—it appears the launch of the new iPhone played a role in this, as it has in prior years. Other areas of strength included sporting goods/hobby/books/music, food/drink and clothing. Considering that a substantial percentage of annual retail activity occurs in the month or two around the holidays, this is an especially-watched metric, notably in light of earnings assessments for retail firms deemed in the path of Amazon's current and next initiatives. This was a strong report, and bodes well for holiday activity.

(0/-) The Empire state manufacturing survey for December fell -1.4 points to a still-strong +18.0, albeit not as robust as the +18.7 level expected. Underlying components in the survey came in mixed, but were not dramatically changed, including stronger shipping but weaker new orders, inventories and employment.

(-) Industrial production for November rose +0.2%, which was a tenth lower than the growth rate forecast. Manufacturing production as a key component, was also up +0.2% for the month, while electric utilities and consumer goods output declined—notably due to weaker production of motor vehicles. Capacity utilization rose by +0.1% to a level of 77.1%

(0) The producer price index for November rose +0.4% on a headline level and +0.3% on a core basis, each about a tenth of a percent higher than expectations, and keeping with rates of increase for the prior several months. The difference for the month and key driver of producer-side inflation was a nearly-5% increase in energy prices, which lifted the headline number. Year-over-year, the final demand PPI index rose +3.1%, while the core index, less food energy and trade, rose +2.4% for the period.

(0) The consumer price index for November rose +0.4% on a headline level, but only +0.1% on a core measure, removing food and energy from the calculation. These were just slightly below expectations. The details included a sharp impact from energy commodity prices, such as unleaded gasoline, which rose +7% for the month, while apparel prices fell over -1% to affect the core measure. Used car prices gained +1%, which was perhaps related to a scarcity in the post-hurricane Gulf State region, while medical care and shelter were little changed. Year-over-year, CPI rose +2.2% and +1.7% on a headline and core level, respectively, which on par with recent trend and near the Fed's inflation mandate.

(0) Import prices rose +0.7% in November, which was in line with expectations. However, the change was entirely due to a +7% rise in petroleum prices, leaving the price index ex-fuels unchanged on net. In other areas, industrial supplies prices gained +4%, while food/feeds/beverages fell by nearly -2%.

(-/0) The Federal government's JOLTs job openings release for October showed a decline to 5,996, which fell below the median forecast of 6,135k, with much of the drop was accounted for by weakness in trade/transports/utilities. However, the September numbers were revised up by +84k, which offset a good deal of the negativity. The rate of job openings fell by a tenth to 3.9% for the month, as did the layoffs rate to 1.1%. Otherwise, hiring rose +0.2% to 3.8%, and quits were flat at 2.2%. Overall, the report shows generally strong underlying labor conditions.

(+) Initial jobless claims for the Dec. 9 ending week fell by -11k to 225k, which was below the unchanged 236k level expected by consensus. Continuing claims for the Dec. 2 week also fell, by -27k, to 1,886k, which was below the 1,900k level anticipated. No special events were reported by the DOL, other than larger declines occurring in larger states (TX and CA, the latter possibly related to fires) where claims had been elevated in recent weeks. Overall, levels remain very low, a positive for labor activity.

Read the "Question of the Week" for December 18, 2017

What to make of the rise in Bitcoin and other cryptocurrencies?

Market Notes

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U.S. stocks experienced strong gains for the week, despite some volatility mid-week as tax reform legislation made its way through Congressional committees, being held up by final demands, but ended closer to final passage and the President's signature—far sooner than expected. Debate continues about the quality of the bill and benefits for personal taxpayers, but corporate tax rates are expected to be brought down dramatically, which has been the key driver behind market optimism. From a sector standpoint, telecom and technology stocks led the way with gains well over a percent, followed by health care and consumer staples. Utilities and materials lagged with losses for the week.

Foreign markets gained slightly, to a far lesser degree than domestic stocks, with U.K. and emerging markets gaining, Japan flattish, while Europe pared back a bit on the week. Europe continued to be affected by U.S. tax reform negotiations, as well as index reconfigurations and options expiration activity. The ECB and Bank of England also met last week and decided on no changes to their respective interest rate policies; however, narrative from both central banks struck a continued optimistic tone. In emerging markets, Russian equities gained sharply as their central bank cut rates by a half-percent to 7.75%, to spur economic growth partially due to contained crude oil prices, revenues related to which represent a substantial budgetary input.

Interestingly, the BOE finds itself in a more unique position among central banks as of late in that U.K. inflation has moved above their targeted range, to +3.1% on a year-over-year basis. Some of this can possibly be blamed on weakness in the pound while Brexit fears were at their strongest a year ago (a weak currency raises the price of imports, which can 'import' inflation along with it); however, the pound has since recovered a bit since that time. U.K. bonds continue to offer negative after-inflation real yields, so this recent spike inflation isn't expected to be permanent

U.S. bonds fared decently with minor gains, as the yield curve again flattened further—short rates rose in keeping with Fed movements and several hikes expected next year, while longer rates fell due to lower inflation readings. Investment-grade credit fared better, as yield spreads continued to fall, while bank loans and high yield lost a bit for the week. The '10 minus 2' year treasury differential, an often-reviewed measure of yield curve shape, declined to 0.51%. The November differential of 0.65% was the flattest since Oct. 2007, although that occurred during a normalizing of the yield curve wider from negative levels (which preceded a recession) in early 2007. Interestingly, yield slopes were near this level for much of the latter 1990s, so curve relationships can be very time-dependent.

Foreign bonds were flattish with minimal impact from a little-changed U.S. dollar. U.K. bonds rallied with rates there falling somewhat, while debt in emerging market regions performed similarly to that of developed nations.

Real estate securities gained over a percent on the week in Asia and the U.S., outperforming other equity assets, while European REITs were flat. Domestically, retail and regional malls continued to bounce back with multi-percent gains on the back of stronger-than-expected sales numbers for the holiday shopping season. Apartments trailed with small losses, per recent trend, as residential supply is rising to meeting demand—putting a damper on future expectations.

Commodities were little changed on the week, with more extreme readings from a variety of subcomponents netting each other out. Crude oil was little changed for the week, down a few cents to $57.33, natural gas prices plummeted due to continued expectations for a warmer-than-expected coming winter season and ample inventory, while industrial metals again experienced gains.

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 11, 2017.

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