Jun 01th

“Soft Patch”

Author: Kenn Lamson

Comments: 0

Who’d have thought that, until recently, anyone other than economists at the European Union, International Monetary Fund, European Central Bank would care a whit about the fiscal status of Greece, Italy, Ireland, Portugal, Spain and other small European countries?  US investors have learned more about those nations than they perhaps ever cared to, especially the ability of small nations to unwittingly create dramatic turmoil in the financial markets.  Since we at Harmonic have been focused, like most others, on the explosion onto the world stage of sovereign risk among Euro-zone countries, the never-ending flow of US economic data has been pushed to the back burner. It appears upon examining recently released data, however, that the US economy may have slipped into what research firm International Strategy & Investment (ISI) refers to as a “soft patch.”

The strength of the economic rebound from the painful 2008-2009 recession was surprising to many observers (yours truly included) ; whether that rebound is sustainable remains a legitimate subject for debate. The manufacturing-led and stimulus-fueled rebound appears to have stalled recently:

  • the weekly unemployment figures are remaining stubbornly high
  • consumer spending data released May 28 showed a slowdown
  • ISM’s manufacturing PMI released June 1 remained in growth territory but softened
  • the Economic Cycle Research Institute’s Weekly Leading Indicator,  a composite of several indicators, has slowed markedly of late (chart below)

The downturn of the growth rate and level of the WLI are of particular concern to me; I’ve noted in earlier posts that the WLI has historically been a solid predictor of US economic activity.

Those concerns noted, the balance of economic data released in the past couple of weeks has been positive. Of particular interest were:

  • strength in housing sales (although these were undoubtedly boosted by homebuyers hurrying to capture government tax credits by signing contracts before their April 30 expiration)
  • consumer sentiment was reported rising and higher than expected
  • a very broad coincident indicator, the Chicago Fed National Activity Indicator, has continued to rise and is now in “normal” territory.

The so-called “soft patch” is a reminder that the US and world economies are far from out of the woods; while such pauses in economic recovery are probably to be expected, the exceptionally high unemployment rate, skyrocketing fiscal deficits, number and magnitude of economic problems confronting the US and other world economies continues to suggest a longer and rockier road to stability than in other post-war recoveries.

May 11th

Housing Overhang

Author: Kenn Lamson

Comments: 0

We’ve mentioned in a number of previous posts the large overhang of existing homes that have and will continue to hit the market. Courtesy of T2 Parthers via InvestmentPostcards.com is a table and chart that effectively captures the issue.

The additional 7.2 million units that are forecast to hit the market are in addition, of course, to homes put up for sale due to “normal” circumstances – relocation, divorce, death, up- or down-sizing, etc. – and new construction. Housing is, and will remain for some time, a very large fly in the economic ointment.

May 10th

Visualizing the Housing Bubble

Author: Kenn Lamson

Comments: 0

SOURCE: VisualEconomics.com

Apr 30th

Weekly Economic Insight, 26 April – 30 April 2010

Author: Kenn Lamson

Comments: 0

The final week of April gave us an uninspiring (and dated) reading on housing prices, the latest snapshot of consumer sentiment, and two readings on the overall state of the US economy – one reviewing 1Q10 and the other looking at March conditions. There were few surprises in the week’s data, which showed a slowly improving economy and initial signs that while they are clearly skeptical, the American consumer may prove more resilient than expected. 

RELEASE (leading, coincident or lagging indicator)

PERIOD

ACTUAL

 EXPECTED (consensus) LAST

HIA COMMENT

Case-Shiller 20-city Home Price Index (lagging)

February

144.03

144.80

145.32

On a seasonally adjusted basis home prices fell -0.1% month-over-month but rose +0.6% year-over-year. On an unadjusted basis, prices fell -0.9% MoM.

Chicago Fed National Activity Index (coincident)

March

-0.18

N/A

-0.31

March’s level rose slightly from February and remained above the important -0.70 level.

GDP (lagging)

1Q10 advance

+3.2%

+3.3%

+5.6%

The initial look at first quarter economic growth moderated from 4Q09 anticipated, but consumer spending was stronger than expected.

