All QE, All the Time
by Chris Maxey
September 4, 2012
Markets Slip Amid Mixed Economic Data
In a week of relatively light trading to wrap up the summer, equity markets trickled lower, as the Dow Jones Industrial Average lost 0.5% and the S&P 500 Index fell 0.3%.
It was a mixed week of economic data in the U.S., but markets were clearly locked in on Ben Bernanke’s speech in Jackson Hole, Wyoming. News on housing seems to confirm that a bottom is in place, while manufacturing data continues to move in all different directions.
On the housing front, the S&P/Case-Shiller 20-City Home Price rose by 0.9% in June. That followed gains of 0.8% and 1.0% in April and May, respectively. Home prices were positive in 19 of 20 cities, with Dallas posting a slightly negative number.
Also of note last week was the pending home sales index, which increased 2.4% in July. In the past year, the index is up more than 12% and currently resides at its highest point since 2010.
One area of the housing market showing a bit of slowdown is the mortgage applications market. The Mortgage Bankers Association (MBA) weekly index of total mortgage applications fell more than 4% in the latest week, following declines in four consecutive weeks. In the past year, applications are up 24%, but since the recent high in June, mortgage applications are down 17%. Applications for refinancing have borne the brunt of the decline, while purchase applications have gradually trickled higher since the start of August. With an effective rate of 3.92% on a 30-year mortgage, the pool of people with an ability to refinance is quickly diminishing.
Last week we also learned that GDP grew by an annual rate of 1.7% in the second quarter, up from the 1.5% rate initially reported. Higher revisions were seen in personal consumption and exports, which were offset by weaker inventory growth. The upward revision was not expected by most economists, but still suggests that the economy is growing at a sub-par rate.
Consumers, long the cog of the American growth engine, showed a slightly more optimistic stance last week. The University of Michigan Consumer Sentiment Index rose 2 points to 74.3 in August. While the headline figure improved, most of that was the result of improving optimism about current conditions rather than the future outlook, which is at its lowest reading since 2011.
Consumers received favorable news from the July personal income and spending report. For the third consecutive month, personal income rose 0.3%. The improved trend in income led to higher consumption as well. Personal consumption fell in May and was flat in June, leading to concern that consumers were pulling back from the economy just as it was beginning to slow. The July report showed that spending rose 0.4%, though, easing those fears.
An additional piece of good news came from the personal savings rate, which remained steady at 4.2%. Since the trough last year, when the savings rate fell as low as 3.2%, there has been a steady, gradual increase. There is still room for the savings rate to move higher, particularly given how stretched consumer balance sheets have been in the past decade.
Regional manufacturing surveys continued to paint a conflicted picture in the latest survey period. The Chicago PMI fell marginally from 53.7 to 53.0, but remained well within expansionary territory. Positive momentum in the new orders index indicates that manufacturing in the Chicago area will likely benefit in the months ahead. Other cities, such as Dallas and Kansas City, also returned a positive report, but the Richmond Fed manufacturing survey showed another month of contraction. The Richmond Fed report improved to -9 in August from -17 in July, albeit with very weak sub-components.
For investors, now is the time to prepare for the possibility of a more volatile period. September is historically a difficult month for equity markets, with early strength accompanied by late-month sell-offs. There are a host of events scheduled in Europe, including rulings by the German courts about the constitutionality of the ESM, Dutch general elections and ECB meetings.
All QE, ALl The Time
Hanging above all economic data last week was Federal Reserve Chairman Ben Bernanke’s speech in Jackson Hole. Bernanke provided only modest insight into his current thinking, but many believe his comments increased the likelihood of new quantitative easing measures.
While it is clear that the domestic economy is stuck at a sub-par growth rate, recent comments from the Federal Reserve’s Beige Book indicate the economy is growing and “continued to expand gradually.”
Unfortunately, for the Fed, the continued gradual expansion has not been enough to stem high unemployment. Complicating matters, recent research from Fidelity shows that we are near the point in the business cycle where growth moderates, credit tightens, earnings begin to compress and policy contracts. Incorporate uncertainty associated with the fiscal cliff, the likelihood that growth in China could remain under pressure, and the possibility of a recession throughout continental Europe, and there is a definite risk of the U.S. economy accelerating to the downside more quickly than hoped.
Source: Fidelity Investments
Fed officials, and most notably Ben Bernanke, are acutely aware of these possibilities. Bernanke left the door open to more QE through his assessment of the economy and his characterization of labor markets as a “grave concern.”
By some estimates, there is a 50% likelihood that the Fed will adopt new QE related measures during its September meeting. Those estimates obviously depend on the pace of the economy and any sudden change to labor markets, but for now the message is clear: all QE, all the time.
the week ahead
A number of important reports are on tap for the holiday-shortened week. Headlining the week’s events is the Employment Situation Report, due out on Friday, from the Bureau of Labor Statistics. The unemployment rate is not expected to change, while economists are looking for a gain of 127,000 jobs in the nonfarm payroll report.
The Institute of Supply Management will also release its Manufacturing and Non-Manufacturing indices, two important indicators on the health of the US economy. The manufacturing index is struggling to get out of contractionary territory for the first time since 2009.
The ECB and Bank of England meet this week, with the ECB expected to cut its benchmark interest rate by 25 bps. The group may also finalize plans for a new bond purchasing program.
Other central banks meeting this week include Russia, Australia, Poland, Thailand, Canada, Sweden, Malaysia, and Mexico.
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