While there were a ton of indicators announced last week, they didn't really move our understanding of the economy ahead by much. Most of the data was mere noise, in my opinion, or indiscernible from other previously released data sets. Worse yet, the indicators have pushed into the highly uncomfortable stage where the reports become contradictory.
On Monday we got the regional purchasing managers report from New York, which painted a picture of a rapidly declining manufacturing sector. On Thursday the Philly Fed announced that the manufacturing sector showed incredible strength for the same period (November).
Even corporations can't seem to agree. The week before last week, Cisco's earnings report seemed to indicate some softening in business investment in technology. Last week Dell, poster child of corporate technology spending, knocked the cover off the ball. Even housing starts and newly permitted housing couldn't manage to move in the same direction.
Stock markets weighed the pluses and minuses and ended the week almost unchanged. Markets did bounce around a lot, though. Banking crisis news out of Ireland and Chinese inflation depressed markets early in the week, before potential progress on the Irish banking issue, a successful issuance of General Motors stock, and some of the better indicators caused a sharp runup on Thursday. News on Friday that China was increasing reserve requirements for its banks kept a lid on any further improvement at the end of the week.
Low Inflation and Stabilizing Initial Claims Look Good
About the only really consistent numbers last week were inflation reports that showed inflation clearly under control on both the consumer and the producer level and consumer reports suggesting that both near-term and holiday spending were improving nicely, thank you. Initial unemployment claims also managed to hold on to most of the week before last week's improvements, with claims up just 2,000, producing the lowest four-week moving average of claims since the fall of 2008 (with the exception of one fluky reading in January of 2010). Previously I didn't have time to mention that the government's mass layoff report also continued to show improvement and the number of layoffs per mass firing was smaller than any time since the government started tracking this statistic in 1995. Both these positive employment reports combined with an improving retail sector suggest that the comprehensive monthly employment report should continue to show more improvement in the months ahead.
The Consumer Is King
As variable and inconsistent as some of the data points were, I still came away from the week more bullish than the market. Consumers makes up 70% of the economy, and there is very strong evidence that consumers are cautiously opening their pocketbooks a little wider. The retail sales report indicates us a greater willingness to spend what they have, while some of the recent employment/unemployment reports suggest they will have the wherewithal to continue doing that. And last week's inflation data suggest that improved incomes will not be eroded away by inflation in the short run. At this point in this cycle, the consumer is king. Some of the manufacturing and housing data that we are seeing is less relevant at this point in the recovery.
Retail Sales Remain on a Hot Streak
The week kicked off with an exceptionally strong retail sales report that showed growth of 1.1%, far ahead of consensus, on the back of exceptionally strong auto sales. Even excluding auto sales, retail spending grew an impressive 0.4% (or 4.8% annualized). The breakdowns between sectors were strong, with electronics and furniture the only major categories showing meaningful declines. These great results came despite usually tepid sales in October (stuck between the back-to-school push and the holiday season) as well as unusually warm weather that limited the sales of some seasonal items. The government also revised retail sales numbers for the prior two months, which should also cause the government to revise upward its forecast of the consumer expenditures portion of the September quarter GDP report.
Look at What Consumers Are Doing, not What They Say They're Doing
Consumers are back in a spending mood. I tend to toss all the fancy consumer sentiment surveys aside and look at what consumers actually buy to determine consumer attitudes. Look at what they do--not what they say they are doing. News out of weekly retail data continues to look strong and consistent with the International Council of Shopping Centers forecast of 3%-4% year-over-year growth for the month of November. Wal-Mart and Target both indicated they are optimistic about a stronger holiday shopping season as well. Target was the more bullish of the two, with expectations of its best year-over-year quarterly improvement in three years for the holiday quarter.
Inflation Under Control for Now
While I still worry a lot about inflation in the longer term based on the recent quantitative easing program, the news last week was good. Both the Consumer Price Index and the Producer Price Index came in well below expectations at 0.4% and 0.2% despite a sharp jump in energy price. On the consumer side, there just weren't many increases outside the energy category. Medical care and transportation service sectors were the only ones to show much growth. Auto prices, especially used cars, had shown huge gains earlier in the year and have finally started falling. The housing sector, which comprises as much as 40% of the index, has been a key limiter of inflation this year.
I am a huge fan of low inflation because low inflation enables consumers to stretch their paychecks further. I am not as afraid as some analysts are about stable or modestly falling prices. Markets in the 1950s managed to do quite well despite bouts of falling prices. Periods of high inflation have been a true disaster for stock markets.
As I much as liked this report, I still don't think we're entirely out of the woods on inflation. Some of the recent upward moves in commodities are truly breathtaking. Soybean, cotton, copper, and crude oil have seen double-digit gains over the last year. I am seeing more press releases out of companies announcing that they plan on at least attempting small price increases early next year to recoup some of those commodity price increases. Excess cash sloshing around world markets from the Fed's quantitative easing program won't be helping matters either, and those effects are not instantaneous.
Industrial Production's Better Than It Looks
Though the headline industrial production number was flat, warm weather and poor utility results dampened the top line number. Our industrial team summed up the industrial production report as follows:
Industrial production posted its third straight flat sequential performance. We were pretty pleased to see October industrial production remain unchanged from an upwardly revised September figure of 93.4 last week. In fact, the raw manufacturing gain of 0.5% was downright impressive. Mining activity was down a modest 0.1%, while utility activity dropped a large 3.4% due to unseasonably warm weather that reduced heating demand. Business equipment was the largest gainer in the major markets group, with a 1.1% sequential increase. Year-over-year growth slowed just slightly to 5.4% from September's 5.7% for the overall index. It is now 9% higher than its June 2009 bottom but still 7% below its December 2007 high.
I don't want to jinx us again, but consumption is now back to its previous high, while our industrials team correctly points out that we are still far below peak production, indicating that despite all the gloom currently descending on the manufacturing sector, there should be more upside based on current consumption levels. A fourth-quarter push in capital goods shipments to emerging markets and a weaker dollar could help future months look a bit better.
Is an Upward GDP Revision in the Cards?
The original version of the GDP estimate for the September came in at 2.0%, a modest improvement over the 1.7% of the June quarter. Based on new and revised positive data on trade, retail sales, and inventories (offset some by some pretty awful construction numbers), it looks highly likely that the GDP will have to be revised significantly higher on Monday. The consensus is now looking for 2.4% growth, and even that might prove to be a bit light. A 2.4% growth rate for the third quarter and slightly slower growth in the fourth quarter would be consistent with a growth number for all of 2010 of about 2.5%.
News on consumer spending and consumer incomes are due on Wednesday, and the world is expecting good news with consensus forecasts of 0.3% growth (3.6% annually) for both categories, meaning acceleration from the month of September. Given some upward revision in payroll data, I also expect some positive revisions to earlier months as well.
With all of that good news, manufacturing indicators will probably be a bit of a downer. Recall that last month durable goods orders were up sharply based on airliner orders, which usually reverse themselves the following month. Therefore, I am not expecting any growth at all in this category for this month. That's no reason to panic.
This is an edited version. The article originated from Robert Johnson’s column at Morningstar.com.
