Be careful what you wish for
Non-farm payrolls increased 200,000 in January, ahead of estimates and significantly better than the revised December gain of 160,000. Particularly noteworthy was the 0.3% gain in average hourly earnings during January after a December gain of 0.4%. On an annualized basis, wages are growing 2.9%, the strongest reading in 8 years.
The prospect of wage-push inflation finally making its appearance, caused investors to bid up the yield on longer-term bonds pushing the yield on the 10-year Treasury to 2.84% from 2.79% just yesterday. While that may not sound like much, in the bond market world it’s enough to freak out the traders who clearly don’t like surprises. It’s like sneaking up on a chihuahua.
The notion that the Federal Reserve may have to raise interest rates further, or at a faster pace than previously thought in order to keep a lid on inflation, caused investors to re-evaluate their forecast for economic growth and corporate earnings growth. This leads to a reflex action to maybe not have so much of your worth tied up in the stock market.
As long-term investors we know that stock markets rarely increase more than 20% in a single year without so much as even a stumble. Even with today’s 2% decline, the S&P 500 stock index is up 23.8% over the last twelve months. Year-to-date the S&P 500 is up more than 5%. Underlying economic fundamentals remain strong and recession risk remains very low. This is a small pullback in an otherwise great equity market.
New home sales
- The headline 9.3 percent decline in new home sales for December masks what is actually a solid new home sales report. December's 625,000 annualized rate is the fourth best of the expansion and follows November's revised 689,000 rate which is the very best. And importantly supply moved into the market, up 3.9 percent at 295,000 units. On a sales basis, supply improved to 5.7 months from November's 4.9 months.
- Prices were steady in the month with the median edging up 0.1 percent to $335,400. Year-on-year improvement was only 2.6 percent. But prices may move higher given that the sales rate is up 14.1 percent on the year with supply up 15.2 percent.
- The downward revisions in the report are significant, totaling 69,000 going back to October. However, looking ahead, there is upward sales momentum, incoming supply and moderately rising prices.
- Initial jobless claims rose in the January 20 week but remain low and favorable, at 233,000. Claims were lower than expected, with the prior week revised down 4,000 to 216,000 for a new 45-year low. The 4-week average is down 3,500 to 240,000 which is roughly in line with the month-ago trend.
Continuing claims in lagging data for the January 13 week fell 28,000 to 1.937 million. The 4-week average is down slightly to 1.920 million and also in line with the month-ago trend. The unemployment rate for insured workers is unchanged at 1.4 percent.
Unlike the prior week when there was a rash of estimates, only one state was estimated in the current week.
- The index of leading economic indicators continues to signal strength ahead, at a December gain of 0.6 percent following upwardly revised gains of 0.5 percent in November and October's 1.3 percent surge that reflected a reversal of hurricane effects.
- The gain in December is led by the ISM's new orders index. The factory was the only component in the negative column during December. Steady contributions continue to come from the stock market, from low interest rates, consumer expectations, and the report's credit index.
Durable goods orders
- Aircraft and vehicles fed a very strong 2.9 percent jump in December durable goods orders. But when excluding transportation equipment, durable orders only hit expectations with a 0.6 percent gain. And when looking at core capital goods orders (nondefense ex-aircraft) a bit of weakness appears with a 0.3 percent dip.
Looking first at strengths, civilian aircraft orders increased 1.5 percent despite an enormously difficult comparison with November's 24.4 percent surge that was tied to Boeing's success at the Dubai Air Show. Vehicle orders extended their positive run with a 0.4 percent gain following 2.0 percent and 1.5 percent increases in the two prior months. Orders for primary metals, fabrications, and machinery all showed strong gains.
- There was weakness for capital goods coming from computers, electrical equipment and especially communications equipment.
Shipments of core capital goods were positive with a 0.6 percent gain in the month, which are reflected in the solid showing for nonresidential fixed investment in fourth-quarter GDP.
- The 2.6 percent headline rate doesn't do justice to fourth-quarter GDP where consumer spending rose a very strong 3.8 percent that reflects a 14.2 percent surge in durable goods spending.
- Residential investment, which is another consumer-related component, rose at a very impressive 11.6 percent annualized rate.
- Turning to business spending, nonresidential fixed investment rose at a 6.8 percent rate which is the fourth straight mid-single digit result.
- Government purchases, at a 3.0 percent rate, also added to GDP in the quarter.
- What pulled down fourth-quarter GDP were net exports, at an annualized deficit of $652.6 billion, and inventories which rose at a slower rate than the third quarter.
- Looking at final sales to domestic buyers, which excludes inventories and exports, GDP increased at a robust 4.3 percent annualized rate.
- Prices also showed life in the quarter, with the GDP price index at 2.4 percent vs the third quarter's 2.1 percent.
- This is a solid report led by the consumer that shows the economy accelerated into year-end 2017 with strong momentum going into 2018.
Personal income and outlays
- Personal income rose 0.4 percent in December with wages and salaries up a solid 0.5 percent. Spending also rose 0.4 percent in December with November revised 2 tenths higher to a very strong 0.8 percent gain.
- Giving a boost to spending but hinting at trouble for the consumer is a 1 tenth dip in the savings rate to a 13-year low 2.4 percent, which follows a sharply downward revised 2.5 percent rate in November (2.9 percent initially reported).
- Price data remain very subdued, up 0.1 percent for the overall PCE Price Index and up 0.2 percent for the Core PCE which excludes food and energy. Year-on-year, the overall price index is up 1.7 percent which is 1 tenth below November. The core is stable at 1.5 percent.
- Improvement in the wages and salaries reading is a positive for the outlook as is the upward revision to November consumer spending. But the low reading for the savings rate is a concern and suggests that consumers are dipping into their bank accounts to fund spending.
- Consumer confidence moved back higher in January to 125.4 from an upward revised 123.1 in December and is just off November's 17-year high at 128.6.
- January's strength is centered in the expectations component which rose nearly 5 points to 105.5 to offset a modest slip in the present situation component which fell just over 1 point to 155.3. Part of the decline in the present situation is a small 4 tenths rise in those who say jobs are hard to get -- which at 16.4 percent remains very low and very favorable.
- A negative in the report is continued weakness in inflation expectations where the 1-year outlook is down 2 tenths to 4.6 percent, which for this reading is very low. In what could also be a negative, at least for contrarians, is a surge in stock-market bullishness with 51.6 percent saying the market will increase over the next year which is up more than 5 percentage points in the month.
- The report is another reminder that a strong jobs market reflects a solid foundation for the American consumer.
Solid start to the year for employment
- Non-farm payrolls increased 200,000 in January, stronger than the December gain of 160,000.
- Construction, manufacturing, business services and leisure employment all saw solid growth.
- Unemployment held firm at 4.1% despite a gain of 518,000 in the number of people in the labor force.
- The bigger story was a 0.3% rise in average hourly earnings on the heels of a 0.4% rise in December. That brings the annual rate of 2.9%, the highest rate in eight years.
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