US Economy I: Strong Soft Data. It has been almost a year and a half since the election victory of President Donald Trump on November 8, 2016.
The surprising upset seemed to awaken the economy’s animal spirits. They remain aroused. The soft data, based mostly on surveys, remain strong. On the other hand, the hard data, based on business cycle indicators, remain mixed.
However, the hard data that matter most to the stock market, i.e., earnings, remain bullish. The hard data that are the most important to the Fed and the bond market are dotted with soft patches, which augur for a continuation of the Fed’s gradual normalization of interest rates. Without any further ado, let’s have a closer look first at the hard soft data, then at the mixed hard data:
(1) CEOs’ optimism is flying. Previously, Melissa and I described the mood of corporate managements during the Q4-2017 earnings season as “giddy.” We listened to several earnings conference calls during January and read the transcripts for all 30 DJIA companies’ calls. Managements were elated by the cut in the corporate tax rate at the end of last year. Their elation was confirmed by the Q1-2018 CEO Outlook Index compiled by Business Roundtable. It jumped to 118.6, the highest on the record for this series, which started during Q1-2003 (Fig. 1). It is very highly correlated with the yearly percent change in capital spending in both nominal and real terms.
(2) Small business owners are euphoric. The NFIB Small Business Optimism Index was 107.6 during February (the second-highest reading in the 45-year history of the survey), up from 94.9 during October 2016 (Fig. 2). The net percentage of respondents agreeing that now is a good time to expand jumped from 9.0% during October 2016 to 32.0% during February, the highest in the history of the series, which starts in 1974 (Fig. 3).
(3) Purchasing managers reporting robust growth. The M-PMI rose to 60.8 during February, up from 51.8 during October 2016 and the highest since May 2004 (Fig. 4). This index happens to be highly correlated with the y/y growth rate in S&P 500 revenues per share, which jumped to 9.4% during Q4-2017, the highest since Q3-2011.
(4) Consumer sentiment is upbeat. The Consumer Sentiment Index rose during the first half of March to 102.0, the highest reading since January 2004 (Fig. 5). It was 87.2 during October 2016, just before the election. It was led by a jump in its current conditions component to a record high of 122.8. It was 103.2 just before the election.
The Weekly Consumer Comfort Index (WCCI) has been hovering around 56.5 over the past five weeks (Fig. 6). It’s up from 44.6 at the end of October 2016. It’s the highest since February 2001.
(5) Boom-Bust Barometer is hot. Often in the past, we’ve stir-fried the WCCI with our Boom-Bust Barometer (BBB) to derive our Weekly Leading Index (WLI) (Fig. 7). We derive our BBB as the ratio of the CRB raw industrials spot price index and initial unemployment claims. It rose to a record high in late February. So did our WLI, which has been very highly correlated with the S&P 500 since 2000 (Fig. 8).
(6) Vertical ascent for forward earnings. Industry analysts turned cautious on the outlook for the earnings of the S&P 500/400/600 during late 2014 through mid-2016, as evidenced by the flat-lining of the forward earnings of these three stock market composites (Fig. 9). These three forward earnings series started to move into record territory again during the second half of 2016, reflecting the end of the global energy-led earnings recession and mounting signs of a synchronized global economic upturn. Following the passage of the Tax Cut and Jobs Act at the end of last year through early March, industry analysts scrambled to raise their earnings outlooks for 2018.
US Economy II: Mixed Hard Data. The strength in measures of consumer confidence is undoubtedly attributable to the upbeat tone of the labor market. Initial unemployment claims have recently been the lowest since 1969. The unemployment rate is down to 4.1%. Payroll employment is up 3.1 million since November 2016. On the other hand, retail sales have been surprisingly weak recently.
The GDPNow model estimate for real GDP growth in Q1-2018 was 1.8% on March 16, down from 1.9% on March 14. The latest release notes: “The nowcast of first-quarter real private fixed-investment growth increased from 2.4 percent to 3.3 percent after this morning’s new residential construction release from the U.S. Census Bureau and this morning's industrial production and capacity utilization release from the Federal Reserve Board of Governors. This increase was more than offset by the modest downward revisions to the nowcasts of the contributions of real consumer spending, real net exports, and real inventory investment to first-quarter real GDP growth.”
As Debbie and I have previously observed, the Q1’s real GDP growth consistently has been the weakest of each year’s four quarters since 2010. This quarter may be shaping up to be no exception. Even though the data are seasonally adjusted, this seasonal aberration has been a persistent phenomenon. Some of that seasonality can be observed in the Citigroup Economic Surprise Index, which has tended to weaken during most of the Q1s since 2010 (Fig. 10). Most recently, it peaked at 84.5 on December 22, 2017 and has been hovering around 40 since the end of January. That’s consistent with describing the hard economic indicators as being “mixed.”
US Economy III: Keep on Trucking! In January, the ATA Truck Tonnage Index jumped to yet another record high (Fig. 11). It is up 12.6% since November 2016. That’s an extraordinary ascent. Where are all the trucks going, and what are they carrying? The index is highly correlated with real business inventories (Fig. 12).
It’s unlikely that truck traffic would be at a record high if the inventory building is involuntary. Business sales (which includes manufacturing shipments and distributors’ sales) rose 5.7% y/y during January. That’s a solid pace. This suggests that notwithstanding the recent weakness in retail sales, total final demand remains strong in the US. The problem may be that more of the truck traffic is carrying surging imports.
US Economy IV: Trade Weighing on GDP. So why isn’t the strength in final demand showing up in GDP? The problem is that some of that demand is being met with goods supplied by imports. President Donald Trump and his supply-side economic advisers believe that cutting regulations and tax rates could boost real GDP growth from 2% closer to 4%.
That might be hard to achieve if the trade deficit continues to widen. On a y/y basis, the growth rate of real final sales to domestic purchasers has exceeded the growth rate of real GDP since late 2014 (Fig. 13). That’s because the real trade deficit in goods and services has widened by 77% from $368 billion (saar) during Q4-2013 to $652 billion during Q4-2017 (Fig. 14).
It’s no wonder that the Trump administration is focusing on trade issues. A significant portion of the economic stimulus attributable to the administration’s policies may leak through the trade deficit to benefit other countries. For the stock market, solid global economic growth is bullish no matter how it is derived. It won’t be bullish if the administration imposes protectionist barriers to trade.
Dr. Ed Yardeni is the President of Yardeni Research, Inc., a provider of independent global investment strategy research.
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