Economic Notes: July 21, 2014


Written by: Jon McGraw

  • Economic data was mixed to positive on the week, with solid results in some portions of retail sales, as well as the Empire and Philly Fed surveys; while other data, such as housing starts and sentiment, lagged a bit.
  • Markets were relatively flat most of the week, until the Ukrainian plane crash put markets into a tailspin Thursday—that righted itself again to the upside by the week’s end.  Revenues and earnings for U.S. equities have surprised on the upside so far.

(+) Retail sales for June rose +0.2%, which underperformed a forecast of +0.6% on a headline level.  Core retail sales, however, gained +0.6%, which surpassed expectations by a tenth; additionally, May and April core figures were revised upward a few tenths of a percent.  The primary difference between headline and core was a -0.3% decline in auto sales and a -1.0% drop in building materials.  On the positive side, stronger areas were generally spread evenly through ‘general merchandise,’ non-store retail/online and apparel.

(+) The Empire manufacturing survey surprised on the upside for July, registering a 6-pt. monthly gain to +25.6, far above the +17.0 expected, and now resides at its highest level in four years.  Gains were seen in the majority of measured areas, including new orders, shipments and employment, as well as in 6-month-ahead capex expectations, but inventories were a substantially lower.

(+) Similarly, the Philly Fed index also came in stronger, rising from +17.8 last month to +23.9 to July (forecast was +16.0).  The underlying composition was also good, with new orders and shipments rising double-digit points each, as did employment, which was an encouraging sign.  On the negative side, capex plans fell by over a dozen points.

(+) Import prices in June rose +0.1%, under the forecasted +0.4% figure, following a +0.3% increase in May.  Petroleum rose +1.4% in the month, while food/beverage prices fell by -1.7%, providing a substantial offset.  Naturally, commodity supply/demand conditions are related to changes in import prices, as coffee, cotton and sugar prices have fallen back this year, easing some of the strain.  The year-over-year gain in import prices was +1.2% on a headline level, while core (sans energy/food) prices actually fell -0.2%—so this has not contributed to inflation over the period.

(-) Business inventories for May came in lower than expected, gaining +0.5% versus an expected +0.6%, so just missed by a bit.

(-) Industrial production for June rose +0.2%, which fell just short of forecast by a tenth of a percent, while the manufacturing production component (which excludes utilities and mining), rose +0.1%.  It appeared that motor vehicle/parts production fell by a few tenths (with summer production shutdowns lately), accounting for much of the difference, so that element should be discounted.  Manufacturing production rose almost +7% at an annualized rate for the 2nd quarter, which is considered strong.  Capacity utilization came in at 79.1%, which trailed expectations of 79.3%.  Taking a foreign view, Eurozone industrial production fell -1.1% for June, with declines across both core and peripheral countries—this weakness is one of the reasons for the ECB concern and possible measures to enhance easing.

(0) The producer price index increased +0.4% in June, which was twice the two-tenths gain expected.  Core PPI, however, only gained +0.2%—the difference in the two being accounted for by a sharp increase in energy prices in the month.  The details weren’t very interesting, as debated differences between the ‘old’ and ‘new’ PPI calculation methodologies largely offset each other.  For the trailing twelve months, the headline and core rose +1.9% and 1.8%, respectively, remaining in the ‘tempered’ inflation category.

(-) Housing starts for June came in worse than forecast, down -9.3% to 893k, which was quite the opposite of the expected gain of +1.9%.  Both single-family and multi-family starts were down a similar amount on the month, which is quite unusual due to the volatility of the series and common discrepancies between the two.  Building permits were also disappointing, falling -4.2%, versus expectations of a +3.0% increase, although the negative number here was concentrated in the multi-family segment, as single-family permits were actually higher by a few percent.

(+) However, the NAHB housing market index improved more than expected in the month, from 49 to 53 in July (expectations called for a 50 reading).  All primary components of the survey—current and future single-family sales, as well as prospective buyer traffic—all rose several points.  In addition, it rose in all four major regions, which was a positive for housing starts in coming months.

(+) The Conference Board’s index of leading economic indicators rose +0.3% in June, making this several straight months of gains, the result being a +2.7% gain for the first half of 2014 and +6.3% for the trailing twelve months.  Per the name, this points to potentially even better conditions for the quarters ahead.  Positive metrics in the formula included continued accommodative financial conditions, positive labor market trends, and new orders, while housing permits detracted from results.  The coincident and lagging indicators rose +0.2% and +0.5% on the month, respectively.

