The Senate tax bill and magnitude of holiday shopping will remain the markets' focus this week. Last week, odds of passage improved when the Alaska Senator Murkowski endorsed ending the ObamaCare mandatory insurance provision. But, there is still uncertainty about passage, although scuttlebutt among Washington staffers is that the odds of passage are slightly positive (from what I hear). News headlines should spike on Tuesday, when Trump and Senate Republicans meet and the Senate Budget Committee acts on the legislation ahead of the full Senate vote later in the week.
A tax cut would be a positive for stocks and negative for Treasuries, which should carry into H118. But, these market responses could reverse later next year, when the boost to the economy from the tax cut begins to dissipate while the drag from higher interest rates begins to build. This is the typical "model" prediction of the after-effects of a tax cut. Potentially more important is the possibility that the corporate tax cut will enhance and sustain the recent pickup in productivity growth by encouraging additional investment. A faster trend in productivity growth will help solve long-term problems, such as the solvency of social security and Medicare, as well as improve the US standard of living (see my November 5 blog).
This week's US economic data are expected to show modest pullbacks in new home sales and business surveys, joining the Claims data in suggesting a slight crack opening up in the "strong growth" story. The pullbacks are not enough to derail the story, but should act to keep Treasuries in a range (see table below). The October Core PCE Deflator is expected to edge up to 0.2% m/m and 1.4% y/y (was 0.1% and 1.3% in September). Some of the speedup results from pass-through of the higher oil prices, and the overall story of modest, below-target inflation should remain intact.
(level)
New Home Sales Markit Mfg PMI Chicago PM Mfg ISM
Q117 617k Units 54.2 55.3 57.0
Q2 605 52.5 61.1 55.8
Q3 603 53.0 61.0 58.6
Oct 625 ** 54.6 66.2 58.7
Nov * 53.8 63.0 58.3
* consensus estimate
** consensus estimate, down 6.3% from 667k in September
There are also a number of Fed speakers this week, including Yellen, Fed Governor Powell, NY Fed President Dudley and SF Fed President Williams. They will likely keep open the door for a December rate hike. Last week, Yellen emphasized the apparent decline in long-term inflation expectations in cautioning about raising rates too fast. This would be important except that she is a lame duck. Powell, Trump's appointee for Fed chair, should be more circumspect.
Sunday, November 26, 2017
Monday, November 20, 2017
This Week's Focus: The Tax Bill, FOMC Minutes and Holiday Spending
The markets will likely remain on edge this week, focused on speculation about the Senate headcount regarding the upcoming tax cut vote. The uncertainty should weigh on stocks but lift Treasuries. Some Senators already have said they will study the bill over the holiday recess before making a decision, so the uncertainty will not likely be resolved until then. If the Senate passes a tax bill, stocks will rally and Treasuries sell off. But, after these initial responses, economic growth and inflation as well as the Fed's reactions to them will once again be the main drivers of the markets.
Besides the Senate tax bill, the markets also will likely focus this week on hints in the November FOMC Minutes (due Friday) on rate hikes in December and 2018, and expectations for Black Friday and Cyber Monday shopping. This week's US economic data are minor, but are expected to be growth-positive.
The November FOMC Minutes will keep open the door for a December rate hike, and the markets' near-certain probability of one should not change. But, there will probably be little new information regarding Fed thinking about the path of monetary policy in 2018. The inflation outlook will probably be the most important information. The question is whether the doves will continue to argue for caution in hiking without clear signs of a speedup in inflation. There also may be some discussion about fiscal policy, but nothing definitive is likely in the absence of the details of a tax cut.
Expectations are high for this year's holiday spending. The National Retail Federation expects holiday sales to climb 3.6-4.0% y/y, among the strongest in recent years. The strength should be particularly noticeable over the Black Friday/Cyber Monday weekend, according to a survey reported by Forbes Magazine. Retailer stocks have already begun to anticipate the start of the holiday season, and should continue to move up in the next couple of weeks if these predictions are correct.
Holiday Spending (y/y percent change)
2017 (est) 3.6-4.0
2016 3.6
2015 3.2
2014 5.0
2013 2.9
2012 2.6
2011 4.6
2010 5.2
2009 0.2
The economy's strength looks like it continued into Q417. Both the Atlanta Fed and NY Fed models boosted their forecasts to 3.4-3.8% (q/q, saar) from 3.2% after incorporating last week's data. These projections show an acceleration from the 3.0% Q317 pace. The Initial Claims data, however, have turned up a bit in the past two weeks, hinting at a crack in the strong growth story. But, so far Continuing Claims have not corroborated the softening, and consensus looks for Initial to fall in next week's report. At this point, these data just should be watched.
