Economic Notes for the Week of March 5th

The revised GDP number for the 4th Quarter 2011 as moved upward from an annualized 2.8% to 3.0%, which reflected better consumption and business investment/capex spending.  The one potential negative is, since inventory buildup played such a big role in last quarter’s GDP, this quarter may not have the same effect as some of that inventory is drawn down and used.

The Fed’s Beige Book, which is an account of economic conditions containing anecdotes submitted by various Fed district banks, generally referred to economic activity expanding at a ‘modest to moderate pace’ for January and early February.  This is similar to how conditions from late November and early December were described in the last book.  Specifically, it mentioned that manufacturing activity was steadily increasing, which is in keeping with other reports, and that consumer spending has picked up—including autos and residential real estate.  Labor conditions also seem to be improving in many areas; however, wages remain tempered, which is watched closely due to potential inflation implications.  Those inflation pressures appear to be in check.

Speaking of the Fed, Ben Bernanke’s remarks to Congress in his twice-yearly Monetary Policy Report this week were fairly cautious in tone.  From a strategy standpoint, considering the improving economic conditions, further quant easing wasn’t mentioned, but did note that labor conditions have improved at a rate somewhat ‘more rapid than might have been expected.’  This might be significant, considering their cautious tone regarding labor as of late.

The Fed’s favorite price inflation metric, the personal consumption expenditure price deflator/index (the ‘PCE’) was up +0.2% for January and +2.4% for the rolling twelve-month period.  The core part of this index rose a similar +0.18%, which was a bit below the consensus guess of +0.20% (year-over-year, the rise was +1.9%).

The February ISM Manufacturing Index number fell to 52.4, which was several points lower than expected, and was in contrast to several major manufacturing surveys that initially suggested there might be some improvement in this index for the month.  New orders fell the most, as did the employment piece, but export orders have been up strongly (as they have for six months).  Construction spending declined just slightly.


Durable goods orders for January slipped downward -4.0%, which was far below consensus expectations of a -1.0% drop, but the weakness was partially due to some unique seasonal factors.  Core orders were more stable, as a drop in more volatile commercial aircraft orders wasn’t included.  It is interesting to note that a portion of this drop is likely due to a ‘front loading’ of orders in the last portion of 2011 to take advantage of changes in tax laws at year-end (regarding expensing of capital equipment)—which may have artificially raised November/December numbers and lowered January’s.

The Case-Shiller home price index fell by -0.5% on a seasonally-adjusted basis for the 20 cities covered in the survey (non-adjusted, they were down just over -1%).  This was slightly more than expected, and resulted in a -4.0% decline for the trailing year.  As usual, the trend was inconsistent from city to city, as Phoenix gained a percent, Florida experienced small gains, while Detroit fell by another -3.5%.

The Conference Board’s consumer confidence survey for February rose about 9 points to 70.8—with increases occurring in both the expectations and current conditions components.  The measure for labor market conditions and job availability was also higher.

Personal income gained +0.3% for January, which was just a shade lower than forecast.  Similarly, consumer spending was also up a bit less than expected, at +0.2%, versus a forecast +0.4%—spending has remained relatively unchanged for the past several months (some of this is due to lower electricity and natural gas spending as a result of a warmer-than-average winter across much of the U.S.).

Initial jobless claims were 351,000, which was close to consensus, while the more relevant four-week moving average fell to 354,000.  Continuing claims were lower than consensus.  The payroll number coming up this Friday will be closely watched, as usual.

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For the week, large caps (other than the Dow) were generally up while small caps lost ground.  From a sector standpoint, consumer discretionary and financials gained the most, while energy, telecom and industrials trailed.  In foreign markets, emerging countries outperformed the developed group, as performance was mixed across a variety of countries and regions with no clear pattern.

The Dow Jones Industrial Average finally surpassed its next milestone—13,000—which it had been flirting with but hadn’t touched since May 2008.  These big round numbers tend to catch investors’ attention for no better reason than they appear on the national news (where a big deal is made of it), and reminds investors about the fact that markets have indeed been recovering.  Since that time, are things different?  Yes, quite a bit.

Company fundamentals are strongly better, with lower levels of debt and larger stashes of cash on the books.  A good deal of corporate excess and waste have been peeled off, and operations now are about as productive as they’ve ever been.  What happens at that point, considering that firms eventually hit a limit of productivity improvements and cost-cutting that can be accomplished, is that hiring will eventually begin assuming the current pace of improvement in the economy continues.

Bonds in the U.S. were up just slightly with intermediate-maturity investment grade debt lower in yield, while longer-term Treasuries were roughly flat.  Corporates, including high yield, had an even better week.  Emerging market bonds, however, outperformed domestic issues.  On the European front, the International Swaps and Derivatives Association (‘ISDA’) determined that the recent round of Greek debt restructuring did not constitute a ‘default’ under a definition that would trigger credit default swap payments.  However, the estimated size of the Greek CDS market is about $2-4 billion, according to insiders, so even a trigger may not have been that damaging, considering how long the current situation has been priced into the market.

Commodities on the week were led by strong recovery gains in natural gas and grains, as well as a good week in copper.

Gasoline prices continue on an upward tear, and this has raised continued concerns over how this may affect consumer behavior and, ultimately, the economic recovery if high prices continue.  High gas prices have historically been well-correlated with negative consumer sentiment, which is probably no surprise, considering how sensitive and aware most of us are to these prices on a daily basis.  As with many technical measures, we are especially sensitive to certain round number price thresholds, such as $3.00/gallon, $4.00/gallon, etc.

We’ve moved dramatically up towards the $4.00/gallon world in recent weeks (some states are already there), which may cast a negative tone on consumer sentiment.  The good news (if you can call it that) is that we’ve been here before (in mid-2008), so we’re becoming increasingly desensitized to higher levels—although many Americans just a few years ago had a hard time believing we’d reach this ‘European’ level.  More good news is that other indicators, such as a Dow near 13,000 act as positive contributors to sentiment and may partially offset the gasoline effect.

Gasoline also tends to be seasonally affected, with increases common early in the calendar year, a flattening mid-year during the summer months, and a bit of a pullback in the fall.  Per the chart below from Deutsche Bank, the magnitude this year’s increase is not out of line with the adjusted long-term average.


Have a good week.

Karl Schroeder, RFC, CSA, CEP

Investment Advisor Representative

Schroeder Financial Services, Inc.


Sources:  FocusPoint Solutions, Barclays Capital, Bloomberg, Deutsche Bank, Goldman Sachs, JPMorgan Asset Management, Morgan Stanley, MSCI, Morningstar, Northern Trust, Oppenheimer Funds, Payden & Rygel, PIMCO, Reuters, Standard & Poor’s, U.S. Federal Reserve, Wells Capital Management, Yahoo!.  Index performance is shown as total return, which includes dividends, with the exception of MSCI-EM, which is quoted as price return/excluding dividends.  Performance for the MSCI-EAFE and MSCI-EM indexes is quoted in U.S. Dollar investor terms.

The information above has been obtained from sources considered reliable, but no representation is made as to its completeness, accuracy or timeliness.  All information and opinions expressed are subject to change without notice.  Information provided in this report is not intended to be, and should not be construed as, investment, legal or tax advice; and does not constitute an offer, or a solicitation of any offer, to buy or sell any security, investment or other product.  Schroeder Financial Services, Inc. is a registered investment advisor.