Economic Notes – July 22, 2013


Written by: Jon McGraw

It was a week with a few interesting economic reports being released. The bottom line with the bulk of recent releases is that estimated GDP for the second quarter has fallen from close to 2% to perhaps a shade below 1%, with lower net exports (weaker international demand and a strong dollar) and several other factors such as lower inventory buildup.

(0) The consumer price index for June rose +0.5% on a headline level, which was slightly more than the +0.3% expected. The core CPI that excludes energy/food rose +0.16%, which was just a shade lower than the estimated +0.2% (if even by a few basis points). This brought the year-over-year inflation numbers to +1.8% and +1.6% for the headline and core, respectively. For the month, higher energy prices on a seasonally-adjusted basis formed the basis for the increase (of over 3% for that segment). In the core area, price gains in apparel and medical care services served as the strongest inflation contributors. Overall, a continuation of tempered reports, but inflation has risen slightly to a level closer to a recent-normal 2%.

(-) Retail sales for June disappointed somewhat, growing only +0.4% versus the +0.8% expected. The headline figure was aided by an almost 2% rise in auto sales, while the ‘core’ report that removes more volatile components (autos, gasoline, building materials) gained a practically-flat +0.1% for the month—lower than the +0.3% anticipated—in addition to a two-tenths revision downward for May. Underneath the core figures, grocery store sales fell by -0.2%, and department store/general merchandise rose by +0.1%. Smaller groups of apparel and furniture showed slightly better growth.

(-/0) Business inventories rose a bit for May by +0.1% (versus a flat prediction), but were tempered a bit by revisions downward in April’s growth. Retail inventories, which were newly released, rose +0.6% (half of which were autos). This report, along with retail sales, was largely responsible for recent downgrades to estimates for Q2 GDP.

(0) Industrial production rose +0.3% June, which was right in line with consensus. The core manufacturing category rose in line with the broader number, auto and machinery production were up a percent and a half each, while information processing equipment production fell by a percent. Capacity utilization for June was 77.8%, which was a tick above estimates.

(+) The New York Empire manufacturing survey improved from +7.8 in June to +9.5 for July, versus expectations of +5.0. Underlying components also improved, including new orders, shipments, employees and the length of the average workweek. Expectations for six months out also improved for the orders/shipments components, and future capital expenditure expectations also gained.

(+) The NAHB housing market index rose strongly for the second consecutive month to 57 for July, which surpassed the forecast of 51, and is now at its highest level since early 2006. Both current and expected future single-family sales rose several points, as did prospective buyer traffic. All four major regions of the country improved, with the West performing at the strongest pace.

(-) Housing starts in June fell -9.9%, which was quite a surprise considering the forecast was positive growth of +5.0%. Single-family starts fell -1%, while multi-family dropped -26%—however, the latter tend to be ‘noisy.’ On a year-over year basis, total starts are up +10%, with single-family rising 12%. Building permits, like starts, fell -7.5% in June as well, underperforming the consensus expectation of +1.5%. Underlying single-family and multi-family metrics were quite similar to the housing starts results (single-family up +1% and multi-family down -21%). It’s important to keep in mind, though, how volatile and ‘inefficient’ the housing business can be. Rather than seeing smooth, sensible progressions month-to-month, it operates more in a fits-and-starts fashion, with hiccups due to weather, materials supply disruptions, existing inventory, accounting smoothing and a host of other matters that are often company or project-specific. This explains why the numbers tend to be so choppy month-to-month.

(+) The Philadelphia Fed Index came in better than expected for July, at a reading of +19.8 versus a forecasted +8 (and June’s +12.5). The components within the index were also improved in keeping with the headline number, including shipments, number of employees and the average workweek. New orders fell a bit, but not dramatically. Forward-looking expectations for business conditions six-months hence were also higher, which bodes well perhaps for hiring and/or capital expenditures.

(0) The Conference Board’s index of leading economic indicators was unchanged for June at 95.3, following several consecutive months of gains. Last month, per the Board, drops in building permits, new orders and equity prices were offset by improvements in consumer expectations, lower initial unemployment claims and other financial indicators. The coincident indicator rose +0.2%, on par with the increases of the past two months, while the lagging indicator rose +0.3%—also similar to recent months. Overall, the series point to unbroken trends of upward economic activity.

(0) Initial jobless claims for the July 13 week fell from the previous week’s 358k down to 334k—significantly below expectations of 345k. Continuing claims for the July 6 week jumped to 3,114k, higher than the 2,959k expected. Much like the initial claims of a week ago, these appear to be affected by seasonal auto plant shutdown activity and are difficult to make seasonal adjustments for. Initial claims of over 20k in Michigan last week confirm some of this.