Initial Claims Continuing Claims
Aug Avg 237k 1.951 Mn
Sep 274 1.935
Oct 232 1.894
Nov 4 Wk 239 1.860
Nov 11 249 na
The spending strength is not likely to boost inflation, given the stiff competition between internet and brick & mortar retailers. Moreover, there was little in the October CPI report to spark significant concern about a pickup in inflation. The 0.2% m/m Core CPI showed a speedup in rent as its pace returned to trend (some of the speedup, though, could have reflected temporary spikes in hurricane-related areas) and a pass-through of higher oil prices (such as airfares). But, other price movements were mostly benign or down.
Besides the Senate tax bill, the markets also will likely focus this week on hints in the November FOMC Minutes (due Friday) on rate hikes in December and 2018, and expectations for Black Friday and Cyber Monday shopping. This week's US economic data are minor, but are expected to be growth-positive.
The November FOMC Minutes will keep open the door for a December rate hike, and the markets' near-certain probability of one should not change. But, there will probably be little new information regarding Fed thinking about the path of monetary policy in 2018. The inflation outlook will probably be the most important information. The question is whether the doves will continue to argue for caution in hiking without clear signs of a speedup in inflation. There also may be some discussion about fiscal policy, but nothing definitive is likely in the absence of the details of a tax cut.
Expectations are high for this year's holiday spending. The National Retail Federation expects holiday sales to climb 3.6-4.0% y/y, among the strongest in recent years. The strength should be particularly noticeable over the Black Friday/Cyber Monday weekend, according to a survey reported by Forbes Magazine. Retailer stocks have already begun to anticipate the start of the holiday season, and should continue to move up in the next couple of weeks if these predictions are correct.
Holiday Spending (y/y percent change)
2017 (est) 3.6-4.0
2016 3.6
2015 3.2
2014 5.0
2013 2.9
2012 2.6
2011 4.6
2010 5.2
2009 0.2
The economy's strength looks like it continued into Q417. Both the Atlanta Fed and NY Fed models boosted their forecasts to 3.4-3.8% (q/q, saar) from 3.2% after incorporating last week's data. These projections show an acceleration from the 3.0% Q317 pace. The Initial Claims data, however, have turned up a bit in the past two weeks, hinting at a crack in the strong growth story. But, so far Continuing Claims have not corroborated the softening, and consensus looks for Initial to fall in next week's report. At this point, these data just should be watched.
Initial Claims Continuing Claims
Aug Avg 237k 1.951 Mn
Sep 274 1.935
Oct 232 1.894
Nov 4 Wk 239 1.860
Nov 11 249 na
The spending strength is not likely to boost inflation, given the stiff competition between internet and brick & mortar retailers. Moreover, there was little in the October CPI report to spark significant concern about a pickup in inflation. The 0.2% m/m Core CPI showed a speedup in rent as its pace returned to trend (some of the speedup, though, could have reflected temporary spikes in hurricane-related areas) and a pass-through of higher oil prices (such as airfares). But, other price movements were mostly benign or down.
Sunday, November 12, 2017
Macro Background Should Support Seasonal Strength in Stocks
The macroeconomic background should continue to support the stock market rally during its current seasonally strong period. The stock market tends to climb from around Thanksgiving through the end of the year. A strong stock market should keep upward pressure on Treasury yields, although the latter's Friday sell-off seems excessive and risks unwinding.
The slew of US economic data to be released this coming week, particularly October Retail Sales and CPI on Wednesday, should be stock-market friendly. Consensus-like prints would encourage expectations for good holiday consumer buying amidst modest inflation. Consensus looks for +0.3% m/m Ex Auto Retail Sales and +0.2% Core CPI.
The markets already have built in a near-100% likelihood of a Fed rate hike at the December 12-13 FOMC Meeting. So, this coming's week's strong US real-side economic data should have little effect on this expectation. The odds of a December rate hike could pull back somewhat, however, if the Core CPI comes in below consensus, as discussed in last week's blog.
The probability of a December rate hike also could decline if the November Employment Report, due December 8, softens substantially. But, this is not a slam dunk. A softening in Payroll growth is conceivable as a result of less-than-seasonal holiday hiring by retailers, already announced by some large store chains. And, the Unemployment Rate could rebound, as some of the decline in the labor force in October -- which depressed the Unemployment Rate then -- could have been hurricane related and temporary. Average Hourly Earnings, however, risks printing on the high side. They should rise a modest 0.1-0.2% m/m, based on calendar considerations. But, the risk is for 0.3-0.4% from composition considerations -- average earnings would be boosted by the absence of low-paid holiday workers. In the latter event, the y/y would rebound to 2.7-2.8% from 2.4% in October.
