Three Areas of Concern for Stocks

The stock market has three areas of concern over the next few weeks:  /1/ action on the debt ceiling,  /2/ extent of economic weakness, and /3/ whether the Fed will pause at the June FOMC Meeting.  These concerns could keep the market in a range.

The debt ceiling has to be raised by the start of June, either for a short or long period of time.  Although the Democrats and Republicans have not budged from their stated positions, the postponement of Friday's meeting of the two leaderships could be a good sign according to news sources.  The two staffs are working behind the scenes to hammer out a solution, and the delay suggests they're still at it.  Presumably, we will know whether they were successful at some point this week.

There are four US economic releases this week that bear on the question of slowdown or recession -- April Retail Sales, April Manufacturing Output (part of Industrial Production), April Housing Starts/Permits and Unemployment Benefit Claims.  Consensus estimates for the first three are more consistent with sluggish growth than recession.  

Consensus looks for Retail Sales to rebound in April after falling in March.  Total is seen +0.7% m/m after -0.6%, while Ex Auto is seen +0.4% after -0.4%.  Revisions to February and March will play a role in determining how April stands relative to Q123.  As currently printed, consensus estimates would put the April level essentially flat relative to the Q123 average.   Note that while the market did not like the drop in the University of Michigan Consumer Sentiment Index for mid May, released on Friday, the Index is not a reliable predictor of Retail Sales.

Consensus expects April Manufacturing Output to edge up 0.1% m/m, after falling 0.5% in March.  The risk is that it could print slightly higher.  Just like for Retail Sales, the consensus estimate would put the level of April Manufacturing Output about equal to the Q123 average.

Consensus sees a small decline in April Housing Starts and flat Permits.  Both levels would be essentially equal to the Q123 average.  What will be important is whether 1-Family Starts/Permits continue to climb, having done so in February and March.  They have a larger and more immediate impact on construction activity than do Multi-Family Units.  

This week's most important release is Unemployment Claims.  They are the broadest measure of economic activity among high-frequency data.  And, it will be important to see if last week's reported jump in Initial Claims carries over to a jump in Continuing Claims in this week's data.  A jump in Continuing will suggest that hiring did not offset the surge in layoffs.  And, if this situation worsens even more over the next couple of weeks, the Claims data would point to a slowdown in May Payrolls and a higher Unemployment Rate.  The Fed may need to see evidence of a weakening labor market to decide whether to pause in tightening.

The latest inflation data were not soft enough to guarantee a pause in Fed tightening, but they didn't close the door either.  /1/ The 0.4% m/m April CPI (Total and Core) is double what the Fed wants.  To be sure, the picture would look a lot better without Owners' Equivalent Rent (OER) and Used Car Prices.  Excluding them, Core CPI rose only 0.2%.  The jump in Used Car Prices could be temporary, as their wholesale prices have begun to decline again.  OER would seem to have room to catch up further to the weakness seen in private surveys of housing rent.  If OER does not slow to 0.2%, then other components of the CPI would have to weaken further to get to the Fed's target.  /2/ The increase in 5-Year Inflation Expectations to 3.2% in the Mid-May Michigan Sentiment Survey is not what the Fed wants to see.  The print is above the 2.8-3.0% recent range, raising the possibility that long-run inflation expectations are becoming unhinged.  The Fed's hawkish rhetoric is not likely to change, even if it pauses in tightening.