Univ of Michigan Consumer Sentiment (leading)

April

72.2

71.0

73.6

American consumers’ opinion of their circumstances fell from its March reading.

 

S&P / CASE-SHILLER HOME PRICE INDEX

While the overall level of home prices appears to be slowly improving, this report suggests that the housing rebound that appeared last fall has faded.  Only one of the 20 cities saw a month-over-month price increase, and 6 cities reported new lows in prices.  However, 9 cities saw year-over-year price improvement. Prices stand at their autumn 2003 levels and are down -30.3% from their summer 2006 peak.

As with other lagging indicators, this data is a bit stale and projections made from it may be suspect.

 

CHICAGO FED NATIONAL ACTIVITY INDEX

The CFNAI is a weighted average of 85 indicators of national economic activity. The indicators that comprise the Index are drawn from four broad categories:

  • Production and income
  • Employment, unemployment and hours
  • Personal consumption and housing
  • Sales, orders and inventories

As a reminder regarding this useful but little-known Index, when the 3-month moving average value moves below -0.70 following a period of economic expansion, there is an increasing likelihood that a recession has begun. Conversely, when the 3-month moving average value moves above -0.70 following a recession, there is an increasing likelihood the economic contraction has ended.  When the 3-month average moves above +0.70 more than 2 years into an economic expansion there is an increasing likelihood that a period of sustained inflation has begun.

March’s 3-month moving average rose slightly from February and remained above the important -0.70 level, suggesting that economic activity is muted but continues to improve. According to the CFNAI inflation should not be a significant problem over the coming year.

 We note, however, that the “consumption and housing” component of the index remains negative.

 

GRAPH: Chicago Fed

 

“ADVANCE” GDP

This release is a first look into the first quarter of 2010, which fell slightly short of consensus expectations. The “advance” report will be revised over the next two months as additional data becomes available.  The positive surprise in the report was the better-than-expected showing from the consumer; business investment, exports and “nonresidential fixed investment” also made positive contributions. The slowing from 4Q09 was driven by decelerations in inventory replenishment, exports and housing investment, all which have been signaled by data released earlier.

It appears as though the inventory restocking that drove GDP growth in 4Q09 has subsided and the strengthening US Dollar has taken the wind out of the sails of exporters. The question that has plagued economic observers since the beginning of this recession remains: Can the US consumer – with an unemployment rate near 10%, wage growth nonexistent and housing flat at best – drive the economy forward without creating another debt bubble?

The contributions to growth looked like this:

SEGMENT CONTRIBUTION
Consumer spending +2.55%
Gross private domestic investment +1.67%
Net exports -0.61%
Government spending and investment -0.37%
TOTAL PERCENT CHANGE AT ANNUAL RATE +3.24%

 

 

GRAPH: Bureau of Economic Analysis

CONSUMER SENTIMENT

Consumers may be losing faith in the signals of economic improvement; the U of M Consumer Sentiment Index continued its recent slide, dipping from 73.6 in March to 72.2. The measure of current conditions, which reflects Americans’ perceptions of their own finances and whether it is a good time to buy big ticket items such as cars and homes, declined further from its cycle high in February to 81.0.  The index of expectations six months from now, which more closely projects the direction of consumer spending, also worsened again, from 67.9 to 66.5.

As we’ve noted elsewhere, economic improvement is clearly centered in manufacturing, not in housing and employment, two areas much closer to consumers.

 

Apr 09th

Should You Pay Off Your Mortgage or Invest?

Author: Chris

Comments: 0

Should You Pay Off Your Mortgage or Invest?

Owning a home outright is a dream that many Americans share. Having a mortgage can be a huge burden, and paying it off may be the first item on your financial to-do list. But competing with the desire to own your home free and clear is your need to invest for retirement, your child’s college education, or some other goal. Putting extra cash toward one of these goals may mean sacrificing another. So how do you choose?

Evaluating the opportunity cost

Deciding between prepaying your mortgage and investing your extra cash isn’t easy, because each option has advantages and disadvantages. But you can start by weighing what you’ll gain financially by choosing one option against what you’ll give up. In economic terms, this is known as evaluating the opportunity cost.