Fed Chairman Bernanke was on the road again, doing his best to get the message out about the FOMC’s intentions to keep rates low and QE in place until certain targets are reached. His semi-annual message to Congress and subsequent Q&A was along these same lines. And at that point, he reiterated, the floodgates aren’t triggered to automatically stop QE, but are intended to be inflection points for further Fed discussion about future policy—whether that be the timing/magnitude of QE activity or merely the Fed’s communication approach towards accommodation (something they also consider an important tool in their toolkit). This dovish tone is again meant to dispel market concerns about upcoming tightening and keep yield curve conditions ‘normal.’

The Fed’s Beige Book is a unique publication. In fact, it’s the least ‘quant’ of all commonly-followed pieces the Fed system produces. Instead of charts, graphs and other comparatives, it’s a piece consisting of economic anecdotes and other ‘stories,’ learned by economic researchers talking with businesspeople across the twelve Fed districts. While it doesn’t offer the concreteness that numbers do, numbers can often conceal as much as they reveal, or operate with timing differences, so these qualitative comments offer interesting insights.

This last period, for example, showed that the U.S. economy continued to expand at a ‘modest to moderate’ pace in most districts, as indicated by manufacturing and housing market input. In the Midwest, for example, auto production drove strength in several districts, which falls in line with better general numbers for consumer spending. This is consistent with several regional manufacturing surveys we regularly track in this narrative. On the housing/construction side, a ‘moderate to strong’ pace was reported, as was an improvement in the commercial real estate and residential mortgage markets. In contrast to concerns voiced by business owners earlier this year (in a variety of publications/surveys), government fiscal conditions appeared to take a back seat. Anecdotally, conditions appear to show similar slow growth conditions we see in other domestic economic measures.

Market Notes

U.S. stocks were generally higher on the week, with mixed to slightly better-than-expected earnings results.  Thus far, with just over 100 firms in the S&P reporting, 70% have beaten street estimates (50% have reported revenues above estimates).  As was the case last quarter, consensus estimates were revised so far downward that this is isn’t entirely surprising.  So far, financials have been the outperformers with Goldman Sachs, Citi, Morgan Stanley and Bank of America reporting positively this week.  However, technology has experienced some difficulty, with Google, Microsoft, Intel and eBay missing expectations.  Apple reports this coming week, and no doubt it will be closely watched. From a sector standpoint, telecom gained 5% on the week (albeit a tiny sector), while more significant energy and industrials also performed strongly; technology and consumer discretionary lagged on the week.

In foreign equities, we experienced a bit of a bounceback from the nations that have experienced some volatility recently—Turkey, Italy, Brazil and Greece.  Asian nations, such as Taiwan, Hong Kong and Indonesia underperformed—actually posting small losses on the week.  Much of the negative sentiment in the latter was oriented around poor results from tech chipmakers.

Per the work of Bernanke and other Fed officials (noted above), bond yields fell back again.  On the week, TIPs, high yield and investment-grade corporate and long treasuries all gained strongly.  Emerging market bonds had the best week actually, gaining several percent with reversal of cash flows back into the higher-yielding asset class.  Floating rate and short-treasuries were the laggards, as would be expected.

Municipal bonds lost a bit of ground, based on the big news of the announced bankruptcy of the City of Detroit. Despite the press, we don’t view this as a surprising event but the culmination of more than a decade of decline.  In fact, in some ways, it resulted from the opposite of the problems experienced in boomtowns like San Bernardino—that grew too quickly and experienced a cash crunch when those good times ended.  By contrast, a formerly dominant American city, Detroit has been steadily losing population for decades as industry has moved out of the rust belt, citizens have moved to the suburbs (several of which, ironically, are quite well-managed), and weak government coupled with mismanagement have filled the void. In essence, the current citizens are paying for the pensions of workers from the city’s glory days, and the till is now dry.  As with many munis, this appears to be a one-off case, but we could see some volatility as questions loom about how creditors will be treated in Michigan during this proceeding.

U.S. retail and office/industrial REITs gained over 2% on the week, surpassing other equities.  European names were relatively flat, while Asian REITs dropped slightly.

In commodity markets, cocoa, natural gas and nickel gained strongly, while energy as a whole continued to move upwards in the neighborhood of 2%.  Industrial metals and wheat ticked downward by a few percent.  Overall, it was a relatively tempered week in the commodities marketplace.

Have a great week!