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Weekly Review - November 7, 2016

Weekly Review - November 7, 2016

Guest Post - Monday, November 07, 2016


Economic news was highlighted by the Fed's lack of action (which really was no news), while manufacturing activity was again mixed and non-manufacturing/services growth pared back a bit. The employment situation report again disappointed relative to expectations, but wasn't a complete loss, either.

Equity markets declined during the week in both the U.S. and aboard with election jitters and other policy headlines. Bonds fared far better as interest rates across the yield curve declined. Commodities fell sharply led by the price per barrel of oil dropping by several dollars on more supply concerns.

Economic Notes

(0) The FOMC meeting was discussed earlier in the week, but the consensus from economists didn't expect much, with no Q&A afterward (rendering this a 'minor' meeting) and the upcoming Presidential election on tap. Risks appear 'balanced' in the committee's mind, but continue to hold out hope for further improvement in order to tighten further. What 'further' means continues to be debated by economists extensively, but likely applies to even stronger labor markets and business spending. There is now a 70% chance of December action based on futures trading, but we all know how quickly these opinions can change.

(+) The ISM manufacturing index for October ticked up to 51.9, which outperformed forecast by two-tenths of a point. While production and employment both improved by several points, new orders fell by several points, although remaining in expansionary territory. Inventories also declined, slightly deeper into contractionary territory, although this has been the case for over a year. This report generally points to modestly higher manufacturing activity, as anything over 50, of course, signals growth.

(-) The non-manufacturing ISM index for October declined over -2 points to 54.8, reversing a record gain of almost +6 points the prior month and falling a bit below the expected 56.0 level. Key segments in the report showed declines, including overall business activity, new orders and employment. On the bright side, a reading in the mid-50's continues to suggest strong services sector expansion.

(-) The Chicago PMI index for October showed a decline of -3.6 points to 50.6. Production and new orders were the largest detractors from the overall figure, in addition to supplier deliveries falling to the lowest level since early summer, while order backlogs and employment rose a bit. Anecdotally, companies appeared to be a bit less upbeat than a few months ago, with the upcoming elections noted as a source of uncertainty. Prices paid also rose to a 2-year high, noting some inflation for oil and oil-derived products, such as plastics.

(0/-) Construction spending for September fell -0.4%, running contrary to expectations for a +0.5% gain for the month, despite some prior months being revised higher by enough to mute the impact of the single month's result. Private construction fell by -0.2% (led by non-residential investment), while private residential building grew by +0.5%. Public spending fell by almost a percent, a string of drops that has gone on for six months in a row.

(+/0) Factory orders for September rose +0.3%, which was a tenth better than expected. Core orders were revised down by a tenth, while core shipments were revised up a tenth (the latter going into the GDP calculation), with lower inventory accumulation, so on net, a neutral reading.

(0) Personal income rose in September by +0.3%, which was a tenth of a percent less than expected—implying a +3.2% year-over-year pace. Personal spending, on the other hand, rose +0.5%, which was a tenth stronger than consensus. The PCE price index, a government inflation indicator, rose +0.2% and +0.1% on a headline and core measure; year-over-year, headline rose +1.2% and core increased +1.7%. Both are in line with recent tempered inflation trends, although all are calculated in a slightly different way.

(+) The September trade deficit tightened by about $4 bil., to -$36.4 bil., over $1 bil. or so more improvement than expected. Exports of real goods gained +0.3% for the month, compared to a decline in imports of real goods by -1.1%, reflected in weaker capital and consumer goods. This could act as a positive input to GDP revisions, albeit small.

(-) The ADP employment report for October showed a slowdown to 147k jobs, which lagged the 165k expected. However, ADP made some methodological adjustments, which adjusted the results for prior months, and now includes a broader variety of additional economic inputs such as claims, oil prices, sentiment and leading indicators. Whether this improves the accuracy of the series remains to be seen, as the goal is likely to get this to look more similar to the government payroll report. In the October edition, services jobs increased by +165k (+69k of which were professional/business services) and construction employment fell by -15k.

(-/0) Initial jobless claims for the Oct. 29 ending week rose a bit to 265k, surpassing expectations of 256k. Continuing claims for the Oct. 22 came in at 2,026k, which were below the 2,043k expected. It appeared that initial claims results were largely affected by jumps in MO and KY, which could be temporary auto plant shutdowns. Otherwise, the Hurricane Matthew effects continue to trail off as continuing claims have tapered off to lower levels.