(-) The preliminary Univ. of Michigan consumer sentiment survey for July came in a bit weaker than the anticipated 83.0, falling from 82.5 to 81.3.  This was mostly due to a deterioration of expectations about the future, which fell several points, while consumer assessments of current conditions actually improved slightly.  Another mystery of the survey, which tends to happen.  Also interestingly, inflation expectations for the upcoming year rose a few tenths to 3.3%, while the 5-10 yr. expectations fell by the same amount to 2.6%.  (High gasoline prices can occasionally act as a catalyst for the shorter-term inflation expectation numbers.)  One thing to remember about the Michigan survey is that we assume that results will be quite fickle month-to-month and not always make intuitive sense to the financial community, but nevertheless, it captures current attitudes from Main Street and markets can react to it.

(+) Initial jobless claims for the Jul. 12 ending week fell to 302k, lower than then estimated 310k, so a slight positive.  Continuing claims for the Jul. 5 week also fell, to 2,507k, which outperformed expectations calling for 2,580k.  No unusual factors appeared to taint the results.

Yellen proceeded with her semi-annual testimony before Congress on the state of the economy and Fed actions.  It’s more difficult than it sounds, as the story of an improving economy is coupled with continued low-rate policies designed more for emergency situations.  Markets do watch these speeches, and if certain words fall out of line with well-trodden themes, it’s possible to see some reaction (note small-cap stocks below).  Her prepared comments were generally in line with expectations, with mention of improved employment numbers over the past year, but still-high labor slack and low wage growth, as well as weakness in homebuilding.  In terms of the ‘irrational exuberance’ part of the commentary (with a nod to Alan Greenspan’s comments years ago that rattled markets), she made note of frothier valuations in small-cap equities and lower-rated corporate debt.  Everyone is looking for some type of hint as to when the first rate hike will take place, whether it be early 2015, early-to-mid 2015, mid-2015, mid-to-late 2015, late 2015, early 2016, etc. etc.  The ambiguous commentary from the Fed is centered around the concept that they don’t really know yet.  It will depend on the data between now and then, and no doubt a few surprises in between.

(+) The periodic Fed Beige Book, featuring regional economic anecdotes, came in with a similar theme to recent reports, showing ‘modest to moderate’ economic growth (roughly half of the districts reported ‘modest,’ while the other half reported ‘moderate’).  Manufacturing growth was reported in all 12 districts; consumer spending was strong, as seen by stronger tourism and auto sales.  Housing was again mixed—ranging from high prices in urban areas, but construction picked up everywhere generally.  Employment growth was ‘slight to moderate,’ more lackluster than national headline data, while a few skilled labor shortages have been seen in specialized jobs.  From an inflation standpoint, prices and wages appeared to be rising at a ‘slight to moderate’ rate.

A subdued market week was shattered on Thursday with the airline crash in the Ukraine as well as a military offensive in Israel/Gaza, which caused the worst drop in two months (albeit ‘only’ -1%), although conditions improved Friday to bring returns back to a net positive.  From an industry standpoint, technology and financials outperformed, gaining over a percent, while health care and telecom lagged with marginal losses.  Small-cap stocks suffered a bit in the midst of comments from Janet Yellen in regard to perceptions of their overvaluation (you can’t say we didn’t warn you before now).

U.S. equities were in the midst of the 2nd quarter earnings season, which so far has been good.  In the S&P, with a quarter of companies reporting so far, ¾ have topped street earnings estimates.  Revenues are also coming in above average, with a similar ¾ of firms coming in ahead of expectations and by a wider margin than expected.

Internationally, developed and emerging markets on performed roughly in line on net.  Individually, Japanese stocks gained a percent and a half, with the U.K. roughly half that and Europe just a marginal increase.  Strength in several emerging nations, namely Turkey and Brazil, outweighed -5% losses in Russia following the Ukrainian plane crash with potential Russian connections.  Chinese GDP for the 2nd quarter was a tenth or two higher than expected, coming at 7.5%, boosting stock prices and hopes.

Bond yields were down a few basis points, so a positive week for the asset class—just not by much, as most segments traded within a range of a few basis points around zero.  Per the trend, long Treasuries saw the most gains due to their duration, while long-term credit earned smaller positive returns.  ‘Risk’ debt, such as high yield, Italian government, and emerging markets were generally down a bit more.

In real estate, European and Asian REITs both gained over a percent, followed by strong showing from U.S. residential and industrial/office.  U.S. mortgage and retail were only positive by a few basis points, at the bottom of the pack.

Commodities experienced a generally negative week, coupled with a stronger dollar, but several sub-categories were little changed on net.  Agricultural contracts led on the week, with positive results in soybeans and livestock.  Precious metals were surprisingly weak, losing a few percent despite geopolitical hotspots in the Ukraine and Israel.  West Texas crude oil moved higher again on the Ukrainian plane crash on Thursday, but came back down to earth Friday, settling just over $100/barrel.

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