Economic data for the week was highlighted by mixed but still-strong results from manufacturing, continued growth-oriented results from a key index of leading economic indicators, weaker retail sales affected by storm activity, and poor housing market results.
Developed equity markets were flattish in the U.S. due to a variety of positive and negative cross-currents, while emerging markets lost ground. Bonds also declined as interest rates rose. Commodities generally declined along with the price of crude oil.
(-) Retail sales for September rose +0.1%, which fell far short of the expected +0.6% increase. However, it appeared that Hurricane Florence in the Carolinas affected results sharply, as gas station sales and that of restaurants fell by a percent or more. The core/control retail sales number rose by +0.5%, which beat expectations by a tenth of a percent. Non-store/online sales rose by over +1% in the month, as did furniture and electronics/appliances. We presume hurricane recovery efforts may boost these numbers in coming months.
(+) The New York Fed Empire state manufacturing survey for October rose +2.1 points to +21.1, beating forecasts calling for a less dramatic rise to +20.0. The underlying composition showed a rise in new orders and shipments well into the +20’s, while employment stayed positive but to a lesser degree. Business conditions for the coming six months ticked down slightly, but also remained solidly in positive territory.
(+) The Philly Fed manufacturing index for October ticked down by -0.7 points to +22.2, but still beat expectations calling for a reading of +20.0. Under the hood, new orders and prices paid fell by a few points, while the sub-indexes for shipments and employment rose. Expectations for business activity six months in the future declined by a few points. Overall, the index continues to show a very strong manufacturing environment.
(+) Industrial production rose +0.3% in September, beating forecasts calling for +0.2%. The manufacturing production component rose +0.2%, with gains in the areas of autos and business equipment, while mining output rose +0.4% and utilities production was unchanged. Capacity utilization came in at an unchanged 78.1%, just below the forecasted 78.2%. Business inventories also rose by +0.5% for August, which was as expected. Overall, these metrics remain indicative of strong growth.
(-) Existing home sales for September fell by -3.4% to a seasonally-adjusted annualized rate of 5.15 mil. units, which was the sixth straight month of declines, and down -4.1% from a year ago. This was sharper than the expected drop of -0.9%, reaching their lowest level in three years. Sales for the prior month of August were also revised downward by a bit. Sales of single-family homes and condos/co-ops were both down almost exactly in line with the broader number for the month, and within a percent of each other for their respective year-over-year declines. Regionally, the South and West experienced the sharpest declines, with some hurricane effects in the Carolinas likely pulling down activity. Inventory measured by months’ supply ticked up by +0.1 to 4.4, while the median sales price came in at $258,100—up just over +4% from a year ago. First-time buyers continue to represent the bulk of the market (at just under a third), while the most severe sales declines have been in homes valued under $100k. Per the National Association of Realtors, who compiles this information, rising interest rates seem to be having an effect on home sales, which has delayed some activity in the more affordable housing range, seen in the stats. Higher-priced homes ($500k and up) appear to be less affected, as would be expected.
(0) Housing starts for September fell -5.3% to a seasonally-adjusted annualized rate of 1.201 mil. units, which outperformed the expected drop of -5.6%; in addition, August starts were revised downward by -14k. By segment, single-family starts only fell by -1%, while the more volatile multi-family segment dropped by -15% to drive the overall total. Regionally, starts in the Northwest rose by nearly +30% and +7% in the West, while the South and Midwest each fell by nearly -15%. No doubt, the South region was affected by hurricane effects. Building permits fell -0.6% for the month, contrary to an expected increase of +2.0%. Single-family permits were +3% higher month-over-month, while those for multi-family dropped by nearly -8%. The West region saw over a +10% expansion in permit activity, while that for the Midwest and Northeast fell. Overall, per the results in existing home sales, rising interest rates are starting to be talked about more seriously in their effects on dampening housing demand, although mortgage rates still remain low in historical terms.
(+) The NAHB homebuilder sentiment index for October rose +1 point to 68, for the first increase in six months—beating forecasts calling for a slight decline to 66. Current and future sales expectations each rose by a point as well, while prospective buyer traffic rose by +4 points. All regions saw gains, with the Northeast and South each rising by a few points, while the West sub-index rose by a single point. If historical patterns hold true, this could bode well for housing starts in coming months. These numbers could also be hurricane-related, as building activity picks up after natural disasters.