(0) The October government employment situation report came in below expectations, but wasn't a terrible report—strong enough perhaps that it won't yet derail the Fed from December action.

Non-farm payrolls rose +161k, which underwhelmed compared to the +173k expected. Additionally, some prior month data was revised higher by +44k. Employment in private services, as usual, dominated with a gain of +142k, albeit lower than the prior month by over -30k. Education/healthcare rose +52k, government jobs increased sharply to +19k, goods-producing jobs were unchanged, and construction gained by +11k, which was offset by losses in manufacturing and mining (incl. oil).

The unemployment rate declined a tenth of a percent, as expected, to 4.9%, as the labor force participation rate declined a tenth of a point to 62.8%. (Some work by Deutsche Bank shows that demographics alone have trimmed 2% off the participation rate, which explains about half of the decline from the pre-2008 trend.) The U-6 'underemployment' reading also dropped to a new recovery low point of 9.5%, due to a decline in part-time scheduled work and 'marginally attached' persons.

Average hourly earnings rose +0.4% month-over-month, which was a tenth of a percent stronger than expected. Some previous months were also revised up, resulting in a year-over-year rate of +2.8%, which is a new cyclical high. The average work week was unchanged at 34.4 hours.

In earlier results, nonfarm productivity came in at an annualized +3.1% for the 3rd quarter—this better than the +2.1% rate expected, but year-over-year results remain flat due to prior quarter effects. Unit labor costs rose at an annualized rate of +0.3% for the quarter, which was far below the expected +1.2% increase, although compensation per hour rose at a +3.4% clip for the quarter and +2.3% over the past year as a whole.

Market Notes

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U.S. stocks fell negative again on the week, with pre-election jitters (due to Trump's closing of the poll gap) and a mixed set of earnings reports. All sectors were down on the week, with materials and industrials sliding the least, while technology, telecom and energy suffered the worst. Interestingly, the S&P 500 ended down for nine days in a row, which was the biggest losing streak since 1980, although the magnitude of the losses has not been all that extreme. Interestingly, the earnings tracking firm FactSet noted that fewer firms in 2016 were mentioning the election as a source of uncertainty than four years ago.

Foreign stocks fared far worse than those in the U.S. in local terms, although developed outperformed emerging, and a weakening dollar helped neutralize some of the negative returns for the week. The closing of the U.S. presidential race also appeared to affect markets abroad to as great or even greater degree than at home. Emerging markets appeared to be affected by commodity price declines, and to a certain degree perhaps, the higher odds of a Trump victory, which is seen as less favorable for emerging market foreign trade& Mexico has been the poster child for this fear in recent months.

As importantly, U.K. stocks were hit hard even as news during the week included a key court decision noting that 'Article 50' (starting the Brexit process) can only be triggered by parliamentary vote, not simply from prime minister action. This certainly reduces the chances of a 'hard' Brexit, relative to fears during the last few weeks, and could likely delay the process further. Also, as we discussed earlier, the Bank of Japan decided to postpone their set 2% inflation target, in an official acknowledgement of the fact that monetary policies have their limits, and fiscal and structural reforms are also required to spur economic growth.

U.S. bonds performed decently on the week, as interest rates across the curve declined and investors fled risk assets. Longer treasuries led the way, as government bonds generally outperformed investment-grade credit. High yield lost ground in keeping with most risk assets, exacerbated by a drop in oil. Foreign bonds were slightly higher in local terms, but a weaker dollar pushed returns sharply into positive territory.

Real estate lost ground in the U.S., in keeping with broader equities, while a lower dollar helped returns in Asia, Europe and the U.K. REITs overall have taken it on the chin over the last three months, with a rise in interest rates, with foreign exposure a beneficial addition to portfolios with less severe declines than U.S. real estate.

Commodities fell on the week by over -5%, led by a near -10% decline for the energy sector. This was offset a bit by positive returns for precious and industrial metals. Oil prices moved downward from $48.70 to $45.35, with upward estimates for inventories, some lower demand estimates as well as rumors of Saudi-Iranian tension that could undermine the assumed OPEC supply cut agreement.

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 October 31, 2016.

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