The Economy and Bond Market Radar (January 9, 2012)

Sunday, January 8th, 2012

The Economy and Bond Market Radar (January 9, 2012)

Long-term treasuries sold off this week sending yields higher as; once again, the schizophrenic market gyrates up one week, down the next, for over a month.

The sell off in treasuries this week could best be attributed to better than expected economic data. While there remains concern surrounding the ultimate outcome of the current European financial crisis, the market was able to put that anxiety to the side this week. The chart below depicts the JP Morgan Global PMI index which hooked up in December and is back into expansion territory. This is an interesting development as sentiment remains sour but the economic data is giving reason for optimism.

Strengths

• The unemployment rate fell to 8.5 percent as nonfarm payrolls expanded by 200,000 in December.
• The ISM manufacturing index increased more than expected and posted a solid gain in December. One particularly encouraging sign is the new orders sub-component hit the highest level since April.
• Factory orders in November rose 1.8 percent and is another factor confirming the strength in the manufacturing sector.

Weaknesses

• Overnight deposits with the European Central Bank hit a record high as banks are still unwilling to lend to each other in the overnight interbank market. This indicates significant lack of confidence in the European banking sector.
• The euro fell to the lowest level in more than a year as investors concerns build regarding the ultimate outcome in Europe.
• France plans on increasing its value-added tax (VAT) in the next few months even as a rate increase just took effect January 1.

Opportunities

• After surprisingly good economic news recently, next week’s December retail sales data will be the key economic data point to watch for continued confirmation.

Threats

• The situation in Europe remains extremely fluid and negative news is almost expected at this point, unfortunately it is politically driven and difficult to predict outcomes and ramifications.

Tags: Banking Sector, Bond Market, Economic Data, Economic News, Europe France, European Banking, Financial Crisis, Interbank Market, Ism Manufacturing Index, Jp Morgan, Lack Of Confidence, Manufacturing Sector, Market Radar, Negative News, Nonfarm Payrolls, Rate Increase, Retail Sales Data, Schizophrenic Market, Treasuries, Unemployment Rate
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Double Dip? Not so Quick … (Koesterich)

Friday, August 26th, 2011

by Russ Koesterich, Chief Investment Strategist, iShares

In recent days, market watchers from Bill Gross to Morgan Stanley have warned of the high possibility of a double dip recession for reasons ranging from more regulation and “policy errors”, to slowing consumption, weak economic data and the likelihood of further fiscal tightening.

While I do believe that the odds of a double dip have risen since the S&P downgrade of US debt, I still think the most likely outcome is a sluggish recovery, not another recession.

What’s my evidence? Leading indicators and retail sales data in the US and abroad.

Yes, virtually every economic indicator has dipped in recent months. But few are signaling a return to a 2008 style recession. In fact, major leading indicators that predict US gross domestic product (GDP) still suggest sluggish US growth and that the two-year-old expansion should continue.

Take the most well known measure — the Conference Board’s Leading Index. The measure has increased in 11 out of the past 12 months, including a better-than-expected reading last Thursday. In contrast, in the year leading up to September 2008, the indicator rose on only one occasion.

Perhaps more relevant is the recent behavior of two lesser known indicators, the ISM New Orders component and the Chicago Fed’s National Activity Index (CFNAI). Both measures may provide a good prediction of next quarter’s US GDP — historically you can explain roughly 45% of the variation in next quarter’s GDP by watching the level of the CFNAI.

Currently, both indicators are weak, but they are still signaling positive growth of around 2% next quarter. This is in marked contrast to the situation heading into September 2008. Along with other leading indicators, the CFNAI started to slide in 2007. By the eve of the Lehman bankruptcy in September of 2008, the indicator was signaling a severe economic contraction.

Similar leading indicator measures in Europe also don’t suggest a significant contraction in the third quarter. For instance, the most recent IFO Survey — a business climate indicator with a good record of forecasting European GDP — has fallen modestly from its February all-time-high but still indicates growth.

Apart from leading indicators, retail figures – at least as of July – provide evidence that consumers continued to spend. July’s US retail sales numbers showed a gain of 0.60% on spending, stripping out food and autos. There also have been signs of healthy consumer demand in most emerging markets. In Brazil, retail sales recently grew by over 7% from one year ago, well above expectations. In China, retail sales have been growing steadily at around 17% year-over-year for the past several months.

You can read more about my take on double dip and recent market activity in my latest Market Update piece.