Here’s an example. Let’s assume that you have a $300,000 balance and 20 years remaining on your 30-year mortgage, and you’re paying 6.25% interest. If you were to put an extra $400 toward your mortgage each month, you would save approximately $62,000 in interest, and pay off your loan almost 6 years early.

By making extra payments and saving all of that interest, you’ll clearly be gaining a lot of financial ground. But before you opt to prepay your mortgage, you still have to consider what you might be giving up by doing so–the opportunity to potentially profit even more from investing.

To determine if you would come out ahead if you invested your extra cash,start by looking at the after-tax rate of return you can expect from prepaying your mortgage. This is generally less than the interest rate you’re paying on your mortgage, once you take into account any tax deduction you receive for mortgage interest. Once you’ve calculated that figure, compare it to the after-tax return you could receive by investing your extra cash.

For example, the after-tax cost of a 6.25% mortgage would be approximately 4.5% if you were in the 28% tax bracket and were able to deduct mortgage interest on your federal income tax return (the after-tax cost might be even lower if you were also able to deduct mortgage interest on your state income tax return). Could you receive a higher after-tax rate of return if you invested your money instead of prepaying your mortgage?

Keep in mind that the rate of return you’ll receive is directly related to the investments you choose. Investments with the potential for higher returns may expose you to more risk, so take this into account when making your decision.

Other points to consider

While evaluating the opportunity cost is important, you’ll also need to weigh many other factors. The following list of questions may help you decide which option is best for you.

  • What’s your mortgage interest rate? The lower the rate on your mortgage, the greater the potential to receive a better return through investing.
  • Does your mortgage have a prepayment penalty? Most mortgages don’t, but check before making extra payments.
  • How long do you plan to stay in your home? The main benefit of prepaying your mortgage is the amount of interest you save over the long term; if you plan to move soon, there’s less value in putting more money toward your mortgage.
  • Will you have the discipline to invest your extra cash rather than spend it? If not, you might be better off making extra mortgage payments.
  • Do you have an emergency account to cover unexpected expenses? It doesn’t make sense to make extra mortgage payments now if you’ll be forced to borrow money at a higher interest rate later. And keep in mind that if your financial circumstances change–if you lose your job or suffer a disability, for example–you may have more trouble borrowing against your home equity.
  • How comfortable are you with debt? If you worry endlessly about it, give the emotional benefits of paying off your mortgage extra consideration.
  • Are you saddled with high balances on credit cards or personal loans? If so, it’s often better to pay off those debts first. The interest rate on consumer debt isn’t tax deductible, and is often far higher than either your mortgage interest rate or the rate of return you’re likely to receive on your investments.
  • Are you currently paying mortgage insurance? If you are, putting extra toward your mortgage until you’ve gained at least 20% equity in your home may make sense.
  • How will prepaying your mortgage affect your overall tax situation? For example, prepaying your mortgage (thus reducing your mortgage interest) could affect your ability to itemize deductions (this is especially true in the early years of your mortgage, when you’re likely to be paying more in interest).
  • Have you saved enough for retirement? If you haven’t, consider contributing the maximum allowable each year to tax-advantaged retirement accounts before prepaying your mortgage. This is especially important if you are receiving a generous employer match. For example, if you save 6% of your income, an employer match of 50% of what you contribute (i.e., 3% of your income) could potentially add thousands of extra dollars to your retirement account each year. Prepaying your mortgage may not be the savviest financial move if it means forgoing that match or shortchanging your retirement fund.
  • How much time do you have before you reach retirement or until your children go off to college? The longer your timeframe, the more time you have to potentially grow your money by investing. Alternatively, if paying off your mortgage before reaching a financial goal will make you feel much more secure, factor that into your decision.

The middle ground

If you need to invest for an important goal, but you also want the satisfaction of paying down your mortgage, there’s no reason you can’t do both. It’s as simple as allocating part of your available cash toward one goal, and putting the rest toward the other. Even small adjustments can make a difference. For example, you could potentially shave years off your mortgage by consistently making biweekly, instead of monthly, mortgage payments, or by putting any year-end bonuses or tax refunds toward your mortgage principal.

And remember, no matter what you decide now, you can always reprioritize your goals later to keep up with changes to your circumstances, market conditions, and interest rates.

