In this holiday-shortened week, markets continued to fixate on news out of the Federal Reserve. Last week the markets rallied based on a Ben Bernanke speech suggesting that the economy was not out of the woods yet and that some type of monetary easing remained on the table if things worsened, according to the concluding paragraphs of a lengthy speech. This week, markets collapsed on the release of the minutes from the Federal Reserve Open Market Committee, suggesting the economy was stronger than the Fed had anticipated. The Fed stuck to its language of low rates until 2014, but there certainly were no hints that more quantitative easing was just around the corner.
Interestingly, the minutes released this week were from three weeks ago and predate Bernanke's speech of early last week. In any case, the market seems deathly afraid of any tightening and the higher interest rates that such a policy engenders. As an economist, I would much prefer a stronger economy to yet another government program. Somewhere, in this cycle, we just have to break the attitude that we require the government to save us. We just need them to stand out of the way so we can save ourselves.
Right now the data is perfectly clear, and the economy is moving more sprightly and most likely doesn't need any further stimulus, based on the facts in front of us today. And despite the reaction of the market, a strong economy is good thing--higher rates or not. My guess is the economy is picking up steam and will be quite a bit stronger a year from now, and interest rates will be up, too, maybe even a lot.
Those higher rates won't be enough to kill a recovery. Rates go up every recovery, that's the deal. However, higher rates are not harmless for financial and commodity markets. Higher rates, through a discounting mechanism, are likely to hurt commodity markets and bond markets badly. Higher rates may or may not hurt stocks, depending on if rates go up faster than corporate earnings. Shortly, we will be able to tell if the prices of a lot of assets are up because of improving fundamentals, or just speculation. That answer has been difficult to discern in a world with basically free money and governments backstopping every drop in asset prices with new programs every time asset prices fall, even a little.
Up until Thursday, the economic news continued to show strength (because of the holidays, my publishing deadline was Thursday, prior to the all-important jobs report on Friday. Please see our job analysis video on Morningstar.com for more details.) Monthly retail sales, auto sales, factory orders, and the purchasing managers' reports on manufacturing all looked positive. Initial unemployment claims and the weekly retail sales report also showed additional strength. Construction spending and the ISM reports on services were the only data that weren't quite up to snuff, but nothing particularly worrisome popped up in either of those reports.
Strong Auto Sales a Key Indicator of Consumer ConfidenceMarch auto sales went out like a lion with seasonally adjusted sales of 14.4 million units, the third month in a row with numbers exceeding 14 million autos. A perfect storm of improving employment, easier credit, aging fleets, and a desire to own more fuel-efficient vehicles is driving sales up at an impressive rate. Oh, and did I mention the weather has been great, too? As I surmised last week, auto analysts of all stripes are now scrambling to increase their sales forecasts for 2012. Just as examples, AutoNation(AN) CEO Michael Jackson raised his forecast from 13.5 million units for 2012 to 14.5 million units, and an analyst at TrueCar.com moved up his forecast as well. That would be the highest annual rate since 2007 when sales hit 16.3 million units, and is still well off the low of 10.5 million units for 2009. One of the potential economic surprises for 2012 that I mentioned in a December 2011 video report was strong auto sales, and that now appears to be well on its way to reality.
Powerful sales growth should mean more auto production and employment in the months ahead. Some firms are now running full out. Hyundai is finding itself unable to keep up with demand, with an executive noting that it is "pretty much tapped out."
I am positive that strong auto production is an important contributor to a lot of U.S. manufacturing data, ranging from new orders, industrial production, and especially the ISM purchasing manager reports.
As much as I have enjoyed watching steadily increasing retail sales, viewing consumers digging even deeper into their wallets to spend on autos is even more gratifying. Spending on an item costing in excess of $30,000, on average, indicates increased consumer confidence in the economy, and especially the job market.
Anecdotally, I am seeing reports that a lot of the cars that are being traded in are real clunkers. Many trade-ins have in excess of 200,000 miles on them, and most dealer trade-ins lately are being carted off to auction lots instead of being resold by the dealership, because of the age and poor condition. This will tend to keep the prices of late-model used cars at sky-high levels, which in turn will encourage even more new-car sales.