Source: Bloomberg

Copyright © iShares

Tags: Activity Index, Bill Gross, Brazil, Chicago Fed, Chief Investment Strategist, Double Dip Recession, Economic Contraction, Economic Data, Economic Indicator, GDP, Gross Domestic Product, Indicator Measures, Ishares, Ism, Last Thursday, Leading Indicator, Leading Indicators, Lehman, Morgan Stanley, Retail Sales Data, Us Gdp
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Economic Implications of Wealth Destruction

Monday, October 18th, 2010

by Rick Reider, Managing Director, Fixed Income, BlackRock Investments

October 2010

Highlights

• On balance, recent economic indicators have displayed modest improvement over the past month, but the data also highlighted the overall weakness of the recovery.
• Lower-than-desired inflation levels have become a prime concern for the Federal Reserve, as its monetary policymaking committee indicated that added accommodation was likely.
• While high debt levels have dominated financial crisis discussions, the asset destruction witnessed by US households has been profound and has implications for the recovery.

Economic Review and Outlook

A number of September economic indicators displayed modest improvement over prior months, but overall the data continued to underscore weakness. So while retail sales data surprised to the upside, with a 0.4% gain (versus an expected 0.3%), consumer confidence declined meaningfully to 48.5 (consensus was 52.1), with a sharp decline in the “expectations” component, which may be suggestive of weaker sales in the months to come. As mentioned last month, one primary area of economic weakness remains the housing sector, where meaningful recovery is unlikely to come without a rebound in employment. Unfortunately, the labor markets appear range bound, no longer deteriorating, but not improving much either. Initial jobless claims in September remained between 450,000 and 500,000, which is generally thought to be a level consistent with an anemic (yet still modestly positive) private payroll recovery. The “mixed messages” we have become accustomed to seeing in recent economic data are exemplified in the recent September ISM Manufacturing data release. While the index level only came in a tenth weaker than consensus expectation (54.4 versus 54.5), and it remained well above the critical 50 index level that signifies manufacturing sector growth, there was considerable weakness in segments of the report. Prices paid and inventories were both higher, but production, new orders, exports and employment components were all down meaningfully. As with prior months, both inflation and inflation expectations continue to remain quite subdued. The Consumer Price Index came in at only 1.1% year-over-year in August, and when more volatile food and energy components are stripped out of the data, the inflation measure was 0.9%.

Federal Reserve Outlook

Inflation was a key focus of the Federal Reserve’s last monetary policy committee meeting, as the Fed downgraded its outlook for both growth and inflation. Specifically, the Fed noted that “measures of underlying inflation are currently at levels somewhat below those the Committee judges most consistent, over the long run, with its mandate to promote maximum employment and price stability.” Moreover, beyond explicitly targeting a higher inflation level, the FOMC enhanced its language regarding added monetary accommodation, arguing that it would take steps (widely thought to include another round of quantitative easing) to “return inflation, over time, to levels consistent with its mandate.” We have previously argued that another round of quantitative easing, and a coordinated fiscal complement, would likely be required for the economic recovery to “break out” onto a more favorable growth trajectory, and the Fed’s statements seem to confirm our view.

Market Outlook

We believe effective monetary and fiscal policy, if implemented in a coordinated fashion, should be able to unlock capital on the sidelines and begin growing the economy at a more rapid pace. Still, it is worthwhile noting that the forces the Fed is fighting are genuinely unprecedented. For instance, never in modern financial history, until the depths of the financial crisis in 2008, has financial sector and household sector debt growth been negative; and Federal sector debt growth had never exceeded 25%. Moreover, while debt growth rates and high overall aggregate debt levels have dominated the discussions surrounding the financial crisis, in many ways the asset destruction witnessed over the past few years (see chart) is equally meaningful.

In aggregate, US households have seen their net worth contract in eight out of the last twelve quarters, and roughly $12 trillion in asset value has been erased from household net worth since its 2007 peak. Nearly two-thirds of that asset destruction has come in the form of declining financial assets, while the final third stems from the decline in real estate assets. Wealth destruction of this magnitude holds profound implications for consumer and investor psychology, and when viewed from this perspective, retail market capital flows toward fixed income assets and away from equities can be placed in broader context. Interestingly, until 2008, household net worth had never contracted by more than 5% quarter-over-quarter in modern history, yet this has taken place three times over the past two years. Clearly, the massive declines in both the equity and housing markets have resulted in a “negative wealth effect” that has strained consumers’ ability and willingness to spend, and has also altered their investment outlook.

