Short Squeeze, Fiscal Stimulus and Key US Economic Data

The shock from the short squeeze of GameStop and other stocks overrode any positive effect from above-consensus earnings and an easy Fed last week.  The attendant sharp volatility, particularly the steep declines, could have scared monies away from the market.  The talk was of hedge funds needing to sell stock holdings to offset losses or build liquidity.  The extreme volatility also could have prompted money managers to shift out of equities for window-dressing purposes at month end.  In addition, the phenomenon of excessive speculative bubbles (prices rising independently of fundamentals) at market peaks was talked about, reinforcing the bears' message that the market was due for a pullback.  If the short squeeze and attendant fall-out were the only factors hitting the stock market, the latter should soon settle down, as positions are reset.

But, developments in Washington are becoming more problematic for the market.  It is taking longer-than-desired to pass a stimulus bill.  On top of  this, the Trump impeachment trial, scheduled to begin February 8, could further impede progress towards an agreement on one. 

While some disappointment on the extent of roll-out of the vaccines also may be beginning to weigh on the market, this issue should disappear over the next few months.  The vaccinations remain a catalyst for stronger economic growth in H221.  

With these developments at the forefront, this week's key US economic data may have little market impact:

The January Mfg ISM is expected to be little changed from the high 60.7 December print (which will be revised a bit by new seasonal factors in this report).  Consensus looks for a dip to 60.0.  Most other surveys rose in January, but some of their increases could have been catch-up to the December Mfg ISM.  In any case, the January print should be high and consistent with other evidence indicating a strong manufacturing sector.     

Consensus looks for January Nonfarm Payrolls to stay soft at +20k m/m  after -140k in December.  The Claims data point to an even weaker print than December's.  But, there is a possibility that seasonal factors exacerbated December's drop and will boost January Payrolls sharply.  The seasonals may have looked to offset holiday-related hiring in December that did not occur.  And, they may attempt to offset post-holiday firings in January that did not occur either.  

The Claims data suggest little change in the January Unemployment Rate from December's 6.7%.  So, the consensus estimate of 6.8% can't be ruled out.  But, neither can a small decline.  The Unemployment Rate for the Leisure and Hospitality sector could be important.  Fed Chair Powell singled out the very high Rate for this sector in his post-FOMC news conference.  The Rate was 16.7% (nsa) in December.  

While consensus looks for a moderate +0.3% m/m for January Average Hourly Earnings, the risk is that it could be depressed sharply by a shift in composition -- a reversal of what happened in December that resulted in +0.8% for AHE.  

 

Policies from Washington

The stock market is likely to be buoyed by favorable earnings reports and a friendly FOMC Statement this week.  While the impeachment of Trump is moving ahead, it is likely to be treated as background noise by the market.  The most important news from Washington will be hints on the new Administration's policies and how it plans to work with Congress to implement them.

There already was what appeared to be a market-positive message by Treasury Secretary nominee Yellen in her confirmation hearing.  She seemed to suggest a hike in corporate tax rates is not imminent.  She said: /1/ Corporate tax hikes wouldn't be acceptable until the the coronavirus is seen having been defeated.  /2/ The hikes would be implemented in the context of a global tax treaty, which presumably would take time to achieve (if at all).  /3/ While there were several other tax changes that would be proposed, Biden "does not support a complete repeal of the 2017 tax legislation."  

Yellen, however, made another point that could be problematic from a market perspective.  She stated a goal to restructure the economy to allow lower-income workers to receive a greater share of income while remaining competitive in the global economy.  The Administration's early moves toward this goal appear to rely on a hike in the minimum wage and giving more power to unions.  A minimum wage hike to $15/hour should not, by itself, have a significant impact on overall wage inflation, because a very small share of workers receive the minimum.  It becomes more problematic if it sparks increases across the job spectrum.  This possibility is enhanced by making unions more powerful.

There would seem to be only one way to raise labor costs and maintain their global competitiveness -- depreciate the dollar.  The latter would keep labor costs from rising in terms of other currencies.  But, it would reduce the standard of living of all US workers, making imports more expensive and shifting resources into export-producing industries.

A weaker dollar has not been stated as an explicit goal of the Administration, but a quiet acceptance of a further decline in the dollar may be in the cards.  To be sure, at some point, the combination of a speedup in wage rates and a weaker dollar is a recipe for higher interest rates.  The latter would restrain economic growth, hurting lower-income people in particular, as well as undercut the stock market.  Higher wage rates also would encourage greater substitution of capital for labor in the production process.  At the end of the day, the Administration's policies could backfire.

Other stock market implications of rising labor costs and falling dollar are mixed.  If higher wages are not passed through to prices, then profit margins will likely be squeezed.   But, a weaker dollar would lift earnings from abroad and may induce corporate takeovers as well as direct investment by non-US corporations.  A weakening dollar, however, would reduce foreign demand for US stocks in their portfolios.