The markets were somewhat unnerved last week with the Senate proposal to delay the corporate tax cut to 2019, versus the House bill's start date of 2018. The market reaction was wrong, according to my analysis of October 29. There, I argued that a tax cut would lead to more aggressive Fed tightening and an increase in Treasury yields that would hit the economy when the boost from the tax cut is abating, thus risking the end of the economic expansion. A delay in the tax cut, or a gradual implementation as is likely in a reconciliation bill, would push back the risk of that scenario.
A potential positive for stocks and negative for Treasuries next year is an easing of the Fed's bank regulations. Both Powell, the nominee for Fed Chair, and Quarles, the new Fed Vice Chair for Supervision, appear to be in favor of doing so. The policy response to the 2008 financial crisis was to clamp down on bank risk taking. This was one reason for the sub-par economic recovery. A relaxation would be a positive for economic growth.
The slew of US economic data to be released this coming week, particularly October Retail Sales and CPI on Wednesday, should be stock-market friendly. Consensus-like prints would encourage expectations for good holiday consumer buying amidst modest inflation. Consensus looks for +0.3% m/m Ex Auto Retail Sales and +0.2% Core CPI.
The markets already have built in a near-100% likelihood of a Fed rate hike at the December 12-13 FOMC Meeting. So, this coming's week's strong US real-side economic data should have little effect on this expectation. The odds of a December rate hike could pull back somewhat, however, if the Core CPI comes in below consensus, as discussed in last week's blog.
The probability of a December rate hike also could decline if the November Employment Report, due December 8, softens substantially. But, this is not a slam dunk. A softening in Payroll growth is conceivable as a result of less-than-seasonal holiday hiring by retailers, already announced by some large store chains. And, the Unemployment Rate could rebound, as some of the decline in the labor force in October -- which depressed the Unemployment Rate then -- could have been hurricane related and temporary. Average Hourly Earnings, however, risks printing on the high side. They should rise a modest 0.1-0.2% m/m, based on calendar considerations. But, the risk is for 0.3-0.4% from composition considerations -- average earnings would be boosted by the absence of low-paid holiday workers. In the latter event, the y/y would rebound to 2.7-2.8% from 2.4% in October.
The markets were somewhat unnerved last week with the Senate proposal to delay the corporate tax cut to 2019, versus the House bill's start date of 2018. The market reaction was wrong, according to my analysis of October 29. There, I argued that a tax cut would lead to more aggressive Fed tightening and an increase in Treasury yields that would hit the economy when the boost from the tax cut is abating, thus risking the end of the economic expansion. A delay in the tax cut, or a gradual implementation as is likely in a reconciliation bill, would push back the risk of that scenario.
A potential positive for stocks and negative for Treasuries next year is an easing of the Fed's bank regulations. Both Powell, the nominee for Fed Chair, and Quarles, the new Fed Vice Chair for Supervision, appear to be in favor of doing so. The policy response to the 2008 financial crisis was to clamp down on bank risk taking. This was one reason for the sub-par economic recovery. A relaxation would be a positive for economic growth.
Sunday, November 5, 2017
Strong GDP Growth: A Positive for Stocks, What About Treasuries?
US economic growth is strong, a clear positive for the stock market. But, a look behind the numbers suggests it is not entirely bad for Treasuries either. Both statements can be supported because a striking feature of the past two quarters of strong GDP gains is a pickup in productivity growth. This feature bodes well for corporate profits -- a positive for stocks. It also keeps price inflation low as nominal wage gains are offset by productivity growth and thus are not inflationary -- a positive for Treasuries. Longer-term yields are likely to stay in a range as the stock market rallies. The resulting improvement in real wages from higher productivity growth lifts workers' standard of living to boot.
Nonfarm Business Productivity has been strong in the past two quarters, rising 1.5% (q/q, saar) in Q217 and 3.0% in Q317. They account for much of the 3.8-3.9% gains in Nonfarm Business Output in these quarters. Together, they are among the strongest two-quarter consecutive gains in productivity outside of the rebounds typically seen after the end of a recession. The expansion of the internet, particularly in the retail space, may help explain the strength of productivity. The retail sector certainly has become more efficient as a result of on-line buying and centralized warehousing. Also, the rebound in domestic oil production is likely a high-productivity industry and helped boost overall productivity growth in the past two quarters as output responded to higher oil prices.
Productivity's strength dampens the inflationary implications of higher wage growth. Thanks to the strength of productivity, Unit Labor Costs (Compensation/Hour divided by Productivity) remained negligible in Q317. To be sure, it's not clear that wage inflation is picking up. While Compensation/Hour -- the broadest measure of labor costs -- sped up in Q317, the speedup may be just an offset to the slowdown in Q217. A similar pattern is seen in the Employment Cost Index -- the labor cost measure least affected by composition shifts between low- and high-paid workers. In both cases, the y/y was little changed in Q317. Average Hourly Earnings shows some sign of speedup, but were impacted by the hurricanes (positively) in Q317 and then negatively in October. It remains to be seen if its trend has moved up.