A stabilization in housing prices and the equity market rally that has taken place since March 2009 has aided the situation somewhat, but the typical household is still facing considerable financial stress. Still, are households finally getting to the point where they may bewilling to spend again? While the change will likely come slowly, we think certain factors may indicate something of a turning point for the consumer may be close. Overall, there has been some marginal improvement in the consumers’ situation, with, for example, households’ debt service ratio and financial obligation ratios well off peak levels (although these improvements may be somewhat overstated, due to defaults). Moreover, consumer belt tightening, as witnessed by relatively low levels of non-discretionary spending (near 29% of total disposable income), should allow for increased purchasing once labor markets improve and confidence returns. Additionally, the corporate sector has displayed remarkable resilience through the crisis, and now holds formidable levels of capital that could be deployed in a productive fashion should favorable policy outcomes present themselves. The coming months of Fed monetary policy action and fiscal policy debate (complicated by the mid-term elections) will be vital for understanding the economy’s secular trajectory. Ultimately, the Fed must fight still considerable declines in household assets, while virtually all sectors of the economy attempt to de-lever, and meaningful organic growth in the economy still appears distant. There is no question that this will be a challenging policy path to navigate, with clear risks of policy-induced missteps, but it is also a necessity to set the US economy up for sustainable recovery and improved future growth prospects.

Tags: Consumer Confidence, Debt Levels, Economic Data, Economic Implications, Economic Indicators, Economic Weakness, Federal Reserve, Financial Crisis, Fixed Income, Index Level, Initial Jobless Claims, Ism Manufacturing, Labor Markets, Mixed Messages, Monetary Policymaking, Policymaking Committee, Prime Concern, Reider, Retail Sales Data, Sector Growth
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Eric Sprott: “Wither Green Shoots”

Monday, July 12th, 2010

This article is a guest contribution by Eric Sprott & David Franklin, Sprott Asset Management

With the summer now upon us, the “Sell in May and Go Away” adage has proven itself true once again. The major market indexes are all turning downward, and while they haven’t dropped enough yet to warrant panic, we certainly want to be positioned properly if this trend continues into the fall. The market tea leaves are no longer sending mixed signals either – most of the new data is decidedly bearish. So what happened to all the ‘green shoots’? What happened to the strong recovery the market rally was promising?

Economic data released over the past two weeks have decimated any remaining belief in a lasting economic recovery. Slowdowns are appearing in the US, Europe, Japan and even China. Auto sales, housing starts, employment, consumer confidence, factory orders, consumer purchase intentions – just about every aspect of the economy that can be measured, is showing decided weakness.

Of particular interest to us over the past year has been the GDP forecasts released by The Consumer Metrics Institute in Colorado (“CMI”). CMI caught our attention with their real time tracking of consumer retail sales data. Consumer spending represents 70% of GDP, and that spending can provide great insight into the workings of the underlying economy. CMI’s retail sales data has indentified a long, negative contraction in the economy based on their data set for the last 180 days. This was confirmed most notably in Walmart’s poor first quarter sales results when CFO Tom Schoewe stated, “More than ever, our customers are living paycheck to paycheck.”¹ If that sentiment applies to other large retailers, it doesn’t bode well for 2010 GDP.

CMI also predicted 2010 Q1 GDP growth at 2.62% all the way back in November 2009. It took nearly seven months for the actual US GDP data to eventually be released, but when it finally did (after three revisions, no less) it turned out that CMI’s prediction was bang on. Interestingly, when the real data came out, CMI founder Rick Davis noted that the inventory component underlying the 2.7% Q1 GDP growth figure had moved from 1.65% up to 1.88% – meaning that the bulk of GDP growth, almost 66%, actually came from inventory swings rather than consumer demand. No wonder factory orders fell out of bed this past week! With the re-stocking complete, there aren’t enough new orders to clear the fresh inventory. And if two thirds of Q1 growth came from inventory swings (or just plain re-stocking etc.), it makes us wonder what we can realistically expect from the next two GDP announcements. CMI provided the following guidance for the balance of the year, stating that “We expect GDP growth to be flat for the second quarter, but with inventory adjustment reversals absolutely killing the reported ‘growth’ number just four days before the U.S. mid-term elections.” If that turns out to be correct, it will be unfortunate timing for the elections.

