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Weekly Review - March 5, 2018

Weekly Review - March 5, 2018

Guest Post - Monday, March 05, 2018


Economic data for the week included strong readings for manufacturing, consumer confidence and jobless claims, a slight revision downward in prior-quarter economic growth, but declines in durable goods and new/pending home sales.

Equity markets suffered due to uncertainty surrounding potential new trade restrictions. Bonds were little changed with interest rates holding steady, but gained slightly as assets moved away from risk. Commodities lost ground following declines in crude oil prices, which was tempered a bit by gains in other segments.

Economic Notes

(0) The 2nd edition of 4th quarter GDP was revised down a tenth of a percent to +2.5% from the initial read last month, largely as expected. A lower contribution to inventories were the primary catalyst, which remains the typical swing variable, and could be pushed into the Q1, as is often the case with that metric, adding to growth in Q1. On the more positive side, personal consumption growth was left unchanged at +3.8%, despite expectations for a bit of a downgrade. Core PCE inflation measures rose slightly, to a year-over-year rate of +1.5% for the period, although the quarterly inflation rate ran at a faster pace. Other adjustments were less notable.

Interestingly, the 'GDPNow' model put out by the Atlanta Fed, and meant to be a purely mathematical real-time indicator of growth on a weekly basis, showed Q1 GDP peaking early in the quarter at over +5%, but has since vacillated between +2.5% and +3.5%. This appears to be largely due to declines in consumer spending and residential investment. Other economist estimates have been falling in the lower to mid-point of that range at 2.0-3.0%.

(0) The January personal income report showed a gain of +0.4%, which surpassed forecast by a tenth, with stronger gains in wage/salary income. Personal spending rose in line with expectations at +0.2%, bringing the personal savings rate up +0.7% to 3.2%. The headline and core PCE price index rose +0.4% and +0.3% for January, the year-over-year gains adjusted to +1.7% and +1.5%, respectively—which remain below the Fed target.

(-) Durable goods for January declined by -3.7%, which disappointed relative to an expected -2.0% drop. The results were led by an over-20% decline in both defense and aircraft orders, which tend to be the most volatile components of the series and often swing wildly on a monthly basis. Excluding these segments, core capital goods orders fell by a less severe -0.2%, but still disappointed compared to the +0.5% increase forecast. Core capital goods shipments also fell short of expectations, only gaining +0.1% for the month instead of +0.3%.

(+) The ISM manufacturing index for February rose +1.7 points to a cycle-high level of 60.8, the strongest result since May 2004, which ran counter to expectations calling for a minor decline of a fraction of a point to 58.7. Key components new orders and production both fell by a few points, while the employment metric gained over +5 points, and inventories also improved. While anything in this range of ISM points to a solidly expansionary manufacturing sector, a figure over 60 is especially strong.

(0/-) The Chicago PMI for February fell -3.8 points to 61.9. This is the lowest reading since August of last year, but remains quite robust and expansionary. New orders and production fell, as did order backlogs and inventories to some degree. Employment indications also fell somewhat. In the month's special question, responders were asked about the impact of higher input prices on operations, with roughly half noting that this would be a negative, while the other half anticipating little effect. It appears weather may have played a role in some of the monthly results, but the overall metrics, at over-60, remain very robust.

(-) Construction spending for January was unchanged, despite calls for an increase of +0.3% by consensus; however, spending levels for the two prior months were revised up by over a half-percent each. In the current month, residential construction was mixed, a slight gain on the private side and nearly -5% decline on the public end. Non-residential construction fell for private and gained for public, having the opposite trend. Year-over-year, total construction has risen +4%, with public construction spending for residential and non-residential each leading the way at nearly +11%.

(0/+) The December edition of the S&P/Case-Shiller home price index rose +0.6%, which was on track with expectations. All 20 cities experienced gains yet again, led by Seattle, Denver, San Francisco and Las Vegas—each of which gained over a percent for the month. Year-over-year, the pace of gains ticked down a bit to +6.3%, which shows a continued strong trend and evidence pointing to a housing shortage in certain key cities.

(0/+) The FHFA house price index rose +0.3% in December on a seasonally-adjusted basis, which was just under the median forecast calling for a +0.4% gain, and up +1.6% for the 4th quarter. Two-thirds of the nine national regions experienced gains, led by near-one percent results in the South Atlantic and New England areas, while the upper Midwest saw the largest decline. Year-over-year, all but one state (MS) experienced price gains, led by the Rocky Mountain and West Coast regions, with the national index gaining +6.7%. The FHFA index is far broader than the Case-Shiller, which only focuses on 20 key cities where much of the real estate excitement is focused, but the upward trend is similar for the past year, helped by relatively low mortgage rates and lower supply.

(0/-) New home sales for January fell -7.8% for the month to a seasonally-adjusted annualized 593k units, which disappointed relative to an expected minor gain to 647k; however, several prior months were revised upward by over +40k. Regionally, the results varied, as the Midwest and West experienced gains, while sales in the South fell sharply. Inventory ticked just slightly higher to 6.1 months supply. Seasonal factors may have played a role, such as poor weather in some areas like the South, as well as higher interest rates and potential for a less-compelling case for home buying after tax reform, but it would take a longer string of data months to confirm such a trend.