(q/q percent change, saar) (y/y percent change)
ECI Comp/Hr AHE ULC ECI Comp/Hr AHE ULC
Q117 3.2 4.9 2.4 4.8 2.4 1.9 2.7 0.7
Q217 2.0 1.8 2.6 0.3 2.4 1.1 2.6 -0.2
Q317 2.8 3.5 3.0 0.5 2.5 1.4 2.7 -0.1
Oct17 2.4
The economy's current strength is not likely to persuade the Fed to be more aggressive than its stated plan to tighten monetary policy gradually, although the latter likely includes a December rate hike. Last week's November FOMC Statement downplayed the significance of current GDP strength, attributing post-hurricane rebuilding as a reason to expect a temporary jump in growth. (The Atlanta and NY Feds' models now project 3.2-3.3% for Q417 Real GDP growth.) But, the Statement also continued to emphasize that "the Committee is monitoring inflation developments closely." The markets' near-100% probability of a December rate hike might fall if the October Core CPI (due November 15) comes in low. And, if productivity growth remains high into Q417, a low Core CPI may be a good bet.
From a longer perspective, the Fed's estimate of longer-term non-inflationary trend Real GDP Growth would need to be raised from 1.8-2.0% if the recent pickup in productivity growth turns out to be the start of a ratcheting up of trend productivity. The Fed's longer-term projections of the funds rate and longer-term Treasury yields probably would be raised, as well. A pickup in trend productivity growth also would prompt the Congressional Budget Office to lower its longer-term projections of the federal deficit, social security/medicare deficit, etc.
Nonfarm Business Productivity has been strong in the past two quarters, rising 1.5% (q/q, saar) in Q217 and 3.0% in Q317. They account for much of the 3.8-3.9% gains in Nonfarm Business Output in these quarters. Together, they are among the strongest two-quarter consecutive gains in productivity outside of the rebounds typically seen after the end of a recession. The expansion of the internet, particularly in the retail space, may help explain the strength of productivity. The retail sector certainly has become more efficient as a result of on-line buying and centralized warehousing. Also, the rebound in domestic oil production is likely a high-productivity industry and helped boost overall productivity growth in the past two quarters as output responded to higher oil prices.
Productivity's strength dampens the inflationary implications of higher wage growth. Thanks to the strength of productivity, Unit Labor Costs (Compensation/Hour divided by Productivity) remained negligible in Q317. To be sure, it's not clear that wage inflation is picking up. While Compensation/Hour -- the broadest measure of labor costs -- sped up in Q317, the speedup may be just an offset to the slowdown in Q217. A similar pattern is seen in the Employment Cost Index -- the labor cost measure least affected by composition shifts between low- and high-paid workers. In both cases, the y/y was little changed in Q317. Average Hourly Earnings shows some sign of speedup, but were impacted by the hurricanes (positively) in Q317 and then negatively in October. It remains to be seen if its trend has moved up.
(q/q percent change, saar) (y/y percent change)
ECI Comp/Hr AHE ULC ECI Comp/Hr AHE ULC
Q117 3.2 4.9 2.4 4.8 2.4 1.9 2.7 0.7
Q217 2.0 1.8 2.6 0.3 2.4 1.1 2.6 -0.2
Q317 2.8 3.5 3.0 0.5 2.5 1.4 2.7 -0.1
Oct17 2.4
The economy's current strength is not likely to persuade the Fed to be more aggressive than its stated plan to tighten monetary policy gradually, although the latter likely includes a December rate hike. Last week's November FOMC Statement downplayed the significance of current GDP strength, attributing post-hurricane rebuilding as a reason to expect a temporary jump in growth. (The Atlanta and NY Feds' models now project 3.2-3.3% for Q417 Real GDP growth.) But, the Statement also continued to emphasize that "the Committee is monitoring inflation developments closely." The markets' near-100% probability of a December rate hike might fall if the October Core CPI (due November 15) comes in low. And, if productivity growth remains high into Q417, a low Core CPI may be a good bet.
From a longer perspective, the Fed's estimate of longer-term non-inflationary trend Real GDP Growth would need to be raised from 1.8-2.0% if the recent pickup in productivity growth turns out to be the start of a ratcheting up of trend productivity. The Fed's longer-term projections of the funds rate and longer-term Treasury yields probably would be raised, as well. A pickup in trend productivity growth also would prompt the Congressional Budget Office to lower its longer-term projections of the federal deficit, social security/medicare deficit, etc.
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