Apr 03th

Real Estate Boom & Bust, by Metro Area

Author: Kenn Lamson

Comments: 0

As is widely understood, the downturn in home prices has been the albatross around the economy’s neck for the past couple of years. The New York Federal Reserve Bank recently published research expanding on our understanding of how local markets across the US were affected by the bubble and its collapse.

While it’s difficult to separate causation from correlation, its appears that the prevalence of “subprime” mortgages was a key factor in the expansion and retraction.  The table below suggests that areas with a higher usage have seen greater delinquencies and foreclosures.

Hat tip: Ritholtz.com

Apr 02th

“Separating Wheat from Chaff”

Author: Kenn Lamson

Comments: 0

As even a casual observer would recognize, there are hundreds of pieces of economic data available from various departments within the Federal government and private research firms. There’s also lots of anecdotal information, too.  Unfortunately, as a relatively young (17 month anniversary is tomorrow, 3 April!) investment and research firm we don’t have time or the patience to try to analyze and write about what we find interesting, much less every thing that’s available. It’s clear, though, that some data are more important than others, because:

  •  they have a higher information content,
  • their methodology is more robust,
  • they’re more timely,
  • they tend to “move the market”,
  • or they’re familiar to the public at large.

With the able assistance of intern Vu Ngo, a senior majoring in finance at Boise State University, we’ve “separated the economic wheat from the chaff” by creating a list of about 15 indicators on which our research will focus.

We segmented our list by the component of the economy about which it informs us. The list looks like this:

CONSUMER

  • Retail Sales
  • Univ of Michigan Consumer Sentiment
  • New & Existing Home Sales
  • Consumer Credit
  • Real Personal Consumption Expenditures (aka consumer spending)
  • Unemployment Situation
  • Consumer Price Index
  • S&P / Case-Shiller Home Price Index

BUSINESS

  • ISM Manufacturing Index
  • ISM Service Index
  • Durable Goods Orders
  • Industrial Production & Capacity Utilization
  • Productivity and Costs

FOREIGN TRADE

  • International Trade

OVERALL MACROECONOMIC ACTIVITY

  • GDP
  • Chicago Fed National Activity Index
  • Economic Cycle Research Institute Weekly Leading Index

Of course we’ll keep our finger on the pulse of other data, and this list may change if items lose their efficacy. We think, however, it strikes a good balance between data overload and having too narrow a focus.

Apr 02th

Weekly Economic Insight, 29 March – 2 April 2010

Author: Kenn Lamson

Comments: 0

The week ending 2 April saw indicators that provided incremental information on the consumer, housing, the manufacturing sector and unemployment.  The ISM Manufacturing Index data came in especially strong, confirming our thesis that economic growth will continue to be lead by the industrial sector rather than households. While Friday’s Unemployment Situation report showed the most jobs created in 3 years, the underlying data was less satisfying.

This week’s data suggests economic growth firm enough to let the Fed continue its “exit strategy”. The 4Q09 inventory- and stimulus-driven growth spurt appears to be waning though, suggesting a significantly lower 1Q10 GDP print.

RELEASE (leading, coincident or lagging indicator)

PERIOD

ACTUAL

EXPECTED (consensus)

LAST

HIA COMMENT

Consumer Spending (leading)

February (MoM)

+0.3%

+0.3%

+0.5%

On an inflation-adjusted basis, MoM spending rose +0.3%.

S&P / Case-Shiller Home Price Index (lagging)

January 2010

145.32

N/A

145.90

On a seasonally adjusted basis home prices rose +0.3% month-over-month but fell -0.7% year-over-year. On an unadjusted basis, prices fell -0.4% MoM.

ISM Manufacturing Index (leading)

March

59.6

56.3

 56.5 In March the manufacturing sector expanded for the eighth consecutive month and accelerated from February.

Unemployment Rate (lagging)

 March 9.7%

9.7%

9.7%

 Unemployment rate remained unchanged. According to the Household Survey the number of unemployed Americans was little changed at 15.0 million in March; this number has risen by 8.5 million since the official beginning of the recession in December 2007.

Nonfarm Payrolls (lagging)

March

+162K

+184K

-36K

The Establishment Survey showed a seasonally-adjusted gain of +41K jobs in goods-producing businesses and a gain of +82K in service-providing businesses.

