Economic Notes – November 19, 2012


Written by: Jon McGraw

It was a busy week as far as economic releases were concerned. Expect many of the individual numbers to be affected at least to some degree by Hurricane Sandy and its aftermath.

Retail sales fell -0.3% for the week, which ended up being a shade weaker than the consensus drop of -0.2%. Much of the expected decline was a direct result of the Sandy aftermath, which is a drag for obvious reasons, as well as some payback from strong weeks previous that were spurred by iPhone 5 sales. There were some data reporting disruptions as well, which is also expected and may take time to sort out due to continued difficulty in getting infrastructure back up and running back East.

Industrial production fell -0.4% in October as well, relative to a forecasted gain of +0.2%—again, the storm was at the heart of the decline. Manufacturing production also fell -0.9%. While the exact impact is hard to estimate, the FEMA and Fed estimates point to Sandy holding back production by roughly a percentage point—enough to take us from growth to decline in literal terms (especially in utilities and transportation equipment). Capacity utilization was also down, to 77.8%, versus an expected 78.3% level. We expect this may continue for the remainder of the year, as facilities slowly come back online, and better numbers perhaps in the first quarter of 2013. So, for now, the numbers are a bit noisy and we would have to assume not generally reflective of the national economic trend. Business inventories rose +0.7% in September, which was just a shade above expected and in line with recent months’ numbers.

The October Producer Price Index (PPI) dropped by -0.2%, month-over-month, which ran counter to an expected +0.2% gain (the core PPI fell by about the same amount as the headline number). The year-over-year number also fell from 2.3% to 2.1%. Commodity prices fell, which represented the bulk of this change, as did a decline in auto prices (similar to what happened with the CPI last month).

The headline consumer price index (CPI) rose +0.1% month over month in October, which was on target with the expected change. The core component of the index (sans food and energy) gained a bit more, at +0.2%, which was a tenth of a percentage point higher than anticipated. The bulk of the increase was due to rents up +0.4%, ‘owners’ equivalent rent’ up +0.2% and transportation services up +0.7% (due to higher airfares). However, prices for used cars/trucks fell -0.9%, which provided some relief. Year-over-year, the headline inflation number was up +2.2% with core up +2.0%. The story on both is that, despite periodic fluctuations in commodity prices (namely gasoline), there remains a fair amount of slack in the economy and inflation remains subdued for now.

The Philadelphia Fed survey fell to -10.7 versus a forecasted gain reading of +2.0. This was seen as a bit of a surprise, but considering overall storm damage, it probably shouldn’t be. The official comments referenced Hurricane Sandy by name, with mention that firms responding to the survey lost about 2 days of activity on average—this may seem like a small number, but can affect surveys in a large way from a percentage standpoint when you consider there are only 31 days in a month (and about . New orders and shipments were both down, while employment stayed relatively flat to slightly higher. The Empire State manufacturing survey from the New York Fed was essentially flat for November, at -5.2 versus -6.2 last month. The report was a big stronger than expected due to better new orders and shipments, despite reports of Sandy’s storm effects on respondents. Inventories fell, as did employment.

The NFIB Small Business Optimism survey didn’t change much from September to October, up +0.3 points to 93.1, and was right on target with forecast as well as general readings during 2012. Anecdotally, survey respondents (owners of small businesses) have continued to place regulation and higher taxes as critical fears in their assessment of business issues (this is no different than from the past several years, really). However, at this point the number of owners who are uncertain about whether conditions will improve or deteriorate in the next six months is at an all-time high.

The minutes from the late October FOMC meeting came out this week, but the output wasn’t much of a surprise to anyone. Mainly, it appeared that additional asset purchases may be forthcoming in the December meeting and beyond—largely to replace and take up the slack when Operation Twist ends. Additionally, the committee may be moving from a calendar-based timeline (mid-2015 currently) to an outcome-based approach—which would likely consist of targets for both unemployment and inflation. This might not happen this year, but it’s been hinted at for ’13.

