Economic & Market Update: August 10, 2009

“Economic Improvement Going Global”

The Fortigent Investment Research Team

http://www.Fortigent.com

Last Week’s Highlights:

ISM Index:                      48.9 – ever closer to expansionary territory

Personal Spending:       0.4% – driven up entirely by higher prices

Pending Home Sales:    3.6% – 5th monthly increase, to highest level since June ‘07

Nonfarm Payrolls:        247K – job losses decline at slowest pace in nearly a year

Unemployment Rate:   9.4% – shrinking labor force sends rate down

Consumer Credit:     -$10.3B – retracting at fastest pace on record

Stocks:                            1010 – economic data accelerates equity gains

10-year Note:              3.86% – treasuries post biggest weekly decline since ‘03

Oil:                                     $71 – oil remains elevated on positive economic data

Dollar/Euro:                  $1.42 – jobs data gives strength to dollar

Economics This Week:

Date      Item                            Est.                     Comment

8/12      Trade Balance:     -$28.5B              Higher fuel prices widen trade balance

8/13      Retail Sales:          0.3%                    Clunkers program provides boost

8/14      CPI:                            0.0%                    Dis-inflation taking hold

8/14      Capacity Utilization:   68.1%         Flirting with historically low levels

8/14      Industrial Production:  0.1%       Likely to see first increase in 9 months

8/14      Michigan Sentiment:       68.5         Individual confidence wavering

Earnings & Economic Data Moving in Tandem

Equity markets were essentially flat through the first four trading days of last week, but Friday’s job report led to a renewed sense of optimism and helped propel the S&P 500 index up by 2.3% for the week, while the Dow Jones Industrial Average (DJIA) closed up 2.2%. 

Economic data remained positive throughout the week and improvements in the ISM index provided early support to the equity markets.  Data on pending home sales also surprised to the upside as a combination of low prices and low mortgage rates motivated buyers.  By the end of the week, the unemployment report offered the most hope of a weakening recession.    

As earnings season moves towards its finale, the tone is turning decidedly optimistic among analysts and company management.  Just two quarters ago 15.7% of companies were issuing lower earnings guidance and only 2.66% were raising guidance.  Now that economic conditions are easing, the tenor coming out of management teams is improving.  The most recent quarter witnessed 8.4% of companies issue higher guidance and a modest 6.1% of companies are lowering guidance.  

Source: Bespoke Investment Group 

Stabilization Evident in Jobs Market

Job losses for the month of July came in at a much better than expected -267,000, down from a peak of -741,000 in January and an upwardly revised loss of -443,000 in June.  Surprisingly, the unemployment rate dipped to 9.4% for the month but this was mostly attributable to a 422,000 person drop in the labor force as more people chose to stop looking for work. 

Source: Haver Analytics 

In addition to the improvement in the headline trend, pockets of strength were evident in the underlying figures as well.  The average weekly hours worked rose slightly to 33.1, although, the long-term fundamental downtrend is obvious in the graph below.  Average hourly earnings also increased in July, by 0.2%, following the enactment of a higher minimum wage ($7.25).  Overall, the employment report is a welcome improvement from the difficult reports that dominated the headlines in late 2008 and early 2009.   

Source: Bespoke Investment Group

Manufacturing Flickers to Life

Global manufacturing received a welcome reprieve last week following news that several economies are now back in expansionary territory, while others are showing a lessening rate of decline (the now infamous second derivative). 

Source: Financial Times

In the US, the ISM Index increased to 48.9 in July, well ahead of the 46.5 that economist were expecting and the slowest pace of decline since August 2008.  As a reminder, readings below 50 signal contraction, while those above 50 are representative of expansion.  The underlying data also point to future increases – both the new orders and production index are firmly entrenched in expansionary territory, suggesting positive momentum for production in the quarters ahead.  Inventories showed the only sign of weakness after declining for the 39th consecutive month.  This should be viewed with a grain of salt however; as an inventory led contraction may lead to an inventory led rebound in the coming quarters.  

Looking at previous recessions, the ISM index has a tendency to cross above the 50 level after the end of a recession.  With the New Orders Index and the Production Index both above 50 (55.3 and 57.9, respectively), the last piece of the puzzle will be a move of the composite index above 50. 

Source: Northern Trust

The news abroad was even better as the UK economy crossed into expansionary territory for the first time since March 2008.  Europe as a whole is trailing behind the UK and US but even the euro zone showed its second largest improvement since the survey began in 1998. 

China’s situation is somewhat different as two measures of manufacturing in that country have been expanding since early this year.  Nearly all of the sub-indices registered higher levels in the month, a clear indication that the Chinese economy is standing on firmer ground.

This is another positive development for the notion of an inventory-led recovery in the second half of this year.  Even Norbert J Ore, chair of the ISM Business Survey Committee, was quoted as saying, “Overall, it would be difficult to convince many manufacturers that we are on the brink of recovery, but the data suggests that we will see growth in the third quarter if the trends continue.”

The Week Ahead

An onslaught of earnings news and economic data will keep investors on their toes in the coming week.  Second quarter earnings for the nation’s retailers will dominate the earnings headlines with J.C. Penny, Kohl’s, Macy’s, Nordstrom’s and the behemoth known as Wal-Mart all set to report.

Bernanke and Co. meet on Tuesday and Wednesday for their regularly scheduled Federal Open Market Committee (FOMC) meeting.  There is no expectation of a change in the fed funds rate and discussion will likely center around the Term Asset-Backed Securities Loan Facility (TALF) and the $300 billion Treasury security purchase program.  Recent improvements in economic data as well as thawing in the credit markets make it unlikely that the Fed will opt to extend either program. 

Quotable:         “We are drowning in information, but starved for knowledge.”  John Naisbitt in ‘Megatrends: Ten New Directions Transforming Our Lives’

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