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Brace for Bumpy Data

Though upcoming weak data may simply reflect temporary Japanese supply chain disruptions, the market's potential reaction to bad news may be less forgiving.

Bob Johnson, 06/25/2011

The economic news flow this week was light but generally positive. As I warned last week, corporate earnings were not as strong as some had hoped; reports from tech giant Oracle ORCL and Micron Technology MU proved to be disappointing. But more importantly, the European debt situation remained unsettled and weighed on markets all week long. Moody's pending review of bank debt issued by Italian banks seemed to be the latest catalyst for decline.  

On the positive side, strong durable goods orders seemed to suggest that the worst of the manufacturing slowdown may be over. Housing prices also appeared to perk up for the first time in almost a year according the Federal Housing Finance Administration. However, I am braced for next week's data, as personal income and spending data are likely to look weak and the prognosis for auto sales and the purchasing managers' report is not so wonderful, either. While I think a lot of these reports reflect Japanese supply chain disruptions coursing through the system, the market's potential reaction to bad news may be less forgiving.

Durable Goods Orders: Some Light at the End of the Tunnel
Durable goods orders rebounded from a large decline of 2.7% in April to an increase of 1.9% for May. April orders were also revised up from the originally reported decline of 3.6% to a more modest decline of 2.7%. Excluding the volatile airline and auto sectors, core orders still managed to improve by 0.6% compared to a decline of 0.4% in April (revised from negative 1.5%).

Durable goods orders are an important measure of business confidence, much as shopping center spending and auto sales are for consumer confidence. The overall series has been exceptionally volatile lately with two of the last four months up in a big way while the other two registered a meaningful decline. Also, the measure of longer-term business confidence, orders for nondefense capital goods, jumped up a sharp 1.6% following a decline of 0.8% the prior month. The reason that both the overall report and the capital goods portion are so important is that these orders will have to be filled and shipped in the months ahead, providing fuel for economic growth later in the year. The shipment data for capital goods seemed consistent with the theme that business investment will continue to be an important factor in GDP growth for at least another quarter or two.

The durable goods orders report is the first piece of positive forward-looking news that we've had from the manufacturing sector over the past six to eight weeks (although last week's industrial production report wasn't all that bad). Major regional purchasing managers' reports have been anemic for a couple of months; two actually showed a decline compared to the prior month's metrics (New York and Pennsylvania moved into negative territory). The national report showed one of the larger dips in history for May, and based on the regional reports, a quick trip below 50 is certainly a possibility for the June report due next week. Keep in mind that weather and interruptions at Japanese auto plants both in the U.S. and Japan are likely to have distorted this metric beyond recognition in the short run. As these plants come back online, the numbers will begin to look unbelievably good as early as July.

Toyota Makes Big Strides in U.S. Production for the Week Ending June 18
Of the big three Japanese manufacturers in America, Nissan NSANY is almost back to normal in the U.S. Toyota TM continued to bounce along the bottom through the second week of June at less than a third of normal production. Finally, for the week ending June 18, production at Toyota jumped to 80% of normal. Honda HMC is still limping along at 60% of normal, though they have promised to be close to full strength by August.

Gross Domestic Product for the First Quarter Gets a Tiny Boost
Real GDP was revised upward to 1.9% from 1.8%. Lower imports (a subtraction from GDP) and higher inventory adjustments weren't quite offset by lower exports and less construction and government spending. This is the third and final read on the first quarter. About 1.2% of the GDP increase was due to autos, which troubles me more than a little. Autos will subtract at least 0.5% in the second quarter based on my calculations, which could bring us a lot closer to flat line growth than I'd like to see. Fewer Japanese imports may make up some of the huge loss from autos, but nobody is exactly sure how much. The average estimate for the second quarter is now 2.3%, which seems a tad optimistic to me. A range of 0%-2% would not surprise me at all. But the worse the second-quarter numbers are, the better potential third-quarter numbers, which could surpass 4%.