(-) Pending home sales for January fell by -4.7%, which also disappointed compared to an expected minor increase of +0.5%; in addition, December sales were revised down by a half-percent to flat over the month prior. Pending sales fell in every region, with the Northeast and Midwest decreasing the most—in the high single-digits. Hence the name, this metric is often useful in anticipating levels of existing home sales for the coming few months.

(-) The advance report of the January trade balance widened by -$2.1 bil. to -$74.4 bil., which is wider than the -$72.3 bil. level expected and represents the widest deficit in a decade. Imports fell by just under -$1 bil., which was offset partially by a -$3 bil. decline in goods exports and volatility in a few other categories. Over the past quarter, goods imports and exports are both up in the double-digits on an annualized basis.

(0) The final edition of the February Univ. of Michigan index of consumer sentiment report showed a slight decline of -0.2 points to 99.7, which was still stronger than the 99.5 level expected. Assessments of current economic conditions as well as future expectations both ticked down slightly to an identical degree. Inflation expectations over the next year were unchanged at 2.7%, as were the expectations for 5-10 year-out inflation at 2.5%. Overall, the sentiment level remains high on a historical basis.

(+) Consumer confidence in February rose +6.5 points to 130.8, representing another new cycle high, and beyond the 126.5 level expected. Assessments of present conditions and future expectations were both high, with the former surpassing the latter just slightly, and confidence of labor conditions just behind. Interestingly, we've reached confidence levels that have only been exceeded in the late 1990's and late 1960's, which have been certainly identified as cyclically important periods in hindsight.

(0) Initial jobless claims for the Feb. 24 ending week fell by -10k to 210k, which was lower than the expected 225k level and the lowest overall level since 1969. Continuing claims for the Feb. 17 week ticked up sharply by +57k to 1,925k, in a normalization of a sharp drop the prior week, but still fell below the expected 1,931k. No unusual events were reported by the DOL, as these claims figures remain very low and indicative of a strong job market.

(0) New Fed Chair Jerome Powell delivered his first formal report to Congress in his new position last week. The prepared message (released beforehand) was largely as expected, with a focus on continuity of policy, from Janet Yellen's regime, as well as an otherwise upbeat assessment of U.S. economic conditions and continued path of 'rate normalization' along the lines of three hikes in the fed funds target rate this year. However, in the Q&A session before the Senate Banking/House Financial Services Committee, he was asked about what might generate the need for further rate hikes, which was noted as 'stronger economic growth'. There isn't anything special or surprising in this, but the mere notion was taken somewhat negatively by market participants, however, which are sensitive to things going 'too well', and generating a faster pace of interest rates than already expected this year. He emphasized the need for balance between removing excessive accommodation but also fostering stronger inflation, that has been lacking in recent quarters.

Read the "Question of the Week" for March 5, 2018

What would be the impact of new tariffs on certain imports?

Market Notes

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U.S. stocks declined for the week across market caps. Declines mid-week appeared due to Fed Chair Powell's optimistic tone indicated that strength in the U.S. economy could speed the pace of interest rate increases. After recovering a bit, markets were affected negatively yet again on Thursday and Friday in response to the President's announcement of several industrial metals tariffs, which raises fears of a global trade war, in the worst case—discussed above. On the positive side, it appeared the multi-round NAFTA talks are being put on ice until next year, to follow the Mexican election.

From a sector standpoint telecom and tech fared best with minimal declines, while materials and industrials fell several percent and trailed the pack. Per FactSet, who evaluates earnings patterns, Q4 earnings growth has come in just under 15%, the best in six years. Contributing factors differ, naturally, but strong economic growth overall and the impact of tax reform are the reported largest drivers; while higher oil prices have helped energy and higher interest rates have buoyed the financials group. The 12-month forward P/E based on consensus stands at 16.7, which is below the 5-year average of 16.0—within range of the long-term average, which has fallen in the 15-16 range.

Foreign stocks fared worse than U.S. equities, despite little change in the dollar during the week. Much of the negative sentiment was tied to the reasons for the decline in U.S. equities—the threat of tariffs and a broader tit-for-tat trade war. Europe fared worse, due to their status as heavier exporters, as did the emerging markets, while Japan fared better upon a stronger yen. Nations more heavily involved in global trade tended to far worse than those less involved, such as India, while a decline in China's manufacturing and services PMI indexes was also a surprise to markets. Perhaps the global trade concerns distracted investors from the upcoming Italian elections (speculated on last week, and concluded yesterday, where the results were larger populist party gains than some expected—with a general anti-EU tone). Then again, Italy has undergone almost a new government every year since World War II, so uncertainty is not new.

U.S. bonds ended the week flattish yet again with minimal changes in interest rates on the week, despite some mixed sentiment and inflationary concerns coinciding with new Fed Chair Powell's testimony. With positive returns, government bonds fared slightly better than investment-grade corporates, which sold off a bit. Foreign government bonds experienced small gains as well, as investor flows moved away from risky assets, except for emerging market bonds, which lost ground.

Real estate returns were mixed, with returns minimally negative in U.S. retail, while cyclically-sensitive lodging ended sharply negative, as did Europe and the U.K.

Commodity indexes fell a few percent on the week, as declines in energy and industrial metals outweighed strong gains in the agricultural sub-index. Crude oil prices declined by just under –4% during the week to close at $61.25.

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 February 26, 2018.

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