Wednesday, February 22, 2017

The Recession Is Over

It’s easy to believe that the strength in the US economy since Election Day has a great deal to do with Trump’s surprising and stunning victory, including Republican majorities in both houses of Congress. His promises to cut taxes and reduce regulations seem to have revived animal spirits across the board among US consumers, small business owners, manufacturers, purchasing managers, and investors. I have been reporting on the incredible vertical ascents since the election in the Consumer Optimism Index, the Small Business Optimism Index, the average of the Fed districts’ composite business indicators, the M-PMI and NM-PMI, and the stock market. Also going vertical have been my Boom-Bust Barometer and my Weekly Leading Index.

It’s harder to imagine that Trump’s victory can explain the recent strength in global economic indicators. It’s possible that he revived animal spirits overseas on expectations that his fiscal policies might boost US economic growth, which should benefit the global economy. But his protectionist “America First” rhetoric, championing bringing jobs and manufacturing capacity back to the US, should squelch any optimism that better growth in the US will be shared with the rest of the world through the US trade deficit. Despite the media’s 24/7 focus on everything Trump, there may be a couple of other reasons why the global economy is showing signs of better growth:

(1) The energy recession is over. For starters, the 76% plunge in the price of a barrel of Brent crude oil from June 19, 2014 through January 20, 2016 triggered a global recession in the oil industry, which depressed other industrial commodity prices as well. The CRB raw industrials spot price index dropped 27% from April 24, 2014 through November 23, 2015. The price of oil and the CRB index have rebounded 102% and nearly 30% from their recent lows.

So the global energy industry’s recession is over, and it is no longer weighing on global economic growth. A good way to see this is to compare the y/y growth rates in S&P 500 revenues—which is a good indicator of global economic activity, since about half of those sales occur overseas—with and without the revenues of the Energy sector. With Energy, the growth rate turned negative from Q1-2015 through Q2-2016. It turned positive during Q3-2016. Excluding Energy, the growth rate remained positive over this same period, though it did weaken to a low of 0.2% during Q4-2015.

(2) China is back to its old tricks. China is also boosting economic growth by continuing to stimulate it with plenty of credit. During January, total “social financing” rose by a record $542.3 billion. That’s not on a y/y basis, but rather on a m/m basis! On a y/y basis, social financing totaled $2.7 trillion over the past 12 months through January. Bank loans, which are included in social financing, rose $335.7 billion during January m/m and $1.8 trillion over the past 12 months.

Wednesday, February 15, 2017

Running Hotter

There is only one obvious explanation for the remarkable vertical ascent in the Small Business Optimism Index over the past three months through January: Donald J. Trump. The index, which is compiled by the National Federation of Independent Business (NFIB), jumped from 94.9 during October to 105.9 during January, the highest since December 2004. That 11.0-point increase is reminiscent of a comparable leap higher during 1980 when business owners started to anticipate that Ronald Reagan might beat Jimmy Carter in that year’s November presidential election. There was another similar outsized increase during 1982 and 1983 when Fed Chairman Paul Volcker lowered interest rates to revive the economy from a severe recession.

Small businesses add up to a big portion of our economy. They currently employ 49.9 million workers, accounting for 40.5% of private-sector payrolls, according to data compiled by ADP. Since the start of the data during January 2005, small business payrolls have increased by 5.9 million, surpassing the gains by medium-sized (5.0 million) and large (1.2 million) companies over the same period. Here are a few of the key highlights from the latest NFIB survey:

(1) Problem solver? Each month, the NFIB survey includes a question on the most important problem faced by small businesses. Since early 2013, taxes and government regulation have been alternating between first and second places. Trump has pledged to lower both for small businesses. Apparently, small business owners expect that’s what he will do. Now all he has to do is deliver.