How would this work? The FOMC would apply easing conditions as long as conditions warranted it and would measure their progress/results by the unemployment level. If it falls to a certain point (arguably somewhere between 5.5% and 7.0%), they’re done. Also, if CPI rises to a certain threshold point (probably an upper bound of 2.5-3.0%), they’d also take the foot off the gas as to prevent unnecessary inflation. More details to come on such a plan, but this seems to be a possible path.

Initial jobless claims for the week ended Nov. 10 rose a dramatic +439k, compared to expectations of a +375k increase. Continuing claims for the Nov. 3 week rose +171k to 3,334k. The DOL acknowledged the storm’s impact on both results, which, again, discounts some of their value from a broader economic standpoint.

Market Notes

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Stocks continued their slide this week as ‘fiscal cliff’ concerns and possible resolutions dominated the news. This may likely be the case throughout the remainder of the month and through December, absent any other geopolitical or economic headlines during the Holidays, as attention will again shift to corporate earnings for Q4 in January.

In the U.S., all domestic sectors lost ground, but consumer discretionary and staples performed best on the week. Telecom, information technology and industrials fared worst. From a country standpoint, Japan recovered with the best return on the week, followed by Spain. Japan’s new prime minister dissolved parliament last week and established elections for December, which may have given investors some hope in that troubled market. A declining but perhaps still expensive Yen may help their competitiveness yet. In the emerging market arena, Mexican stocks earned about a percent while everything else lost ground. Greek stocks fell the most as the nation raised just enough money through a treasury auction to avoid defaulting on a debt payment last week. The prime minister and other lawmakers passed continued limited austerity measures in their 2013 budget and pushed for additional Euro funds, frozen since June.

Bonds were flat to slightly higher with rates slightly lower (by a few basis points, which can matter more on the long end than the short end, as we’ve discussed). As expected, long treasuries and corporates gained the most ground. Foreign debt, in both developed and emerging markets, fared the worst on the week.

All real estate categories were down on the week, but Asian REITs were the best performing, followed by U.S. residential and European names. Domestic industrials and retail lost the most ground, in keeping with broader equities.

Commodities were mixed on the week. Livestock, a tiny piece of most indexes, was the best performer, followed by industrial metals and energy. Precious metals fell back a bit and agricultural commodities lost several percent to bring up the rear for the week. Perhaps the most interesting news was the IEA’s 2012 World Energy Outlook which was published this week and projected that the United States will surpass Saudi Arabia as the world’s largest oil producer by ‘around 2020.’ Obviously, if this proves to be even remotely accurate, the impact on global geopolitical affairs and energy policy in coming years could be quite dramatic.

One last comment regarding investor sentiment. In recent months, consumer sentiment had begun to slowly improve as seen through a variety of different surveys, including the Univ. of Michigan, Conference Board as well as Gallup polls. On the other hand, many retail investor surveys, like the AAII and CNN Money ‘Fear & Greed Index’, continue to show choppy results, based on both market performance and the political environment. However, in all cases we’re still well below highs reached in 2006-2007.

What affects these surveys? You’d think it would be common sense, since we’re not only consumers ourselves, but we’re also colored as ‘insiders,’ so to speak. Goldman Sachs recently took a look at sentiment variables and determined that there were four critical components that correlated closely with sentiment: (1) gasoline prices, (2) the stock market, (3) employment levels and (4) economic policy uncertainty. Seems simple enough, and fairly intuitive. Three of those are easy to measure, while the policy uncertainty factor is a little more difficult (some academics attempt to do this through indexes they’ve created and serve as the best surrogate for this piece). Interestingly, the first two variables of gas and stock prices explain over two-thirds of the sentiment results—again, not unsurprising perhaps since those are the most obvious in our daily lives and experience the highest degrees of fluctuation. Employment is certainly a factor, but tends to be bimodal—you’re either working or you’re not.

Where do we stand now? Not quite down in the dumps, but generally in poor moods—however, these moods are improving. When these moods improve even further, history has shown that risk asset performance may continue to improve as well. Fasten your seatbelts!