With the stunning decline in Q1 GDP, the health of the US
economy has once again taken center stage. The week ahead is
shortened by a Friday holiday, but is packed with important data
releases. It will all be over Thursday morning, when many will quit
early and head for the beach.
In a quiet, low volume trading environment, we could see some
Prior Theme Recap
plenty of inflation talk leading up to the release of the Fed's
preferred measure, the PCE index. That assessment was accurate. I
also speculated that there might be a final GDP revision exceeding
2%. That was an underbid! The story made plenty of news, but caused
only a temporary reaction in stocks. Bonds strengthened (lower
yield) emphasizing the continuing disparity between those
Naturally we would all like to know the direction of the market
in advance. Good luck with that! Second best is planning what to
look for and how to react. That is the purpose of considering
possible themes for the week ahead.
This Week's Theme
With the Q114 GDP decline as context, the economic debate is
once again wide open. It is time for a
mid-year reality check, with possible fireworks in
I expect the media and punditry to examine a full range of economic
possibilities. Here are the candidates.
- Stagflation - Combine economic weakness with inflation and it
is the road to the 70's. The Fed is "boxed in" and "between a
rock and a hard place." Watch the early warning signs. Here is
of this thinking.
- Poor economic policy - ObamaCare, tax policy, regulation. (
reflects this viewpoint).
- Exceptional circumstances - weather, sluggish health care
enrollment, inventories. (
Analysis and charts
from Hale Stewart).
- Things turned in March - noted by those who follow frequent
data. (Extensive discussion
from New Deal Democrat
- Expect a rebound -- weather delayed demand, health care
rebounded, inventories will be rebuilt. (
). (Also Jared Bernstein via
Same data, many interpretations. Some positions reflect
underlying policy and political preferences. Investors must use
care, especially on issues of this type. We must not confuse what
we hope for with reality and sound investments.
Which of these viewpoints is correct
? As usual, I have some thoughts that I will share in the
conclusion. First, let us do our regular update of the last week's
news and data. Readers, especially those new to this series, will
benefit from reading the
Last Week's Data
Each week I break down events into good and bad. Often there is
"ugly" and on rare occasion something really good. My working
definition of "good" has two components:
- The news is market-friendly. Our personal policy preferences
are not relevant for this test. And especially - no
- It is better than expectations.
There was some encouraging news last week.
Consumer confidence registered 85.2.
This beat expectations via the Conference Board. The Michigan
Sentiment report also showed a slight beat. Doug Short
updates both indicators
(and the NFIB optimism index as well). The charts are all great,
but I will highlight the Conference Board result - now beating
the declining trend, but well off of historic highs.
(click to enlarge)
Stock Buybacks support the market
. Ed Yardeni
shows the trend and the data
. He describes the causality and warns about the impact of a
recession. If this does not seem like good news, check out
As I have often observed in the past, corporations have an
incentive to borrow in the bond market and use the proceeds to
buy back shares when their earnings yield exceeds the corporate
bond yield. That's been the case since 2004 thanks to the Fed's
easy monetary policies under both Alan Greenspan and Ben
Bernanke, and now Janet Yellen.
Buybacks are a form of financial engineering since they
boost earnings per share whether a company's fundamentals are
improving or not. They've certainly contributed to the bull
market's great run in an economic environment that has been
widely described as "subpar."
(click to enlarge)
Earnings estimates grind higher
. Brian Gilmartin does a great job on this topic, as well as
coverage of many specific companies. We think of him as the
earnings guru. His
reflects some conversations we have had in recent years. I like
to think we have both benefited from a focus on the truth in
earnings forecasts. Most observers casually dismiss one of their
most helpful sources. Earnings estimates start out as too
bullish, mostly when made two years in advance. By the time the
report is announced, the beat rate is over 60%. They have to be
right at some point!
Housing data improved
. New home sales were up over 18%. Calculated Risk, our favorite
source on housing, has a
more measured take
- less enthusiasm about the spike in new home sales (up 2%
y-o-y), less pessimism about the decline in existing home sales
(reflecting fewer foreclosures and short sales).
The economic news included some negatives as well.
Boomerang kids won't leave.
The sluggish recovery is playing havoc with "traditional" family
life. Young adults are returning home. This can be financial
necessity, but it can also make sense. Adam Davidson's
NYT Magazine piece
attracted plenty of attention this week. There are implications
both for employment and housing.