It has not been easy to judge whether wage inflation already has begun to speed up.  Two of the three standard measures of labor costs in the aggregate -- Average Hourly Earnings and Compensation/Hour -- have been distorted upward by huge compositional shifts stemming from the virus-induced shutdowns.  Most of the lost jobs were low paid, being in Leisure/Hospitality and Retail.  As a result, these measures' compositions shifted significantly toward higher-paid workers, showing up as large sequential increases.

This week's release of the Q420 Employment Cost Index (ECI) is not affected by this compositional shift, as it holds job distribution constant.  So, it will provide a clearer view of the inflationary implications of wage inflation at this point.  Consensus looks for +0.5% q/q, the same rate as in Q320.  This pace is lower than the 0.7% average of the prior 6 quarters (ending in Q220), consistent with the weakness in the real economy.  If the Q420 ECI stays below this average, it would signal that, as of now, labor costs do not point to higher inflation ahead.

The other important US economic data this week will be Q420 Real GDP.  Consensus looks for +4.0%, which is well below the Atlanta Fed model's current forecast of 7.5% but still above trend. A print close to the Atlanta Fed estimate would be market positive.  But, market commentators may try to downplay the print by arguing that economic growth slowed sharply at the end of Q4 and early January.  There was certainly a hit to some areas of the economy in December from renewed shutdowns.  But, not all recent data are weak and the jury is still out with regard to Q121 Real GDP Growth.  Note that while Initial Claims have printed very high in the past two weeks, Labor Dept analysts warn that the shift to additive from multiplicative seasonal adjustment last summer could distort the data during a period with major holidays, as in recent weeks.  So, the latest prints have to be viewed with caution.

A Relief Rally and Then?

The stock market is likely to trade cautiously, if not pull back further, on fears of violence ahead of the January 20th inauguration.  This could set up for a relief rally if any violence is contained and the inauguration goes smoothly.  The market focus should then shift to Q420 corporate earnings (see last week's blog), speed of vaccine implementation, and extent to which Biden's stimulus proposal will get through Congress.  

A speedup in vaccine implementation and size of fiscal stimulus are important since the impact of the renewed shutdowns appears to be growing.  The latest jump in Initial Unemployment Claims to 965k and the 0.7% m/m drop in December Retail Sales raise that risk.  To be sure, there may be other factors behind these prints.

The Claims jump could be at least in part a one-off catch-up from slow processing in the two  prior weeks, both of which contained holidays.  If so, Initial Claims could fall sharply in this week's report.  The consensus estimate of a decline to 860k is not enough to cancel the weakness implied by last week's print.  Initial need to fall below the 846k average of the past 3 weeks to put them below the underlying trend of these weeks.  And, they have to fall below the 741k November average to fully unwind the impact of the renewed shutdowns.

Some of the December Retail Sales drop could have been just payback for much of holiday shopping having been pulled ahead to October and November.  If this is the case, consumer spending should resume climbing in the next couple of months.  Even so, the soft take-off point points to a slowdown in Q121 Consumer Spending.

Biden's anti-covid stimulus proposal contains a number of components that are opposed by Republicans, particularly the increase in stimulus payments and funds to state governments.   How far Biden is willing to compromise could be important to the market.  If he does not and uses one of the three procedures available to him to push it through with just a majority vote in the Senate, the market might put more weight on his proposed tax hike proposal -- a market negative.  But, if he does compromise and gets bi-partisan support,  the market will probably take it as a positive.

This week's US economic calendar is light.  December Housing and January Mfg data are expected to be mixed.  Housing Starts are seen up, but Permits and Existing Home Sales down.  The January Phil Fed Mfg Index is seen up, but Markit US Mfg PMI down.  All changes are expected to be minor.

   

Stock Market Could Be Helped By Q420 Corporate Earnings

The stock market should continue to rally over the next few weeks, helped by several factors.  The Trump drama should end soon, the pace of vaccinations pick up, and Q420 corporate earnings risk exceeding expectations.   Also, additional fiscal stimulus is more than a possibility now that Democrats control both Houses and the presidency.

The Trump presidency will end either through resignation, impeachment, or out of time when Biden is sworn in on January 20.  The first two would presumably be over quickly.  And, even if an impeachment drags on, it would become background noise after January 20.  The stock market appears to understand this, as it has been barely affected by the headlines.    

The slow roll-out of the vaccinations probably reflects a variety of factors, including the difficulty of administering them (particularly the Pfizer one which requires extremely low temperatures) and concerns about an equitable distribution.  But, these issues are likely to be overcome.  New York, for example, will begin offering inoculations to the elderly and front-line workers this week.  Also, Biden is reported wanting to release all the vaccines quickly rather than hold many back to ensure availability for second shots, which apparently has been the case.

