The Days Ahead: Europe industrial production and U.S. housing. Earnings start.
One-Minute Summary: A better week. Year to date, 442 companies in the S&P 500 are up and 63 are down (confusingly, the S&P 500 has more than 500 companies). It’s early days, of course, but the S&P 500 is up 3.6% this year and there’s only been one trading day where the market didn't close higher than its start. If you think that over the last month, we've had the longest government shutdown, the threat of a national emergency, the President threatening the Fed chair, tough trade talk with China and more tariffs on EU products, then the market seems a lot more robust than the gloom of late last year.
The government shutdown will start to affect economic numbers soon.
The January unemployment data, for publication on February 4th, was collected last week. In the last shutdown in 2013 and 1996, claims rocketed up as government employees became eligible for unemployment insurance.
Some economic data is no longer available. It started with the Census Bureau and the trade report last week and looks to continue with the BEA and GDP estimates. It means we’re all flying a bit blind.
The GDP forecast for Q1 2019 is for 2.1% compared to an estimated growth of 2.8% for Q4 2018. One respected analyst thinks that every two weeks of the shutdown reduces GDP by 0.1%. That’s $20bn which seems about right.
So it was good news to read the Fed minutes last week and see it confirmed that they intend to remain patient and watch the data. That takes the odds of an early Fed cut pretty much off the table for March and probably June as well. A lot hangs on whether there will be a trade deal. And the answer very probably, is yes. We know that both sides have an incentive to close a deal. Both economies are hurting and the U.S. deficit is widening the longer this goes on. We have no idea if this will be a token deal (as in the Canada and Mexico deal) or something substantive that addresses thorny issues like intellectual property and market access. But we think something will break to the upside.
1. Nothing happening with inflation. We have to remind ourselves that inflation is the other Fed mandate (along with employment) and while the Fed looks at core PCE inflation, the familiar CPI is also important. It drives things like TIPS bonds, social security, pension benefits and some wages. It’s all been a bit of a yawn lately:
The headline number came in at 1.95%, primarily because gas and other energy prices fell by nearly 10% in December. Rent and home ownership costs are running at 3.2%. That’s an especially important line item because at 24%, it’s by far the largest index component. For the next few months, we’re unlikely to see core inflation much above 2.3% (h/t Pantheon Economics) partly because the base effects from a year ago start from a high level. Real wages were up 1.2%, which is not enough to tip the Fed’s hand.
So, all in all, as forecast and not a market mover. Given all the other stuff that's moving markets these days, that’s one less thing.
2. Should I stay or should I go? We've been saying for years that wage inflation is barely a factor in the economy. Despite lower labor force participation, employee wage gains seem stuck around 2%, about in line with inflation. There are times when it runs higher, especially in deflation periods which give the illusion of real wage gains, and in tight labor markets. But tight labor markets are difficult to define. In the 1980s, the Fed thought any unemployment rate below 6% was inflationary. In the 1990s that fell to 5.5%. It's currently 4.5%. But we’re still not seeing much wage inflation.
Yet the labor market is healthy and that’s a good thing. More people are quitting their job than at any time since the 1990s. That’s tough if you're an employer but people don't quit unless they feel they can land another job, so it’s a straightforward confidence indicator. Moving employer also generally means higher wages. So for years, job switchers saw higher wage growth than job stayers. Standard career advice to those wanting a pay increase was “change job”. There were other downsides but we’ll keep those for another day. Here’s the difference between the two:
The blue line is the switcher, running consistently above the stayer. But now job stayers’ wages are increasing at their highest rate since 2007. For years, employers kept staff with better work conditions, vacation, benefits, awards, and training. Anything but actually pay more. That seems to be changing and it should be good for confidence. More here.
Bottom Line. There is a lot of bad news priced into markets. The economy is not nearly as weak as the stock market suggests. It’s growing at a slower rate but that is not the same as no growth. It won't take much to reverse sentiment.
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--Christian Thwaites, Brouwer & Janachowski, LLC
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