Economic Notes – September 30, 2013


Written by: Jon McGraw

(0) The 3rd and final estimate of GDP growth was unchanged from the second estimate of +2.5%, despite consensus assumptions for a slight increase to +2.6%. Inventory investment was revised downward slightly while state/local spending were bumped up a bit, but these were tiny adjustments. This is certainly old news now, as third quarter GDP is anticipated to fall in the 1.5-2.5% growth range—so slightly worse than last quarter—while fourth quarter growth has been estimated in the 2.5-3.0% area. Next year looks markedly better—several assessments point to over-3% expansion, but we know how often these estimates change.

(0) Durable goods orders came in just a bit better than expectations in August, growing +0.1% versus a forecasted slight decline of -0.2%. Removing transports from the group took the core bottom line to a -0.1% decline, which disappointed forecasters calling for a +1.0% net gain. Removing defense from the series resulted in a +0.5% gain, the difference being a -12% drop in defense orders during the month. One particularly positive piece of data over the past year is that core orders have grown +10%, significantly surpassing the +3% growth of shipments; this may act as a favorable indicator from a forward-looking basis as manufacturing obviously needs to fill in the gap between the two.

(-) The Richmond Fed manufacturing index came in below expectations, at a neutral reading of 0 (consensus was +12). In terms of underlying data, shipments, new orders and employment all came in weaker; however, expectations for the future came in more optimistic. The service side of this index was a bit better than the manufacturing variety, with revenues, employment and wages all improved, while demand decreased. This is not a major survey (compared to the Empire state or Philadelphia), but weakness is indicative of continued choppiness in these reports month-to-month.

(-) The Case-Shiller home price index for July fell a little short of expectations, rising +0.6% compared to an anticipated +0.8%, which ended up being the smallest monthly gain in a year. The best performing cities for the month were again those hit hardest by the housing crisis: with Las Vegas, San Diego and LA at or over +1.5% on the month. The twelve-month gain remains a solid +12%, although some price appreciation has flatted over the last several months.

(+) The FHFA house price index for July, which includes homes financed with conforming mortgages, rose +1.0%, which was two tenths better than expected. Nationally, the index is up +9%. The Pacific and Mountain regions experienced the strongest gains for the month and twelve-month periods (Pacific up +2% for July and +21% on the year-over-year, while Mountain a similar one-month +2% and +13% on the year), in keeping with Case-Shiller and other measures that show the housing bust regions making up the most ground.

(+) New home sales improved in August compared to a poor July, up +7.9% to 421k units, versus an expected +6.6% gain. The 12-month increase stands at +13%. Interestingly, the South, Midwest and Northeast all rose, while the West dropped -15%. This isn’t particularly surprising, either, as the West has been saturated with much more housing bust existing inventory, so doesn’t really have the same degree of need for building as other regions do. This has played out in the numbers. In addition, a tempering of mortgage rates over the past month may have also helped on the loan affordability side. To put this in some perspective, the 40-year average for these results is 690k/year and the trailing 10-year moving average stands at 681k/yr.—so current sales conditions remain far below average, including the excessive consumption of housing in the 2003-2008 period.

(-) Pending home sales, which measures signed contracts, fell -1.5% for August, which was slightly worse than the expected -1.0% decline, and July sales were revised down a bit also by a tenth of a percent. Regionally, every area declined except for the Northeast, which saw pending home sales grow by 4%. The trend in this indicator is moderately negative, which points to weaker existing home sales in coming months.

(0) Personal income rose +0.4% for August, which was on target with expected, but happened to be the strongest result since Feb. of this year. Most segments were similar to each other and the overall figure, such as core, private and government wages/salaries (the latter lagging the others by a few tenths—unsurprisingly). Consumer spending rose a similar +0.3%, which also met expectations. Service spending outgained that of goods by a bit. The compliment to this measure, the personal savings rate rose by a tenth to 4.6% of disposable personal income, which was within its range of the last several months. Lastly, the PCE and core PCE price indexes that are part of this release rose +0.1% and +0.15%, respectively, for August, which brought the year-over-year on both to +1.2% (July’s 1.1% year-over-year reading was the 15th lowest reading ever, for those counting). During the month a small drop in energy costs was offset by a small food price increase, so net of little change. From this particular inflation measure, conditions continue to be well contained in keeping with CPI, PPI and others.