                                                                                                                                            

CONSUMER SPENDING

On balance, consumer spending continued on its gradual uptrend.  February’s increase was once gain lead by spending on nondurable goods (boosted by gasoline expenditures), which gained +0.7% month-over-month.  Spending on durable goods was down -0.4% on weak auto sales; expenditures on services were up 0.3%. As a function of flat incomes (personal income rose less than +0.1% in February) and slightly higher spending, the monthly personal savings rate continued to decline, falling from a revised 3.4% in January to 3.1% in February. 

We believe it’s exceptionally unlikely that the American consumer will resume spending at pre-recessionary levels anytime soon (perhaps for many years), given the elevated unemployment level and other sources of economic distress; however, we hope to see spending growth driven by increases in wages and employment alongside an increasing savings rate and reduced outstanding consumer credit.

Personal Income (white) and Personal Consumption Expenditures (red),
$MM; Personal Savings (yellow), % of Disposable Personal Income
GRAPH: Bloomberg

S&P / CASE-SHILLER HOME PRICE INDEX

While the overall level of home prices appears to be slowly improving, this report suggests that the housing rebound that appeared last fall is fading.  Only two of the 20 cities saw month-over-month price increases, and 4 cities reported new lows in prices.  However, 9 cities saw year-over-year price improvement. Prices stand at their autumn 2003 levels and are down -29.6% from their summer 2006 peak.

As with other lagging indicators, this data is a bit stale and projections made from it may be suspect.

ISM MANUFACTURING INDEX

While it represents a relatively small percentage of the economy, this report points to a continued strengthening and expansion of the manufacturing sector.  The Index made up for January’s lackluster showing, and then some, with a 3.1 points month-over-month jump further into “growth” territory.  Importantly, new orders accelerated for the ninth month and the order backlog remained in the expansionary range. The employment component of the Index contracted slightly but remained in positive territory, suggesting that manufacturers have reached their maximum productive capacity given existing resources and have begun to hire. The reading on inventories finally echoed the data reported in 4Q09 GDP, turning sharply higher by 8.0 points into solidly expansionary territory.

EMPLOYMENT SITUATION

The most closely-watched economic release of the week (and the month) was Friday’s Employment Situation. It’s somewhat confusing because it contains data from two surveys, the Household and the Establishment, that are conducted differently and therefore provide different estimates. Also, each Survey shows both Seasonally Adjusted and Not Seasonally Adjusted data, so getting a read on what’s actually happening is challenging. The “headline” numbers are the Unemployment Rate from the Household Survey and the Nonfarm Payrolls figure from the Establishment Survey, both of which are seasonally adjusted. For a broader discussion of the Employment Situation data, see our Economic Insight research entitled “Fun With Numbers” released 5 September 09.

Household Survey

Adjusted for seasonal variations, the Household Survey data showed that the number of unemployed persons rose by +134K during March, the second monthly increase.  The average duration of unemployment lengthened again, to 31.2 weeks from 29.7 weeks –and a shocking 44.1% (6.5 million) of unemployed Americans remaining unemployed 27 weeks or longer. Those working part-time for economic reasons rose to 9.1 million from 8.8 million in February; about 2.3 million Americans were not in the labor force but wanted and were available for work but had not searched for work within the past 4 weeks. Because of the increase in the number of temporary and part-time workers, the broadest measure of labor underutilization, which also includes “marginally attached” and “discouraged” workers, rose to 16.9% in March from 16.8% in February.

According to the Household Survey the seasonally unadjusted unemployment rate for manufacturing jobs was 12.6%; for construction, 24.9%; agriculture, 18.0%; healthcare and education, 5.2%; and government, 3.9%.

UNEMPLOYMENT RATE
GRAPH: Bloomberg

Establishment Survey

The seasonally adjusted Establishment Survey data showed a gain of +41K jobs in goods-producing businesses and a gain of +82K jobs in service-providing businesses; this report appears to square with the ISM manufacturing survey data cited above. 