Retail Sales Power Ahead in March; Standby for a Possible April DeclineOverall, the International Council of Shopping Centers reported a year-over-year same-store sales growth rate of 4.1%, matching the gains of February and just about equaling the 4.6% average for all of 2011. The number was right in the middle of the council's 3%-5% estimated range. Most categories showed nice gains with both apparel and department stores showing an improved growth rate. Wholesale clubs looked just a little weaker compared with gains in the prior month, but still managed to show decent growth. Warm weather and an earlier Easter probably helped the numbers along some. By comparison, April 2012 will be lucky to post any year-over-year improvement as April 2011 was one of the very best months of the entire year, growing 9%, almost double the average for the full year. Higher gas prices, more normal weather, and an earlier Easter are also likely to weigh on the April numbers, too. So, no fair panicking next month when the numbers look bleak.
The weekly numbers also continue to show accelerating year-over-year improvement, with my moving average now approaching 3% again. The latest, single-point, weekly number was up over 4%, but that was with a little help from Easter/Passover shopping. Like the monthly numbers, I suspect these readings may back off a bit toward the end of April, too, as we pass the Easter/Passover season for 2012. In other words, next week's data should look great and then the rest of April should look a little soft.
Purchasing Managers' Manufacturing Report Looking UpThe ISM Purchasing Managers Report surprised analysts on the upside, improving from 52.4 to 53.4. No boom or bust here. Everyone, including me, thought the index was likely to show a decline based on a string of negative surprises out of both Europe and Asia.
For some perspective, over the last 12 months the index high was 59.7, the low 51.4, and the average 53.6. Furthermore, a lot of real world companies had reported slowing in both China and Europe. However, I surmise that a rebounding U.S. auto industry and a perky U.S. consumer combined to drive the U.S. metric defiantly upward. Sub-indexes of current production (increasing from 55.3 to 58.3) and employment (increasing from 53.2 to 56.1) were particularly robust. However, the export sector did take a tumble from 59.5 to 54.0 as a weakening China begins to pinch some exporters (the export index is for information only and is not included in the calculation of the index.) By sector, 15 of the 18 industries surveyed were in growth mode with only computers and chemical exhibiting contraction-like readings.
Service Sector PMI Backs Off Highs; No Need to PanicSome of the data on the all-important services sector have been showing signs of improvement. However, March's ISM Services reading backed off from its stunningly strong February, declining from 57.3 to 56.0. Again, a figure this far above 50 indicates a powerful growth pattern. Over the past 12 months, the high was February's 57.3, the low was 52.6 in September, with an average of 54.2. So the squiggle watchers are worried about the monthly decline and fail to note that this is still the third-best reading of the last 12 months. Furthermore, it is not that unusual for the services sector to pause a bit when auto sales are powering ahead. Auto spending temporarily takes away both cash and time needed to make non-auto-related purchases.
Looking Ahead, Prices and Trade Deficit on the Boards Next WeekThe biggest news next week is probably the consumer price index, to be announced on Friday. Last month prices increased a hefty 0.4% based on rising oil and gas prices. The year-over-year data was a less worrisome 2.9%. My expectations are for a little slowing of the inflation rate to 0.3% for March, which would pull the year-over-year rate down to 2.8%. Oil prices should moderate a little in March, and food prices should remain contained. I am still hoping that the rate will fall into the 2.0%-2.5% range by the end of the year. In any case, it looks as if year-over-year prices will remain well under the 4% rate that would kill a recovery.
I also will be closely watching the Producer Price Index for any signs of commodity price pressures that might show up in consumer prices in the months ahead. In February, producer prices matched the Consumer Price Index with a 0.4% increase.
As the U.S. economy has picked up steam relative to the rest of the world, the trade balance has ballooned for several months in a row with the latest reading indicating a $52.6 billion deficit, up from $47.6 billion for January 2011 and far above the $43 billion level that we hit in October. More iPads will likely hurt the February report (though March may be even more affected) while lower oil and gas imports may prove helpful to the report. Recent PMI data suggests that exports are probably due for some slowing somewhere in the months ahead, which may compound the trade deficit. Unfortunately, it looks as if trade will be a net detractor from GDP in the months ahead, which is typical at this stage of an economic recovery.
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