(2) A new problem. The NFIB survey also lists “poor sales” as a problem. That was the number-one complaint from October 2008 to July 2012. The survey doesn’t ask about the availability of labor. Nevertheless, that is actually becoming a big concern among small business owners according to another question in the survey. During January, roughly 30% of them said they have job openings that they aren’t able to fill right now. That’s the highest such reading since February 2001 based on a three-month average. It confirms that the economy is at full employment, as also evidenced by the unemployment rate, which is inversely correlated with this series and has been below 5.0% for the past nine months through January.

(3) Wages, prices, and profits. The NFIB’s jobs-hard-to-fill series is also highly correlated with the jobs-plentiful series included in the Conference Board’s survey of consumer confidence. All these labor market indicators suggest that wage inflation should be running hotter.

So far, there isn’t much evidence that wage inflation is picking up in the average hourly earnings data that are released by the Bureau of Labor Statistics in the monthly employment report. Previously, I have shown that there is more wage pressure showing up in the Atlanta Fed’s Median Wage Tracker.

In any event, so far over the past six months on average, only 3.3% of small business owners said they were actually raising their selling prices. So far, I am not seeing any pressure on the forward earnings of the S&P 600 SmallCap’s stock composite, which is rising in record-high territory. However, the composite’s forward profit margin is currently down to 5.2% from a cyclical peak of 6.1% during October 2013.

Wednesday, February 8, 2017

Are There Enough Shovel-Ready Workers?

Is promising to create 25 million jobs an unrealistic whopper by a fellow who tends to tell whoppers? Or is President Donald Trump simply thinking big, as he is wont to do? In a 9/15 campaign speech at the New York Economic Club, he predicted that his plan would increase employment by 25 million new jobs over the next 10 years. I looked at the 10-year change in payroll employment since the start of the data during 1939. The most this series has ever increased was 24.2 million jobs from May 1991 through May 2001. That period spanned the presidencies of George H. Bush and Bill Clinton. Looking at the eight-year changes, the biggest increase for any two-term president was 23.5 million under Bill Clinton. So the economy has added nearly 25 million jobs before, but it may be harder to do so again over the next 10 years.

Trump’s goal would be much more realistic if the economy were in a severe recession right now, since that would provide more upside during the initial recovery. Payroll employment has increased 15.8 million since it bottomed during February 2010, but only 8.0 million over the past 10 years. While Trump’s policies might stimulate more economic growth, there are still natural demographic limits to the number of employable people. Consider the following:

(1) Population. To create 2.5 million jobs per year, on average, over the next 10 years requires the availability of that many able-bodied workers. Over the past 10 years through January, the civilian working-age population (16 years old or older) rose 2.3 million per year on average. However, the population that is 16-64 years old increased 1.1 million, on average. It’s hard to imagine that this group will increase much, if at all, over the next 10 years as the large Baby Boom cohort retires and is replaced by a smaller cohort of first-time young adult workers.

(2) Labor force. Over the past 10 years through January, the civilian labor force increased by only 657,000 per year, on average, the lowest since November 1959. The 16-64 component of the labor force rose just 291,000 per year over this same period. Again, the Baby Boom demographics don’t bode well for any pickup in coming years. Even if Trump’s policies were implemented eight years ago rather than Obama’s policies, the Great Recession might still have been followed by a weak recovery in the economy and jobs. As I’ve noted before, the unemployment rate during the Obama years lines up remarkably well with the unemployment rate during the Reagan years. Really bad recessions might have a tendency to be followed by weak recoveries.

(3) NILFs. Over the past 10 years through January, the number of people who are not in the labor force (NILFs) rose 1.7 million per year, on average. The number of NILFs who are 65 years old or older rose close to 1.0 million per year, on average, the fastest on record. In January, there were a near-record 94.4 million NILFs. However, only 6.1% of them wanted a job, though they weren’t actively seeking one. That’s still 5.8 million employable people who could make Trump’s employment record greater if many of them get jobs. But that’s a pretty big “if.”