(+) The Conference Board’s Index of Leading Economic Indicators for September rose by +0.5%, to continue a trend of similar result over the past three months. The index was generally strong across the board of indicators, being led by consumer sentiment, ISM new orders and the interest rate spread, while the only two negative contributors were weekly manufacturing hours and building permits. Over the past six months, the index has gained at an annualized rate of +5.6%, which is slower than the +8.4% annualized pace of the prior six month period. Comments by the Conference Board did note a bit of slowing in the upward trajectory of growth, including capacity constraints and an increasingly tight labor market. The index of coincident indicators rose by +0.1%, while the index of lagging indicators declined by -0.1%.
Overall, the takeaway is that this index continues to show that economic growth across the economy remains robust, although not growing at the same trajectory as earlier in the year and expectations for further normalization next year.
(+) The government’s JOLTs job openings data for August increased to 7.136 mil. from 7.077 mil. the prior month, beating expectations calling for a slight decline to 6.900 mil. and reaching another all-time high. The total number of openings included surprising strength in manufacturing employment, and is +16% higher than a year ago. The job opening and hiring rates each rose by +0.1% to 4.6% and 3.9%, respectively reaching cycle highs as well, while the quits rate was unchanged at 2.4%.
(+) Initial jobless claims for the Oct. 13 ending week fell by -5k to 210k, which was just below the 211k expected. Continuing claims for the Oct. 6 week declined by -13k to 1.640 mil.—well under the expected 1.663 mil. On the margin, changes in claims have been affected by hurricane activity, first in the Carolinas, which is now unwinding, while no effect from Hurricane Michael in Fla. appears to yet be reflected. Other than that region, claims are continuing to run at multi-decade low levels—implying that layoffs are minimal.
(0) The FOMC meeting minutes from late September were unsurprising, with general comments noting the strong activity level of the economy, as well as labor markets, while inflation remains near the policy objective. Due to this strength, the tone was taken as a reinforcement of the Fed’s resolve to keep the quarterly pace of interest rate increases intact through 2019 (including a high likelihood of a hike in December), and possibly beyond, depending on how this growth trajectory persists into next year. Threats include impacts of any tariffs, obviously, as well as the waning effects of fiscal policy/tax cuts as time goes on.
The key component, and related to recent comments from Fed Chair Powell, is the degree that moving beyond the ‘neutral’ rate would be necessary to keep conditions from becoming overheated. However, there appears to be hesitancy from several members of the committee from making conditions overly restrictive without signs of overheating actually occurring—especially since monetary policy tends to operate at a lag of several quarters.
|Period ending 10/19/2018||1 Week (%)||YTD (%)|
|BlmbgBarcl U.S. Aggregate||-0.37||-2.46|
|U.S. Treasury Yields||3 Mo.||2 Yr.||5 Yr.||10 Yr.||30 Yr.|
U.S. stocks were essentially flat for the week, with large caps eking out a small gain, while small caps lost some ground. From a sector standpoint, defensive groups led the way, as staples and utilities experienced gains of several percent, led by a strong earnings report by Procter & Gamble, while energy and consumer discretionary each fell back by about -2%.
A degree of market volatility continued with the unending concern over impact of the U.S.-China trade conflict, in addition to the new backlash surrounding the role of Saudi Arabia in the death of a prominent journalist in Turkey. Such news events generally don’t affect stock prices, but the unique and sometimes-strained U.S.-Saudi relationship is again being tested, with ramifications for regional power balance with Iran, defense contracts and energy policy (and prices).
The sad news from early in the week was the announced Chapter 11 bankruptcy of Sears. Of course, this didn’t really come as a surprise to anyone, as the firm has been in financial trouble following a drawn-out turnaround attempt by investor Eddie Lampert. While the retail sector overall has been facing headwinds from changing consumer tastes and the interest medium (including the rise of Amazon), Sears appeared to have an especially difficult time adapting to this new world, saddled with a lack of direction and too many stores. (Ironically, the value of the firm became based on its immense real estate holdings than its retail prowess of old.) In many ways, the other irony is that Sears was the ‘original’ Amazon, over a century ago, by mass merchandising items in a mail order catalog (including items as elaborate as kits to build an entire home) which challenged the supremacy of the smaller local dry goods stores of the time of the time. The ultimate fate remains to be determined—whether it’s a restructuring (which includes debt write-downs supervised by the courts) or a total shutdown.