The Survey showed gains in an increasing number of major private industry groups. As suggested by the Household Survey, temporary help services once again added a relatively large number of workers (+40K). Education and healthcare companies added +45K while trade, transportation and utilities grew by +31K. The construction sector saw its first job gain in many months, gaining +15K, while the important manufacturing sector gained +17K.  Shedding jobs in March were the Information (-12K) and Financial (-21K) sectors. Government employment totals rose +39K, with local government shedding -5K while the Federal government added +48K Census workers.

Average hourly earnings were $22.47 in March, down $0.01 from February but up $0.39 from a year ago. Month-over-month Increases have been modest but relatively consistent, reinforcing the idea that wage pressures are nonexistent.

The average private work-week regained its February retreat, lengthening by +0.1 hours to 34.0 hours. The longest work-weeks were recorded in Mining & Logging (43.0 hours), Utilities (40.8 hours) and Durable Goods manufacturing (40.3 hours). The shortest hours were, unsurprisingly, in Leisure & Hospitality (25.7 hours), Retail (31.2 hours) and Education & Healthcare (32.8 hours).

The “birth / death” model created 81K jobs in March.

MONTH-OVER-MONTH CHANGE IN NONFARM PAYROLLS
GRAPH: Bloomberg

Analysis

The Establishment Survey has a “large company” bias; the “birth/death model” is used to estimate the number of jobs created by small companies.  Given the importance of small businesses in our economy, we believe (and the historical record would suggest) that these firms are the “canary in the coalmine” of domestic economic activity, since they have less cash on the balance sheet, less access to credit, and less exposure to overseas markets than large companies. Consequently, we prefer to emphasize the Household Survey in our analyses.

We note the increased importance of investigating the underlying trends in this and subsequent months’ reports in order to look through potentially obscuring factors:

  • The temporary hiring of hundreds of thousands of Census workers.
  • The fact that as the economy begins to improve workers that have previously excluded themselves from the labor force resume applying for unemployment benefits, so the labor force participation and unemployment rates rise.

We see Friday’s release as offering mixed signals: 

  • The “headline” numbers were basically neutral: The unemployment rate remained unchanged and nonfarm payrolls were up +162K, but most of the gain was from the hiring of almost 50K temporary Census workers and 81K jobs created by the “birth/death” model.
  • The Household Survey’s reported seasonally-adjusted month-over-month increase by +264K in the number employed Americans but an increase of +134K in the number of unemployed.
  • About 238K workers joined the labor force, pushing the participation rate up one-tenth to 64.9%, a plus.
  • Average hourly earnings fell, but the work-week lengthened.
  • The broadest measure of under- and unemployment rose again, predominantly due to a sharp increase in the number of Americans working part-time for economic reasons.
  • The percentage of “long-term unemployed” workers continued to rise and is painfully high. We have to question whether the jobs these workers performed are permanently lost as some industries are undergoing permanent structural change.

 

A rather sobering realization is the fact that if this recovery were “normal”, the economy should be generating substantially more jobs than were are currently seeing. According to economist and strategist David Rosenberg, 2.5 years after the Fed begins to ease, the economy is usually generating about 150K jobs per month; job gains after a quarter of 5.6% GDP growth (like we saw in 4Q09) are usually about 215K per month.  The gulf between “what should be” and “what is” highlights the difficulty the economy’s government handlers will have getting it up off the mat.

Mar 26th

Weekly Economic Insight, 22 March – 26 March 2010

Author: Kenn Lamson

Comments: 2

The week ending 26 March saw indicators that provided incremental information on housing, the manufacturing sector, the American consumer’s mindset and the overall economy.  The data confirms our thesis that economic growth will continue to be lead by the industrial sector rather than households. We note also that the 4Q09 inventory- and stimulus-driven growth spurt appears to be waning, suggesting a significantly lower 1Q10 GDP print. 

 

RELEASE (leading, coincident or lagging indicator)

 PERIOD ACTUAL EXPECTED (consensus) LAST

HIA COMMENT

Chicago Fed National Activity Index 3-month moving average (coincident)

 February -0.39 NA -0.13

Three of the four broad categories of indicators that make up the index deteriorated, with only the sales, orders and inventories making a positive contribution.

Durable Goods Orders (leading)

 February +0.5% +1.0% +3.0%

Orders excluding transportation rose +0.9% month-over-month.