An important question to ask is whether the March ’09 rally was really justified at all. Were the green shoots real? Or was the market just looking for a way to justify the effects of government-induced ‘easy money’? The stock market is supposed to be an efficient, forward-looking indicator after all – and the rally that began in March ’09 was supposed to signal a robust recovery. So where’s the recovery? From the time the term ‘green shoots’ was first uttered by Ben Bernanke on March 15, 2009, the S&P 500 rallied 36% to June 30, 2010 and by as much as 60% to April 26, 2010. If the green shoots were really just the early indications of weeds, was the market wrong to appreciate so dramatically?

Tags: China Auto, Cmi, Consumer Confidence, Consumer Spending, David Franklin, Economic Data, Economic Recovery, First Quarter Sales, Gdp Forecasts, GDP Growth, Gold, Living Paycheck To Paycheck, Major Market Indexes, Market Rally, Mixed Signals, Paycheck To Paycheck, Purchase Intentions, Retail Sales Data, Tea Leaves, Us Gdp Data, Walmart
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Investors Go On Spring Break

Saturday, March 20th, 2010

by David Andrews, CFA, Director,
Investment Management & Research
Richardson GMP Limited

March 19, 2010

After a little bit of back and forth, the markets concluded the second week of March on a positive note. We had a reprieve from the heightened market volatility that has been with us for the past couple of months as investors calmly digested a mix of economic reports. Better than expected Canadian employment data and US retail sales data gave further evidence of an improving North American economy, but stock markets were kept in check with reports of Chinese inflation having spiked higher and conflicting economic reports this week out of Europe. We saw a couple of up days and a couple of down days, but overall, the markets finished higher, led by banks on both sides of the border.

Overall, North American markets were higher on the week led by Financials and Materials sectors. The S&P/TSX finished up 0.3% and the Dow Jones was up 0.6%. Financial stocks in the United States soared as bi-partisan Senate discussions on financial services reform broke down, indicating that we can expect a delayed and watered down version of the hawkish reforms outlined by the Administration in January. In addition to reform, many banks are guiding for a return to sustained profitability and the market is responding favourably. The Financials index in the US was up 2.1% on the week. Financials are demonstrating market leadership and setting a positive tone as we head into the spring.

In Canada, the banks have kicked off 2010 with a bang. With the exception of Royal Bank (which met analysts’ expectations), all of the big banks soundly exceeded expectations for the first quarter. In all cases, the banks have seen improvements in domestic banking due to a strong recovery in the Canadian economy. Loan loss provisions are lower across the board, as the worst of the economic storm now appears to be behind us. Collectively, the Big Six Banks’ shares appreciated approximately 5% during the two weeks they reported their results.

Investor concern this year has focussed on the bond crisis in Europe and potential implications for sovereign debt contagion. Those concerns seemed to lessen this past week, with a sense that the situation will be settled and there will be a financial rescue package for Greece. The European Union is working out details of a plan to grant up to 25 billion Euros of aid to Greece, should it be required. With Greek concerns abated, fixed income investors have shown a resurgence of interest in corporate bonds, which rallied the most we have seen since last August.

With the North American earnings season having concluded, investors will now look to economic data for market direction. Last week was rather light on data, but this week will give us further evidence of the pace of recovery in both Canada and the United States. In Canada, the focus will be towards the end of the week when the Bank of Canada reports February’s Consumer Price data. Friday’s retail sales data for January should also indicate the return of Canadian consumers, providing further evidence that the domestic economy is gaining momentum.

The United States has a number of releases this week, beginning with February’s Industrial Production numbers. We expect the manufacturing data will continue to show signs of ongoing recovery and strength. As well, Capacity Utilization, which measures the proportion of manufacturing plants that are active, is expected to be 72.6%, unchanged from January. The FOMC meeting is expected to be a relative non-event this week, with no change to interest rate policy expected. The week rounds out with US Producer and Consumer price data to be released on Wednesday and Thursday.

On the lighter side, the water utility in Edmonton published the most incredible graph of water consumption during the men’s Olympic hockey gold medal game. Do you remember where you were?

Source: Richardson GMP Weekly Commentary, March 19, 2010

Tags: American Economy, American Markets, Amp Research, Big Six, Canadian Economy, Canadian Employment, Canadian Market, Dow Jones, Economic Reports, Economic Storm, Employment Data, financial stocks, Gmp, Loan Loss Provisions, Market Leadership, Market Volatility, Positive Tone, Reprieve, Retail Sales Data, Royal Bank, Stock Markets
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