A speedup in vaccinations is important because the renewed shutdowns are creating a drag on economic growth.  Friday's report of a 140k drop in December Payrolls showed a massive hit to the restaurant industry in particular.  The ban on indoor restaurant eating will likely show up in this week's December Retail Sales Report, as well.  Consensus looks for a decline in December Retail Sales (-0.2% m/m Total, -0.1% Ex Auto).  Consensus also sees a soft 0.1% m/m for December Core CPI, but with the Total +0.4% as a result of higher gasoline prices. 

To be sure, the bulk of the economy appears to be reviving well.  Excluding the -498k Leisure and Hospitality workers, December Payrolls rose 358k.  In particular, Retail, Manufacturing and Construction sectors posted sizable gains in jobs.

Consensus looks for about -12.0% (y/y) for Q420 S&P 500 corporate earnings, versus -8.2% in Q320.  But, the macro evidence has mostly improved in Q420 from Q320, arguing against a worsening in earnings.  Real GDP Growth on a y/y basis is not down as much, nor are oil prices.  The trade-weighted dollar has turned negative while economic growth approved outside of the US.  Both should lift earnings abroad.  US profit margins are probably little changed.  While Average Hourly Earnings remained high in Q420, the 3 latest quarters were probably boosted by compositional shifts away from low-paid jobs, as the latter were hit hard by the virus-related shutdowns.  

                                                                                                                                          Markit
                                                                                                                                          Eurozone                        Real GDP     Oil Prices        Trade-Weighted Dollar    AHE     Core CPI    PMI  
                [                                y/y percent change                                                   ]    (level)
Q118            2.6               +21.5                 -6.6                              2.7           1.9               59.1
Q218            2.9               +41.0                 -1.8                              2.7           2.2               55.9
Q318            3.0               +45.4                 +5.1                             2.8           2.2               54.3
Q418            3.0                 +6.7                 +6.5                             3.3           2.2               51.7

Q119            3.2                -12.8                 +7.9                             3.2           2.1               51.9 
Q219            2.7                -12.2                 +5.9                             3.1           2.1               47.8    
Q319            2.1                -19.2                 +3.6                             3.2           2.3               46.4
Q419            2.4                  -3.6                 +1.7                             3.2           2.3               46.2

Q120           -5.0                -16.5                 +2.9                             3.1           2.3               47.2

Q220         -10.6                -53.5                 +5.9                             6.5           1.4               40.1

Q320           -2.8                -27.8                 +1.0                             4.8           1.7               52.4

Q420           -1.4 *             -24.6                  -1.9                             4.6           1.7               54.7          

* Based on the Atlanta Fed Model's latest projection of +8.7% (q/q, saar).

 

 

Stock Market Vaccinated Against Georgia Elections and Soft Data?

Expectations of an increasing pace in anti-Covid vaccinations may very well protect the stock market from a Democratic sweep of the Georgia run-off Senatorial elections on January 5.  A knee-jerk drop in stocks may quickly be viewed as temporary and thus a buying opportunity.  While Democratic control of the Senate would raise the risk of economy-/market-unfriendly legislation during the Biden Administration, this risk could be pushed to the back-burner in the belief that it will take some time for this to happen.  In the near term, this risk could be superseded by expectations of a snap-back in economic activity as the pace of vaccinations gains traction and the likelihood of additional fiscal stimulus. 

These expectations also should inoculate the market against any weakness in upcoming US economic data, since the latter would be seen as temporary.   In addition, soft data will reinforce expectations of continuing easy monetary policy.  A softening in key data is the risk this week:

Consensus looks for a dip in the December Mfg ISM to 56.5 from 57.5 in November (noting, however, that this year's data will be revised to reflect new seasonal factors).  Some evidence, like the Phil Fed and NY Empire State Mfg Surveys, suggest an even larger decline.  

Consensus sees a sharp slowdown in Payrolls to +100k m/m (+105k Private) in December from +245k (+344k Private) in November.  (Census workers should subtract about 3k from government jobs after subtracting 93k in November.)  Although the Claims data support the idea of a slowdown in December Payrolls, they don't rule out a larger Payroll increase than the consensus estimate -- and, indeed, that is the risk.

Note that the impact of the virus -- via shift to on-line from in-store purchases -- could be seen in a large decline in Retail Jobs and a jump in Couriers (as in November).  If so, they could be reversed in January and February when seasonals look to offset the elimination of holiday-related jobs.

The consensus estimate of an uptick in the Unemployment to 6.8% from 6.7% in November looks too weak, as the Claims data suggest another decline in the Rate.  All the data in the Household Survey will be revised to reflect new seasonals in this Report.  Typically, this revision does not affect the Unemployment Rate.