New Home Sales (leading)

 February 308K 315K 309K

New home sales plummeted for a fourth month, down -2.2% MoM.

Existing Home Sales (leading)

 February 5.02M 5.00M 5.05M

Sales slipped again, dropping -0.6%.

GDP (lagging)

 4Q09 final +5.6% +5.9% +5.9%

The final look at 4Q09 economic growth shaved the rate from earlier reports. Still, the pace of economic growth was the fastest in more than 6 years.

Univ of Michigan Consumer Sentiment (leading)

 March 73.6 73.0 73.6

American consumers’ opinion held steady in March.

                                                                                                                                            

CHICAGO FED NATIONAL ACTIVITY INDEX

As discussed in last week’s Economic Insight, the CFNAI will replace the Conference Board’s Index of Leading Economic Indicators in our analyses. 

The indicators that comprise the Index are drawn from four broad categories:

  • Production and income
  • Employment, unemployment and hours
  • Personal consumption and housing
  • Sales, orders and inventories

A zero value for the index indicates the national economy is expanding at its historical trend rate of growth; negative values and positive values indicate below- and above-average growth, respectively.

Month-to-month movements can be volatile, so the Index’s 3-month moving average is used to show a more consistent picture of national economic growth.

When the 3-month moving average value moves below -0.70 following a period of economic expansion, there is an increasing likelihood that a recession has begun. Conversely, when the 3-month moving average value moves above -0.70 following a recession, there is an increasing likelihood the economic contraction has ended.  When the 3-month average moves above +0.70 more than 2 years into an economic expansion there is an increasing likelihood that a period of sustained inflation has begun.

February’s 3-month moving average decreased slightly from January but was higher than at any point since December 2007. The negative reading suggests US economic growth is below its historical trend and that there is low inflationary pressure.

DURABLE GOODS ORDERS

While the overall orders figures fell short of consensus expectations, the important manufacturing sector once again showed solid growth.  Month-over-month growth in new orders was seen in 4 of 8 major industry groups surveyed, including machinery (+4.7% and fabricated metal products (+1.9%). Weakness was centered in electronic equipment (-3.3%) and transportation equipment (-0.7%). 

January’s durable goods inventory figure was revised upward to show +0.1% month-over-month growth, making February’s +0.3% figure the second consecutive month of inventory growth. Perhaps US manufacturers have finally seen the bottom of the inventory cycle that’s been long expected.

Durable goods orders (red) and consensus expectation (green), Jan 2000 – Feb 2010

 

EXISTING AND NEW HOME SALES

According to the National Association of Realtors, sales of existing homes dropped once again in February, following the combined 23% decline in December and January. As noted in earlier commentary the initial wave of first-time homebuyers crested in November but the second (assuming there is one) has not yet fully taken hold. Without sharply higher interest rates or other negative factor intervening, we’ll likely see another surge of first-time buyers in March and April.

The housing market continues to be supported through the Federal Reserve’s purchase of mortgage-backed securities, a key mechanism for providing liquidity to lenders and keeping mortgage interest rates down. Those purchases, however, expand the Fed’s balance sheet and exacerbate longer-term inflationary concerns. This program, like many of the other extraordinary liquidity programs in which the government has engaged, is slated to end on March 31, 2010; it’s an easy bet that rates will likely rise if purchases are ceased.

The NAR report also showed that the reported estimate of existing homes for sale rose for the third consecutive month, by +9.5% to 8.6 months of inventory. Also, the median home prices were essentially flat at $165,100 while the average price fell to $210,500. Lower prices are a logical outcome of lower demand and increased supply. It must also be kept in mind that the reported figures ignore the massive overhang of foreclosed and delinquent properties that have yet to be officially put on the market.   According to one researcher, the actual supply is around 2 years’ worth, a far stronger headwind for the economy to lean against.

The decline was not adversely affected by the weather, as the Northeast and Midwest rose but South and West decreased. 

As with existing home sales, the drop in new home sales can in part be attributed to a lull in purchases via the first-time homebuyer tax credit. Also like the existing home sales release, supply was reported to have risen, in this case from 8.9 to 9.2 months. Unlike the report on existing homes, though, the median and average homes sales prices rose 6% to $220,500 and 5% to $282,600 respectively.