Mid-term elections are also around the corner, the prelude to which has historically added to market volatility. Interestingly, periods following the conclusion of the elections has been positive for equities in the months afterward. In fact, the S&P has not experienced a negative return in the 12 months following a mid-term election since 1946.
Earnings results for Q3 are also continuing to roll in. Per FactSet, firms have seen a more negative impact from a strong dollar than they have from the tariff talk—at least thus far. On the other side, firms are expected to report the second highest net profit margin in the last ten years (at just under 12%), largely driven by the recent corporate tax cuts, and over the trailing 5-year average that sits just over 10%. Earnings are expected to come in showing 19% growth year-over-year, with about a third of the recent quarter’s results originating from tax cut impacts. Profit margins are also expected to come in at just under 12%, based on operating earnings, which is the highest in decades.
Foreign stocks were slightly down in developed markets, with the headwind of a stronger dollar, continued uncertainty about the Italian budget situation and weaker corporate earnings results in that region compared to those in the U.S. The chances of a Brexit deadline being reached without a deal with the EU is also looking increasingly possible, which has kept uncertainty high and pressure downward on the British pound. Emerging markets suffered losses of over a percent as trade concerns and effects on economic growth led to negative sentiment. Chinese growth has eroded to 6.5% for Q3, the weakest pace in nine years, in keeping with a stock market reaching a four-year low—all resulting in recent announcements of further government stimulus and continued negative sentiment towards emerging markets in general. Brazil, on the other hand, gained sharply on the week, as the populist pro-business presidential candidate looked to increase his lead in the polls a week before the runoff election.
U.S. bond prices pulled back in keeping with interest rates ticking upward. Treasuries outperformed corporate credit slightly, as spreads widened, with senior loans ending the week with positive returns. Foreign bonds similarly pulled back in developed market regions, hurt by the dollar’s move higher, while emerging market local debt recovered by nearly a percent to offset negative momentum of the past several months. Italy continues to be a key point of uncertainty in European fixed income, although Moody’s affirmed their investment-grade status to end the weekend, which kept a damper on yields.
Real estate results were mixed to higher for the week, despite higher rates. Despite some concern over the retail sector being affected by the Sears news, most of the larger retail REITs, which are focused on higher quality, multi-use regional malls, haven’t or don’t appear to be overly affected by the news.
Commodities were generally weaker, along with the headwind of a stronger dollar, with precious metals ending the week as the only group in the positive. Energy lost the most ground, offset by a sharp gain in natural gas and -3% decline in crude oil to end at just over $69/barrel. Interestingly, Saudi Arabia has announced an increase in output to ease recent high prices, no doubt somewhat politically motivated by the recent Turkish embassy scandal they’ve been involved in.
Sources: Ryan M. Long, CFA, FocusPoint Solutions, American Association for Individual Investors (AAII), Associated Press, Barclays Capital, Bloomberg, Citigroup, Deutsche Bank, FactSet, Financial Times, Goldman Sachs, JPMorgan Asset Management, Marketfield Asset Management, Morgan Stanley, MSCI, Morningstar, Northern Trust, Oppenheimer Funds, PIMCO, Standard & Poor’s, StockCharts.com, The Conference Board, Thomson Reuters, U.S. Bureau of Economic Analysis, U.S. Federal Reserve, Wall Street Journal, The Washington Post. Index performance is shown as total return, which includes dividends, with the exception of MSCI-EM, which is quoted as price return/excluding dividends. Performance for the MSCI-EAFE and MSCI-EM indexes is quoted in U.S. Dollar investor terms.
The information above has been obtained from sources considered reliable, but no representation is made as to its completeness, accuracy or timeliness. All information and opinions expressed are subject to change without notice. Information provided in this report is not intended to be, and should not be construed as, investment, legal or tax advice; and does not constitute an offer, or a solicitation of any offer, to buy or sell any security, investment or other product. FocusPoint Solutions, Inc. is a registered investment advisor.
Notes key: (+) positive/encouraging development, (0) neutral/inconclusive/no net effect, (-) negative/discouraging development.