(4) Trump. Trump’s website supports his job-creating claim as follows: “For each 1 percent in added GDP growth, the economy adds 1.2 million jobs. Increasing growth by 1.5 percent would result in 18 million jobs (1.5 million times 1.2 million, multiplied by 10 years) above the projected current law job figures of 7 million, producing a total of 25 million new jobs for the American economy.”

A 9/15 Fact Sheet on Trump’s website states on this same topic: “Lifting unnecessary restrictions on all sources of American energy (such as coal and onshore and offshore oil and gas) will (a) increase GDP by more than $100 billion annually, add over 500,000 new jobs annually, and increase annual wages by more than $30 billion over the next 7 years; (b) increase federal, state, and local tax revenues by almost $6 trillion over 4 decades; and (c) increase total economic activity by more than $20 trillion over the next 40 years.”

Economic theory may run into the brick wall of demographic reality.

Thursday, February 2, 2017

Washington’s Mud Pit

President Donald Trump has certainly hit the ground running. He is moving fast to implement his agenda and to deliver on his campaign promises. However, it isn’t only Democrats who are setting up lots of obstacles and even landmines to slow, if not stop, his momentum. Even the Republicans in Congress may be starting to rain on his parade so that his agenda will get bogged down in the mud that is a key feature of Washington’s treacherous terrain. This might explain why the stock market rally since Election Day through last Wednesday is showing signs of bogging down too.

A 1/27 Reuters article observed: “When President Donald Trump was elected last November, Republican lawmakers enthusiastically joined his call to rewrite the tax code and dismantle Obamacare in the first 100 days of his presidency. But as congressional Republicans gathered for an annual policy retreat in Philadelphia on Wednesday, the 100-day goal morphed into 200 days. As the week wore on, leaders were saying it could take until the end of 2017--or possibly longer--for passage of final legislation. Trump had a different idea when he spoke to lawmakers in Philadelphia, telling them: Enough talk. Time to deliver. The divergent views on the timetable were among many indications of tensions that simmered just below the surface at the three-day Republican retreat.”

Trump’s popularity rating was the lowest of any incoming president in the history of such polling. If it doesn’t improve quickly, Republicans may continue to drag their feet on implementing his controversial agenda. Already, some of them are questioning the need for and the cost of a wall on the border with Mexico, the impact of any new “border tax” that might raise prices to consumers and spark trade retaliation, and the advisability of completely repealing Obamacare.

No wonder the post-election rally has run out of momentum, as investors may be starting to worry that Trump is already running on increasingly muddy ground. Then again, it might be refreshing to focus on other issues that might also be important to the stock market. For example, how about:

(1) Earnings. Forward earnings rose to record highs for the S&P 500/400/600 last week. Among the S&P 500 sectors, forward earnings are at record highs for Health Care, Information Technology, and Utilities. They’ve stalled recently at record highs for Consumer Discretionary, Consumer Staples, Industrials, Materials, and Telecom Services. They are in cyclical recoveries for Energy and Financials.

(2) Commodity prices. The CRB raw industrials stock price index continues its V-shaped recovery since bottoming on November 23, 2015 after falling 27% from April 14, 2014’s high. It is back to the highest readings since October 2014 and only 7% below 2014’s high.

(3) European economy. In the Eurozone, real GDP rose 2.0% (q/q, saar) during Q4-2016, faster than the revised 1.6% expansion seen in the previous quarter, a flash estimate from Eurostat showed yesterday. The Eurozone Economic Sentiment Indicator (ESSI) rose to the highest since April 2011 last month. That’s a good sign for the growth in real GDP on a y/y basis, which is highly correlated with the ESSI.

In Europe, new passenger car registrations in the European Union plus the European Free Trade Association (Iceland, Norway, and Switzerland) rose to a record high of 15.1 million units last year. In the Eurozone, the volume of retail sales excluding motor vehicles edged down in November from October’s record high. This measure of sales volume is up 2.2% y/y, a solid increase.