(0/-) The Conference Board consumer confidence survey came in at 79.7 for September, which was just a couple of tenths below expectations but a bit more below the 81.8 August reading. It seemed consumer assessments of current conditions got a bit better by a few points as did the labor differential (jobs being plentiful vs. hard-to-get), while future expectations edged lower.

(-) Similarly, the final release of the Univ. of Michigan consumer sentiment index for September came in a bit weaker than hoped, at 77.5 vs. a forecast 78.0, and a 5-point drop from August. However, it did rise a bit from the preliminary 76.8. In the underlying data, consumer assessments of both present and future conditions deteriorated by several points (future more so than current), which goes along the lines of anecdotal survey administrator commentary describing complaints about government policies and weaker job prospects. At this point, two-thirds of respondents expect higher interest rates over the next year—which is interesting but doesn’t necessarily mean much from an economic perspective, as most consumers aren’t economists or have a good understanding of how interest rates generally work. Inflation expectations for the coming year rose three-tenths to 3.3% (a bit high relative the past few years), while longer-term 5-year median expectations rose just a touch to 3.0% (the average of the past century).

(+) Initial jobless claims for the September 21 week came in lower than expected, at 305k versus 325k. One improvement this week is that the numbers are ‘clean,’ so to speak, and not convoluted by estimates or missing data from certain states (as happened in the last few weeks due to computer changeover issues). Continuing claims for the Sept. 14 week came in at 2,823k, which was a bit higher than the 2,818k anticipated. However, California is still processing some of these backlogged claims, which wouldn’t matter as much if they weren’t the largest state by population, so take these with a grain of salt for the next few weeks.

The Markets

Stock markets were lower this week and largely affected by the politics in Washington (discussed earlier). Naturally, fear of a 2011 repeat played on sentiment. From a sector standpoint, telecom and consumer discretionary led while financials and consumer staples lagged. Small caps have also shown a bit of momentum strength as fundamental conditions in the U.S. economy have improved, but valuations could look a bit stretched.

Developed market foreign stocks were flat on a net basis, so outperformed domestic markets. Returns were led by peripheral Europe (Greece and Spain), while Japan also gained a percent. No doubt non-core European nations benefitted by the re-election of Merkel as Germany’s Chancellor, which boosts probabilities of continued policies helpful to their recovery. Several South Asian emerging market names continued their slide downward—notably Indonesia, India and Malaysia—with continued fiscal budget concerns.

Cash flows away from stocks to bonds, caused a general fall in yield by about 0.10% across the yield curve. The 10-year has fallen back to levels seen near the start of the quarter. During the week, long treasuries and investment-grade corporates led the way, gaining over a percent, while most other bonds ended up at least moderately positive. Lagging, with negative returns, were emerging markets, high yield and floating rate.

Interest-rate sensitive mortgage REITs gained last week, with Europe also returning positively by a slim margin. U.S. industrial/office was the lagging group last week.

Commodity markets were generally flat on the week, but the strongest showings came from wheat and livestock, which gained a few percent each. Wheat was affected by bad weather in Argentina that might affect crop harvests. Natural gas and crude oil lost ground with continued diplomatic efforts regarding Syria that lessen Middle East contagion fears.

In closing, the third quarter was actually quite good, despite the Fed taper fears, Syria and Federal budget strife. Equity assets provided solid gains—the S&P rose at an above-average pace, but was actually outshined by several sectors in our portfolios that have caused broader ‘non-60/40’ asset allocations to lag during recent years, including mid-cap, small-cap (micro-cap in our portfolios), foreign equities and foreign real estate. Even commodities and most bonds ended up in the positive despite their volatility.  In our routine ‘deep dives’ into various asset classes we own, we discover an immense amount of market information not generally reported on and discussed by general commentators—this helps us to both identify areas of potential over-exuberance as well as pockets of cheap valuations.

Have a great week!