Margin debt increased at the NYSE
. I am scoring this as "bad" because that is the way it is
generally portrayed. Doug Short
posts it with a question mark
others using his work
are less equivocal. Some also see a decline in debt as bad, since
that triggers the warning for stocks (which is either 3 months or
6 months or a little longer). I am uncomfortable with indicators
that are viewed as positive (or negative) no matter whether they
go up or down!
Planned stock buybacks
are in a dramatic decline. The overall levels are still high, but
down significantly from Q1. (TrimTabs via
Personal spending disappointed.
The personal income gain met expectations with a growth of 0.4%,
but spending was only up 0.2%. (Via
Steven Hansen at GEI
sees this as bad sign for Q2 GDP.
Durable goods orders
declined 1%. (See
). Also several helpful
comparisons and charts from Doug Short
(click to enlarge)
GDP declined 2.9% for Q114.
The decline is much greater than we typically see outside of a
recession. Even if the recovery is continuing, it underscores how
dramatically economic performance lags potential.
discusses these relationships, including a good chart on each
(click to enlarge)
(click to enlarge)
Ukraine. The ceasefire in eastern Ukraine is "under stress." (
The Silver Bullet
I occasionally give the Silver Bullet award to someone who takes
up an unpopular or thankless cause, doing the real work to
demonstrate the facts. Think of The Lone Ranger.
Normally the award goes for a single refutation of a single bad
claim. Barry Ritholtz often uses a weapon that is both more modern
and more powerful than the Lone Ranger's. Please read his
analysis of a general failure
in causal reasoning. Here are some recent examples, cut down with a
Gatling gun instead of a six-shooter.
What are a few examples of the single factors that have been
making the rounds these days?
: "We have never had a negative 2.96 percent GDP report and not
gone into recession…"
: "The U.S. stock market doesn't do well when interest rates
: "Earnings are good this quarter, better than expected, and
therefore, the market's going higher."
New Financial Products
: "These new products are being adopted, therefore it means the
bull market is coming to its peak."
Death Cross/Golden Cross
: "When the 50 and 200 day moving average cross to the upside
(downside), it bodes well (poorly) for any trading vehicle."
Whether a trader or an investor, you need to understand risk. I
monitor many quantitative reports and highlight the best methods in
this weekly update. For more information on each source,
Recent Expert Commentary on Recession Odds and Market
: A variety of strong quantitative indicators for both economic and
Bob Dieli does a
(subscription required) after the employment report and also a
monthly overview analysis. He follows many concurrent indicators to
supplement our featured "C Score." One of his conclusions is
whether a month is "recession eligible." His analysis shows that
none of the next nine months could qualify. I respect this because
Bob (whose career has been with banks and private clients) has been
far more accurate than the high-profile TV pundits.
Updates his unemployment rate recession
, confirming that there is no recession signal.
Georg's BCI index
also shows no recession in sight. For those interested in hedging
their large-cap exposure, Georg has
unveiled a new system
: An update of the regular ECRI analysis with a good history,
commentary, detailed analysis and charts. If you are still
listening to the ECRI (2 ½ years after their recession call), you
should be reading this carefully. Doug includes the most recent
ECRI discussion, which has been consistently bearish, including the
blown call on the recession.
Doug also continually updates the "Big Four" indicators used in
recession dating by the National Bureau of Economic Research
(NBER). With all of the data for May in the books, it is time for
another look at the key chart, but
see the full article
for comprehensive discussion.
Another great source is
Janet Yellen's Dashboard
from Brookings (HT Jeff Sandene
). This is a wonderful interactive tool. The Lauren Nassef
illustration captures the concept.
(click to enlarge)
The Week Ahead
We have plenty of news in a holiday-shortened week.
The "A List" includes the following:
- Employment report (Th). The complex, heavily revised report
is still the most important evidence for markets.
- ISM index ((
)). Good read on manufacturing trends with some leading
qualities. Continuing strength?
- Auto sales . After the seasonal fluctuations, will strength
continue? And check out the F150 small business indicator.
- ADP employment report (W). An alternative measurement of
private job growth. Deserves more respect.
The "B List" includes the following:
- ISM Services (Th). Covers more of the economy than
manufacturing, but still not as influential. Many will be on the
way to the beach by the time this is released!
- Construction spending. Important sector - May data.
- Chicago PMI ((
)). The regional survey most reflective of the national
- Pending home sales. May data, but everyone cares about all
- Trade balance (Th). May data relevant for Q2 GDP.