Housing Industry Still Singing the Blues
New and existing home sales remain stuck in the mud, as noted by our lead housing analyst Eric Landry:

This week's home sale data didn't give investors much to cheer about, as existing sales for May were 3.8% below April on a seasonally adjusted annual basis and 15% below the year-ago period, at 4.8 million units. Single-family was down 3.2% sequentially, while condo sales sunk 8%. Inventories, at 3.7 million units, were little changed from April, and months of supply sat at 9.3 months. Sales of new homes at 319,000 annualized units in May were 2% lower than April's SAAR but 13.5% above the tax credit hangover-induced year-ago period. Last summer marked a several-year low in new-home sales, so the annual gain shouldn't be looked at as any kind of an accomplishment. New-home inventory, at a total of 166,000 units, set another near 50-year low in May, as there hasn't been less inventory of new homes in the history of the data set going back to 1963. The only good news is that when demand does return, the industry will benefit from that demand as well as significant restocking of the new-home inventory. Even so, the residential real estate market remains in paralysis today; we think this is due to an extreme lack of confidence on behalf of buyers and lenders. There are very few buyers in a hurry to buy, and buyers brave enough to venture into the market are finding it hard to get financing without a large down payment. Without a change in this dynamic, the market will find it hard to get back on its feet.

Better Pricing News on the Housing Front
With some pretty bleak Case-Shiller data announced earlier this month, one might be surprised that some housing price data have been looking up according to this week's releases. The Federal Housing Finance Administration indicated that home prices increased 0.8% in April following a 0.4% decrease in March. This represents the first increase since May 2010. Over the last year, prices have fallen by 5.7%. Both the monthly and year-over-year data are not uniform across. Yearly data ranged from down 10.9% in the Mountain Region (including Las Vegas and Arizona for starters) to a minuscule 0.7% decrease in the West South Central Region (including Texas, one of the lowest-unemployment states in the nation). The month-to-month data ranged from positive 2.2% in New England to negative 1.3% in the Mountain Region.

Eric Landry also likes to look at real-time listing prices from the MLS, and those numbers are looking up:

In the face of weak sales, it does appear median listing prices are enjoying some modest strength of late, a dynamic that will likely translate into higher Case-Shiller prices over the coming months. If a firming in prices can somehow translate into a jolt of confidence, the market may have a chance to scrape itself off the canvas after a very tough number of years. It will be interesting to see how modestly increasing Case-Shiller indexes are received by the housing market, the media, and investors (Case-Shiller Prices are due out again on Tuesday. Keep in mind that the Case-Shiller numbers are a three-month moving average, so they mathematically can't look as robust as the FFHA numbers).

Consumer Expenditure and Income Numbers Should Look Soft on Monday
Given weak employment data reported a month ago and a negative retail sales report from the Census Bureau, its hard to argue with the consensus forecast of 0.1% income growth and a 0.1% decrease in spending. The poor spending number will be driven primarily by low auto sales in May due to short supply and high prices. It will be interesting to see whether the government will formally break out the effects of autos on the report. The income report will reflect the large slowing in employment growth experienced in May (from 251,000 jobs down to 88,000 jobs).

I am not convinced that May employment is indicative of the strength of the labor market. A huge swing in retail jobs is the key reason for my suspicion. The household survey showed an acceleration in job growth in May, not a deceleration as shown by the poll of business establishments, raising further questions about the May report. An improved layoff report from Challenger Gray and Christmas and strong hiring plans were laid out in a recent Manpower report.

I believe a consumer spending and income report that shows little if any growth in May could be the catalyst that brings in some of those second-quarter GDP forecasts that look a little rich. The potential reductions may provide more ammunition for bears to push the market lower. Remember that most of the potential bad news has already been reported in different venues. Consider these data to be an echo, not new news. There is always the chance that new and previously undisclosed data in the report (dividend income, rents, small business income) could outstrip the negatives that we already know. That would be a pleasant change.

Case-Shiller Home Price Data Should Look Better; Purchasing Manager Data Could Disappoint
As I outlined above, I think the Case-Shiller home price report is likely to surprise with results very close to flat, if not a small increase after months of decline, based on a similar survey already released. Also, as mentioned earlier, the National PMI is due Friday. The regional reports suggest a dip below the critical 50 level is a possibility. Given Toyota's extremely recent ramp up and stronger durable goods orders (that may come too late in the measurement period to have an effect), I wouldn't be too concerned about this one report. The Chicago PMI report from the day before (Thursday) the National Report (Friday) may provide clues about how bad the national report will be.

Auto Sales Still Under the Gun
After several months above the 13 million unit sales level (seasonally adjusted annual rate), sales slumped to a disappointing 11.8 million units in May as low supply and high prices took their toll. As some of the supply problems softened in June, the market believes sales could stage a small rebound in June at 12.2 million units.

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