Market Hurdles Arise

The stock market's tendency is to climb in the week after Christmas.  But, Trump set up a couple of hurdles.  His dislike of the stimulus bill raises the risk that he won't sign the bill.  And, his dislike of the absence of a internet-company provision in the Spending bill raises the risk of a government shutdown.  These actions are on top of the caution that might emerge in the approach to the January 5 Senate run-off races in Georgia.   The macroeconomic background still looks good, as the latest Unemployment Claims data improved in the latest week.

The Claims data suggest the impact of the renewed shutdowns has been small and temporary.  /1/ The 89k w/w drop in Initial to 803k puts them at their lowest level since the end of November.  /2/ The 170k drop in Continuing Claims to 5.337 Mn shows no significant or lasting impact of the jump in Initial that preceded it.  The Continuing's further decline suggests re-hiring is strong.  Nevertheless, the Claims data point to a slowdown in December Payrolls (ex census workers) from November’s 338k m/m pace. But, the slowdown may be small.  The Insured Unemployment Rate fell 0.2% pt w/w to 3.6%, putting it 0.7% pt below the November level.  It points to another decline in the Civilian Unemployment Rate in December.  This would be consistent with above-trend economic and job growth this month.

Fed Chair Powell made an important point during his post-FOMC Meeting news conference, arguing against those who believe the stock market is overvalued.  He said that while the Price/Earnings Ratio of the overall market appears to be high, this is not the case if the low long-term Treasury yields are taken into account.  While these yields are likely to stay low for now, his comment implies that a significant backup in them would likely stop the stock market rally.

 

One development that could push up longer-term Treasury yields is a falling dollar.  A falling dollar could be inflationary as well as depress foreign demand for US assets.  So far, there is no evidence that the weakness in the dollar has boosted inflation -- a weaker dollar should boost import prices.  But, the latest data do not show this.  The +0.1% m/m increase in November Import Prices shows no significant inflation pressures.  Non-Fuel Import prices fell 0.3% m/m, pushed down by a drop in food prices.  Capital Goods Prices rose 0.1% and Non-Auto Consumer Goods Prices were flat.  In particular, prices of imports from China ticked up 0.1 percent in November following no change in each of the previous 2 months.  It suggests companies were offsetting the weaker dollar by cutting profit margins.

 

Stock Market Rally Should Continue Into January

The stock market's rally should continue at least into early January.  The market will likely continue to ignore new virus cases and consequential deaths as well as soft US economic data now that two vaccines have been approved and are being given to the public.  The bad news is viewed as temporary.  While the fiscal stimulus bill will provide a modest boost to the economy, its passage means the possibility of its absence is no longer hanging over the market.  The most important hurdle for the market now is the Georgia run-off Senate elections on January 5.  This is far enough ahead to allow for a further rally until then.  

The drag from the renewed shutdowns appear to have shown up in the 1.1% m/m decline in November Retail Sales and the increase in Initial Unemployment Claims.  But, their import may be less than meets the eye.  Indeed, the Atlanta Fed model's estimate of Q420 Real GDP Growth was cut only slightly to a still huge 11.1% (q/q, saar) from 11.2%.

Some of the Retail Sales weakness could have resulted from price discounting.  Also, a decline in Retail Sales is not unusual after a surge in the prior month, as was the case in October.  Such "consolidation" in sales could last a few months.  It's noteworthy that car companies were not discouraged by the decline in sales last month.   The November Industrial Production Report shows a bounce in Motor Vehicle Assemblies to an above-trend level. 

The increase in Initial Claims likely reflects a resurgence of layoffs from the shutdowns.  Initial rose despite the potential for an unwinding of a post-holiday rebound.  This suggests that the increase in shutdown-related layoffs was even greater than the 24k increase in Initial Claims. In any case, it will be important to see if Continuing Claims rise in this week's Report and confirm the worsened labor market situation.  The prior week's decline in Continuing shows that re-hiring remained strong.

This week's US economic data are of minor significance for the market.  Some are expected to pull back from very strong prints in the prior month.  These include November Existing Home Sales and Consumer Spending.  But, others, like November Durable Goods Orders, are seen rising further.  It will be interesting to see if the December Conference Board Consumer Confidence Index confirms the increase in the University of Michigan Consumer Sentiment Index.  Although the Conference Board Index is known for its labor market components, the Claims data already point to a slowdown in December Payrolls (excluding census workers).

What If There is No Fiscal Stimlus?

The stock market will have to navigate through a number of events this week, including possible fiscal stimulus bill, an FOMC Meeting, continuing Brexit negotiations, start of the vaccine in the midst of renewed shutdowns, inclusion of Tesla in the S&P 500 Index, quarterly witching  expiration of options and futures, and US economic data.  There are reasons to think that any hit to the market from them will be contained.

This week should see some sort of conclusion regarding passage of  a fiscal stimulus bill this year.  Passage is far from certain and may not be known until the end of the week as Democrats and Republicans play "hardball."  Interestingly, Fed staff discussed the economic implications of no passage at the November FOMC Meeting.  The implications are not as dire as one might think from news accounts.  Here is what the Meeting's Minutes say:

1.  Although this lack of additional fiscal support was expected to cause significant hardships for a number of households, the staff now assessed that the savings cushion accumulated by other households would be enough to allow total consumption to be largely maintained through year-end. 

