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Weekly Review - July 14, 2014

Weekly Review - July 14, 2014

Guest Post - Monday, July 14, 2014

Summary

  • It was a light week for economic data domestically, and little new geopolitical news.
  • Equity markets sold off on the week, helped in no way by the troubles of the second largest bank in Portugal, which was having trouble rolling over its debt. In the risk-off environment, bonds gained.

Economic Notes

(-) Wholesale inventories for May rose +0.5%, which was a tenth less than the expected increase and contained a small revision down for the previous month.

(-) The NFIB small business optimism index fell from 96.6 in May to 95.0 for June (consensus called for a gain to 97.0). Expectations for the economy dropped -10 points, which represented the most significant negative component in the survey; expectations for sales and expansion plans also declined to lesser degrees. At the same time, plans to add jobs rose a bit with an increasing number of respondents noting that jobs are getting difficult to fill (again implying a bit of mismatch present in the current job market). Expectations of having to raise wages also rose (about a fifth of those responding), which was interesting.

(+) The JOLTS job openings report for May showed another gain to 4,635k, which outperformed the forecasted figure of 4,350k and is actually one of the highest readings in the 13-year history of the series. The peripheral hiring and quit rates were unchanged, at 3.4% and 1.8%, respectively, and the layoff rate dropped by a tenth to 1.1%. The job opening gains were widespread in all major sectors, which was a positive, but current figures remain low compared to previous cycles. One example of this is the ratio of unemployed to openings, which is at 2.1 relative 1.5 or so more typical of fuller employment conditions.

(+) Initial jobless claims for the July 5 week fell to 304k, which was below expectations calling for 315k. Although there were no special factors, the short holiday week might have added some noise and a few auto plan shutdowns for summer may affect these numbers a bit. Continuing claims for the June 28 week rose a bit to 2,584k, which was slightly higher than the 2,565k expected.

(0) The June FOMC meeting minutes were released, and were generally neutral in impact. Obviously, the meeting's already long over, but these sometimes provide some color into underlying thinking, opinions and potential concerns raised by committee members that aren't captured in the formal statement. In this case, the bump in inflation was acknowledged, although the committee has been backtracking on how far unemployment needs to fall to justify a tightening of monetary conditions. Also, interestingly, comments were made regarding the current low levels of volatility in a variety of financial markets. Other discussions confirmed a Fall 2014 end to QE via tapering down to zero, and future use of reinvestments, the Fed Funds rate and forward guidance to express policy.

On a more unique note, legislation was introduced in the House of Representatives last week that would, if enacted, shake up the FOMC's monetary policy process and reporting requirements—essentially to impose a mathematical 'Taylor Rule'-type (quantitative interest rate model) framework for Fed decision-making, with the important part being a requirement that deviations from this model be formally documented and/or coincide with Fed chair testimony before Congress, as well as opens the FOMC to audits by the General Accounting Office. This sounds dramatic, and doesn't appear likely to go anywhere at this stage, but it does demonstrate growing discontent among some groups, particularly with currently low interest rate policies in an increasingly normal non-emergency environment and high levels of government debt. Some of this started with Rep. Ron Paul's attempts a while back to remove the prohibition on GAO audits of the FOMC, but this recent bill goes a bit beyond that. The Fed hasn't commented, but no doubt would oppose any regulation that takes away the institution's flexibility in fulfilling its mandates

One last thing. We report on a lot of economic data week after week, some of which is worthwhile in hindsight, while other stats are revised/corrected in one way or another. While accuracy of the final figures is important, this is an imprecise blend of art and science at times—and a lot of work goes into the tabulation of these numbers by a variety of agencies and firms. We report on these data points because they affect investment markets, and often the first release is what drives near-term behavior on a week-to-week basis. But the process is never perfect. Northern Trust wrote an interesting editorial on the reality and pitfalls concerning data gathering, and corrected some fallacies. For anyone wanting more, here's the link to the article.


Read the "Question for the Week" for July 14, 2014:

With the Dow at 17,000, when is the correction in equities coming? Aren't we about due?


Market Notes

Period ending 7/11/2014

1 Week (%)

YTD (%)

DJIA

-0.68

3.46

S&P 500

-0.85

7.62

Russell 2000

-3.97

0.36

MSCI-EAFE

-2.40

3.37

MSCI-EM

-0.35

5.58

BarCap U.S. Aggregate

0.57

3.87

 

U.S. Treasury Yields

3 Mo.

2 Yr.

5 Yr.

10 Yr.

30 Yr.

12/31/2013

0.07

0.38

1.75

3.04

3.96

7/3/2014

0.01

0.52

1.74

2.65

3.47

7/11/2014

0.02

0.48

1.65

2.53

3.34

Stocks were largely negative on the week, as a lack of positive data and a scare in Portugal. From a sector standpoint utilities and consumer staples outperformed, while energy and financials lagged. Small caps were hit especially hard in a risk-off week.

The second quarter earnings season is set to begin, and expectations remain tempered, but positive. The number of negative EPS preannouncements has been shrinking, while the number of positive preannouncements has been rising (although the number of negative still outnumber positive). Strength in expectations appears to be coming from info tech, health care and industrials/materials, while consumer discretionary and financial stocks appear to be weaker going into the reporting period.

At the same time, the bulk of the ten S&P sectors are expected to have better earnings results than in the 1st quarter, which were brought down by weather effects in line with the broader economy. All-in-all, expectations for index earnings growth hover around 5% (9% year-over-year) with revenue growth of 5% year-over-year. Profit margins remain high, so those will also be likely watched quite closely. That doesn't necessarily mean a terrible outcome for return on equity, though, as the slack could be picked up by leverage or sales turnover—the latter of which is at currently very low historical levels and could certainly be improved as economic growth picks up.

Foreign emerging markets were only down a fraction of a percent, led by gains in Indonesia, Turkey and Brazil (and Argentina, perhaps helped by World Cup success). Developed markets were down a significantly larger amount thanks to peripheral Europe, specifically a -10% loss in Portugal. Investors were spooked a bit by the rumors that Portugal's second largest bank, Banco Espirito Santo, was on the path to filing for insolvency by not being able to roll over its debt. Interestingly, while stocks moved backward on the news, credit markets (who would presumably be more sensitive to such news) didn't move as much.

Bonds gained on a flight to quality, and falling yields on the order of a tenth of a percent. The best-performing segments were long government bonds, unsurprisingly, while European core and Japanese debt was also higher on the overall flight to quality. Floating rate, high yield and peripheral Europe sold off a bit on the week.

Real estate returns were led by a strongly positive week in U.S. retail and residential, while industrial/office also bucked the trend of other equities by rising a bit. Europe lost a few percent on the week, ending up in last place.

Commodities were generally lower on the week by several percent. Precious and industrial metals bucked the trend by gaining a few percent on the week—gold has performed a bit better as of late, with the geopolitical flare-ups and again lower real yields in fixed income. Industrial metals have also moved higher, with better PMI strength around the world providing a boost for materials. Coffee and grains were significantly lower (as in more than -5%)—both have seen a bit of a correction as a stronger coffee harvest in Brazil better grain crop estimates in the U.S. have led to better supply balances, and lower scarcity fears. By the way, in other mundane commodities news, the well-known Dow Jones-UBS (formerly DJ-AIG) index has changed sponsorship yet again—now, it is being referred to as the Bloomberg Commodities Index.

Have a good week.

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.

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