(4) Consumer confidence. I average the monthly Consumer Sentiment Index and the Consumer Confidence Index to derive the Consumer Optimism Index (COI). In January, it held onto its big gain following Election Day. The COI current conditions index actually edged up to the highest since July 2007, while the COI expectations index moved ever so slightly lower.

Wednesday, January 25, 2017

DJIA 20,000: Counting on Earnings

Today was another happy day for the bull market that started on March 9, 2009, when the DJIA was 6547.05. Today, it crossed 20,000. It closed above 1000 on November 14, 1972, 5000 on November 21, 1995, 10,000 on March 29, 1999, and 15,000 on May 7, 2013. I first joined Wall Street during January 1978 when EF Hutton hired me as an economist. The DJIA is up 2,314% since the start of my career on the Street. It is up 206.5% so far since March 9, 2009. It is up 9.5% since Election Day.

For a change, let’s ignore Washington. Let’s ignore the Republicans and the Democrats. Let’s ignore the White House, Congress, and K Street. That’s what the financial markets were doing for the past eight years. Investors were focusing most of the time on the Fed and the other central banks. Now we are all being forced to participate (in one way or the other, though mostly as observers) in the greatest circus of all times. I guess that is only fitting now that Ringling Brothers is going out of business. Instead it will be Cirque du Trump 24x7 for the next four years.

Of course, over the past eight years, stock market investors also have been focused on earnings, as they always are. While the 7.4% rally in the S&P 500 after Election Day through Wednesday’s record high might have had a lot to do with the results of that day, it helps that the earnings outlook has been improving. In our 8/22 Morning Briefing, I declared that the earnings recession was over, and that it was mostly attributable to the S&P 500 Energy sector as a result of the plunge in oil prices from mid-2014 through early 2016.

Let’s analyze the latest earnings data:

(1) Earnings. On a year-over-year basis, S&P 500 operating earnings, based on Thomson Reuters (TR) data, showed declines from Q3-2015 through Q2-2016. It rose 4.1% during Q3-2016, and probably rose around 6.0% during Q4-2016. Arguably, the earnings recession ended earlier than suggested by the growth rate based on the actual level of operating earnings (TR basis), which bottomed during Q1-2016, declining 11.7% from the previous record high during Q4-2014. It is up 15.8% from that recent bottom through Q3-2016 to a new record high.

(2) Revenues. On a year-over-year basis, S&P 500 revenues declined from Q1-2015 through Q4-2015. It edged up during the first half of 2016, and was up 2.5% y/y during Q3-2016. This too suggests that the earnings recession actually ended in early 2016.

(3) Q4 reporting season. So far this earnings-reporting season, i.e., through the 1/19 week, the blended earnings number (including both reported and estimated figures) shows a gain of 4.7%, up from 4.1% the previous quarter. Joe and I are expecting the traditional upward “hook” in actual earnings relative to expected earnings for the current earnings season, which is why we predict that the actual growth rate will be close to 6.0%.

(4) Forward ho! S&P 500 forward operating earnings per share, which is the time-weighted average of consensus expected earnings for the current and next year, rose to $133.65 during the 1/19 week. That’s a fresh record high and a good leading indicator for actual earnings as long as there is no recession coming over the next 12 months.

The consensus estimate for 2018 has been moving higher in recent weeks, which doesn’t usually happen, as optimistically biased analysts typically lower their distant forecasts as reality approaches. Analysts may be starting to incorporate tax cuts and less regulation into their 2018 estimates. They now expect that 2018 earnings will rise 12.0%, following this year’s gain of 12.3%.

The analysts may also be raising their economic growth expectations, as evidenced by the firming in their 2017 and 2018 estimates for S&P 500 revenues, which are showing gains of 5.8% this year and 4.9% next year. Forward revenues is also rising in record-high territory.