Despite the start of summer, the speaking calendar includes SF
Fed President on Tuesday and Chair Yellen on Wednesday.
While the financial markets have adjusted to the current Iraq
for confirmation), there is plenty of attention to any breaking
news. There is also the possibility of increased conflict in
How to Use the Weekly Data Updates
In the WTWA series I try to share what I am thinking as I
prepare for the coming week. I write each post as if I were
speaking directly to one of my clients. Each client is different,
so I have five different programs ranging from very conservative
bond ladders to very aggressive trading programs. It is not a "one
size fits all" approach.
To get the maximum benefit from my updates you need to have a
self-assessment of your objectives. Are you most interested in
preserving wealth? Or like most of us, do you still need to create
wealth? How much risk is right for your temperament and
My weekly insights often suggest a different course of action
depending upon your objectives and time frames. They also
accurately describe what I am doing in the programs I manage.
Insight for Traders
Felix remains cautiously bullish. The positive elements are
modest in strength and uncertainty remains high - typical for a
trading range market. This week we were fully invested in three of
the top sectors for our trading accounts. That remains our position
going into the week ahead, although some of the strength is outside
of the US.
You can sign up for Felix's weekly ratings updates via email to
etf at newarc dot com.
Insight for Investors
I review the themes here each week and refresh when needed. For
investors, as we would expect, the key ideas may stay on the list
longer than the updates for traders. The current "actionable
investment advice" is
The market still did not provide much opportunity for fresh
buys. The gentle upward action is fine for long-term investors and
excellent for those trying out our Enhanced Yield approach.
Here are some key themes and the best investment posts we saw
Often the best advice helps the investor learn what to
- Worry about low volatility. The scary stories say that it
reflects dangerous "complacency."
Dan McCrum at FT Alphaville
highlights some great research from Citi. There is less
volatility in earnings. The research also shows the complete lack
of correlation between volatility and stock returns for the next
year. Case closed.
QE has not just propped up asset prices, it has also helped
to stabilize economies and corporate profits. As long as the
eventual withdrawal of QE coincides with continued fundamental
stability, then there may be less of an increase in market
volatility than many fear.
(click to enlarge)
On the positive side, there are some good stock ideas.
Goldman Sachs shares some choices (via
Steven Russolillo at MarketWatch
for the underlying rationale). Skeptics may ask why they would
share ideas, but that is the modern method of the big firms. They
need to show a little. We own some of the names and others are on
our watch lists for various programs, so the ideas are
If you are worried about possible market declines, you have
plenty of company. This is one of the problems where we can help.
It is possible to get reasonable returns while controlling risk.
You can get our report package with a simple email request to main
at newarc dot com. Also check out our recent recommendations in our
new investor resource page
-- a starting point for the long-term investor. (Comments and
suggestions welcome. I am trying to be helpful and I love and use
The weakness in Q1 GDP is not consistent with the wide range of
economic data that we track. There is no indication of a recession
using the indicators tracked by the NBER, even during the first
quarter. Growth has been sluggish, but steady. This feels like a
recession to most average people, who consistently respond to
surveys that the Great Recession has not ended.
Meanwhile, the business cycle hit a trough in 2009 and shows no
sign of reaching a peak. Michigan economist Justin Wolfers, writing
in the New York Times,
observes as follows
The most important indicators of our economic health are
telling very different stories. On Wednesday,
reports made much of the fact that gross domestic product fell at
an annual rate of 2.9 percent in the first quarter of this year,
a decline largely attributable to bad weather. That brings growth
over the past year to a disappointing 1.5 percent. Yet the labor
market continues to deliver good news, and over the same period,
the unemployment rate fell by more than a full percentage
He notes that the past year has defied the relationship between
unemployment and economic growth, Okun's Law. The chart below shows
that current results represent a dramatic outlier.
(click to enlarge)
I do not expect any instant economic solutions, but the evidence
supports continued reversion to the long-term growth trend. This
will continue until we see more signs of a tight labor market --
not just more jobs, but more hours and higher wages.
That is why the data this week are especially important. Any
break from the recent trend of modest growth could lead to some
early holiday fireworks!
The author has no positions in any stocks mentioned, and no plans
to initiate any positions within the next 72 hours. The author
wrote this article themselves, and it expresses their own opinions.
The author is not receiving compensation for it. The author has no
business relationship with any company whose stock is mentioned in
Ominous Portents In Consumer Sentiment