New (white) and existing (red) home sales, February 2005 – February 2010

 “FINAL” GDP

This release is the third and final look into the final quarter of 2009, which once again beat the consensus expectations. The “final” report is based on more complete data than was available at the time of the “preliminary” estimate last month or January’s “advance” estimate.  The report confirmed that fourth quarter growth was dominated by an enormous inventory adjustment. The downward revision from the “preliminary” report a month ago was cause by adjustments to spending on inventories, consumer spending and “nonresidential fixed investment.”

For 2009, this report puts full-year economic growth at -2.4%. 

 Accounting for the additional data released in the “final” report the contributions to growth looked like this:

SEGMENT

CONTRIBUTION

Consumer spending

+1.16%

Gross private domestic investment

+4.39%

Net exports

+0.27%

Government spending and investment

-0.26%

TOTAL PERCENT CHANGE AT ANNUAL RATE

+5.56%

The problem with inventory restocking-driven growth, of course, is that it’s temporary – once the proverbial shelves are full manufacturers will return to lower production levels.  In order to create a self-sustained economic growth we need to see demand from domestic consumers and businesses and/or foreign ones. As regular readers know, the downward pressure on demand is why we continue to focus so much of our work on understanding the unemployment trends.

CONSUMER SENTIMENT

The U of M Consumer Sentiment Index held steady at 73.6 for March. The measure of current conditions, which reflects Americans’ perceptions of their own finances and whether it is a good time to buy big ticket items such as cars and homes, rose to 82.4 in March, the highest reading of this cycle.  Ominously, however, the index of expectations six months from now, which more closely projects the direction of consumer spending, again worsened, declining to 67.9 from 68.4 a month earlier.

As we’ve noted elsewhere, economic improvement appears to be centered in manufacturing, not in housing and employment, two areas much closer to consumers.

 

Mar 20th

“Schooling Greenspan”

Author: Kenn Lamson

Comments: 0

Barry Ritholtz recently posted to his blog a response to former Federal Reserve Chair Alan Greenspan’s Brookings Institution paper on the financial crisis.  Greenspan apparently accepts that regulatory failures contributed to the crisis but argues that low interest rates, which of course his Fed (and he, specifically) argued for and maintained, did not contribute to the problem at hand.

Ritholtz response is not only spot-on, but it concisely explains what readers are paying hundreds of dollars to purchase (and hundreds of hours reading) in the heaps of books economists and others are spewing on the topic. I’ve reprinted Ritholtz’s comment below.

1. Starting in January 2001, the FOMC began lowering rates, eventually to 1%. They kept rates below 2% for 36 months, and at 1% for over a year. This was unprecedented.

2. While these rates had myriad effects, lets focus on just two: The impact on Housing, and on global bond managers.

3. Since homes are (typically) a leveraged credit purchase, lowering the cost of that credit has an inverse effect on prices — i.e., cheaper mortgages = more expensive houses. Since most people budget monthly, carrying costs are more important than actual purchase prices. Hence, a big drop in interest rates can cause a spike in home prices, with monthly payments remaining fairly similar.

Bottom line: Ultra low rates were the initial fuel sending home prices higher.

4. At the same time, bond managers were scrambling for yield. Pension funds, trusts, foundations require a certain annual gain, and without it, they have issues. Note that most of these managers by their own charters cannot purchase junk, they can only buy investment grade paper.

5. Wall Street had been securitizing collateralized debt for years. They turned credit cards, student loans, auto financing, and of course, mortgages into paper.

6. Making loans to people with weaker credit scores, lower incomes, or more debt was a risky proposition, and hence, generated higher yields for that risk. By collateralizing these subprime mortgages, Securitizers could generate higher yielding paper for the managers of bond funds. And because the rating agencies — Moody’s, S&P, and Fitch were totally corrupt — the securitizers could purchase AAA ratings. Hence, all manner of unqualified junk paper could be sold to these funds that were only allowed to purchase investment grade paper.

Here is the first point where lack of oversight comes in (vis-à-vis the ratings agencies). But we never would have gotten to that issue BUT FOR the ultra low rates.

Read the rest of Ritholtz’s article here.
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