 2.  Recent data on tax receipts also suggested that the fiscal positions of states and localities had deteriorated less than expected, which led the staff to boost the projected path of state and local government purchases. [Note the improved financial positions may explain the flattening in State Payrolls in November.]

3.  In the staff’s medium-term projection, the assumption that significant additional fiscal support would not be enacted pointed to a lower trajectory for aggregate demand going forward.

 4.  [However,] with monetary policy assumed to remain highly accommodative and social-distancing measures expected to ease further, the staff continued to project that real GDP over the medium term would outpace potential, leading to a considerable further decline in the unemployment rate.  

 5. The resulting take-up of economic slack was in turn expected to cause inflation to increase gradually, and the inflation rate was projected to moderately overshoot 2 percent for some time in the years beyond 2023 as monetary policy remained accommodative.  

The Fed staff's projection assumed that social-distancing measures would ease further.  This development, however, is not happening.  So, unless this changes as vaccines are rolled out, there is downside risk to its medium-term forecast. And, this could prompt the FOMC to expand its asset purchase program at this week's meeting -- a positive for the stock market.

The latest Claims data show the renewed shutdowns are having an impact.   The +137k rebound in Initial Claims to 853k probably reflects /1/ a post-holiday rebound to above trend and /2/ layoffs stemming from the resurgence of the virus. Each factor may have accounted for about half of the 137k w/w bounce.  Initial Claims could fall in this week's report, as the post-holiday rebound unwinds.  An unwinding would subtract about 35k from Initial.   Whether Initial falls will depend on whether virus-related new layoffs speed up further.

Consensus apparently expects the renewed shutdowns to weigh on other data, for November, due this week.   Retail Sales are expected to fall 0.3% m/m, with Ex Auto slowing to +0.1%.  Industrial Production is seen slowing to +0.3% m/m from +1.1%.   And, December business surveys -- Market Mfg PMI and Phil Fed Mfg Index -- are expected to slip.  Consensus looks for flat November Housing Starts.

   

The Irony of the November Employment Report

 The stock market should be supported this week by improving chances of fiscal stimulus,  the likelihood of FDA approval of a vaccine, and possibly additional ECB monetary policy easing.  Both Democratic and Republican Congressional leaders are said to want to pass a stimulus bill before year end, according to news reports, although there are still areas of difference.  However, for the most part, the stimulus seems to be just a reduced extension of current benefits.  If so, it will do little to boost growth.  So, the situation may be more of "buy the rumor, sell the fact."

News reporters described the November Employment Report as weak and, as such, a catalyst for a stimulus bill.  However, while there was a sharp slowdown in Payrolls from the out-sized gains of the prior few months, the m/m gain is still large from an historical perspective.  And, taking account of other parts of the Report, as well, the overall Report is, in fact, strong.  So, the irony is that a strong Report will be pitched as weak to push for passage of more fiscal stimulus -- a combination that is positive for the stock market.

The sharp slowdown in November Payrolls to +245k Total and +334k m/m Private reflected 4 shifts:  /1/ A flattening in the two sectors that had rebounded the most from the virus — Leisure/Hospitality  and Retail.  Both likely slowed as a result of the renewed shutdowns.  /2/ A moderation in other sector job gains, but with still good-sized gains in cyclical sectors like manufacturing and construction.  /3/ A surge in Transportation and Warehousing, resulting from the increase in home delivery services.   /4/ The 99k drop in government jobs was due almost entirely to the winding down of census jobs, which fell 93k. 

Despite the slowdown in jobs, the Report is in line with above-trend economic growth in Q420.  The Nonfarm Workweek stayed at a very high 34.8 Hours.  As a result, Total Hours Worked rose m/m.  And, the November level of THW is 8.9% (annualized) above the Q320 average — supporting the idea of strong Q420 Real GDP Growth.  Indeed, the Atlanta Fed model's estimate of Q420 Real GDP Growth was raised to 11.2% from  11.1% after the Report.  This GDP pace and the size of the Payroll gain are above trend -- seen in the decline in the Unemployment Rate to 6.7% from 6.9%.

The declines in Initial and Continuing Claims in the latest report would seem to support the idea of strong growth continuing in November.  But, these data should be viewed cautiously.  They were for the Thanksgiving week, and seasonals may not have adjusted adequately for state offices closed for the holiday.  If so, it could take 1-2 weeks of additional data to see if the latest prints are telling the right story.   If the declines resulted from bad seasonals, Claims should rebound to above trend levels in this week's report and then pull back to trend in the subsequent report.  A smaller increase, such as the consensus estimate of +13k to 725k Initial, would signal that strong growth is overriding renewed shutdowns in terms of the labor market.

 

Besides Claims, inflation data for November will be released.  They are not expected to stand in the way of additional fiscal stimulus or continuing easy monetary policy.  In particular, consensus looks for a modest increase of +0.1% m/m for both Total and Core CPI.