Morning in Arizona

Morning in Arizona
Rainbows over Canyonlands - Dave Stoker

The Headline Animator

Thursday, March 30, 2017


Financial Review


DOW + 69 = 20728
SPX + 6 = 2368
NAS+ 16 = 5914
RUT + 10 = 1382
10 Y + .03 = 2.42%
OIL + .86 = 50.37
GOLD – 10.90 = 1243.50

We are nearing the end of the month and the first quarter. The Dow Industrial Average is on track for a small loss in the month of March, but after a strong rally in February, the Dow is still looking at year-to-date gains of 4.75%.

The S&P has risen 10.3 percent since the U.S. election. The S&P 500 moved into positive territory for March, up 0.2%, while the Dow remains down 0.4% for the month.

The Nasdaq is up 1.5% in March.

The rapid climb in equities has raised concerns regarding valuations, with the S&P 500 trading at nearly 18 times earnings estimates for the next 12 months against its long-term average of 15 times. The market will be looking at quarterly earnings to see if the lofty valuations can be supported. First-quarter earnings for S&P 500 companies are expected to rise 10.1 percent, per Thomson Reuters I/B/E/S.

Today, the market found a catalyst in the form of slightly stronger GDP numbers. Economic growth slowed less than previously reported in the fourth quarter. Strong consumer spending provided a boost that was partially offset by the largest gain in imports in two years.

Gross domestic product increased at a 2.1 percent annualized rate instead of the previously reported 1.9 percent pace. The economy grew at a 3.5 percent rate in the third quarter. Despite the upward revision to the fourth quarter, the economy grew only 1.6 percent for all of 2016, its worst performance since 2011, after expanding 2.6 percent in 2015.

The government also reported that corporate profits after tax with inventory valuation and capital consumption adjustments increased at an annual rate of 2.3 percent in the fourth quarter after rising at a 6.7 percent pace in the previous three months.

Imports increased at a 9.0 percent rate. That was the biggest rise since the fourth quarter of 2014 and was an upward revision from the 8.5 percent growth pace reported last month. Exports fell more than previously estimated, leaving a trade deficit that subtracted 1.82 percentage point from GDP growth instead of the previously reported 1.70 percentage points.

Robust domestic demand and import growth meant stronger inventory investment than previously estimated. Business investment was revised lower.

Growth in consumer spending, which accounts for more than two-thirds of U.S. economic activity, was revised up to a 3.5 percent rate in the fourth quarter. It was previously reported to have risen at a 3.0 percent rate. Consumer spending is being supported by a tightening labor market. A separate report from the Labor Department on Thursday showed initial claims for state unemployment benefits fell 3,000 to a seasonally adjusted 258,000 for the week ended March 25.

The Atlanta Federal Reserve is forecasting GDP rising at a rate of 1.0 percent in the first quarter. Of course, there is always a chance that first-quarter growth could surprise the doubters.  For all of 2017, the economy is expected to expand by roughly 2 percent; meaning activity is expected to show much stronger growth in the second half.

In other words, it looks a lot like a repeat of 2016. And the forecast for 2018 is in the 2 to 2.5% range. Again, that could change, but it looks a lot like the last 8 years. The sluggish growth rate has been good enough to keep unemployment at 4.7%. And now the Federal Reserve will be looking to raise rates in a slow growth environment, while they may already be behind the curve of the labor market.

And despite the talk about “animal spirits,” corporate America is not investing heavily, at least so far, in new plants and equipment. At the same time, demand in many industries is growing only modestly, while a few sectors like retail chains are having to make painful adaptations to a rapidly evolving consumer landscape.

Government debt and budget deficits are both set to spiral higher in the coming three decades if current patterns hold, per new projections released today by the Congressional Budget Office. The total current debt held by the public of $14.3 trillion is 77 percent of GDP.

The current total debt level of $18.8 trillion is about 101 percent of GDP (the CBO computes debt to GDP based on public debt). The debt-to-GDP ratio would rise to 89 percent in 2027, per current projections. In its new long-term budget outlook, the CBO said debt would reach 150% of gross domestic product in 2047. The report warns, “The prospect of such large and growing debt poses substantial risks for the nation and presents policymakers with significant challenges.”

In addition to debts, the CBO also said the budget deficit will more than triple from the projected 2.9 percent of GDP in 2017 to 9.8 percent in 2047. The deficit at the end of fiscal 2016 stood at $587 billion.

The report said, “Large and growing federal debt over the coming decades would hurt the economy and constrain future budget policy,” in other words, bad news for growth prospects. Rising interest rates could pose a big problem for the increasing debt burden. The Fed has kept rates low since the financial crisis struck in 2008 but is on track to gradually hike rates over the coming year.

Tomorrow, the we’ll get more information on the personal consumption expenditures inflation data (that’s the Fed’s preferred gauge of inflation); the PCE is expected to come in at 2 percent year-over-year (that’s the Fed’s target for inflation).

The market expectations for Fed rate hikes have bounced around, but many Fed watchers now see two more rate hikes for 2017, as the Fed has forecast. If people start looking at inflation being already over target, there maybe a reconsideration of expectations for the Fed.

It has been a busy week for Fed jawboning and today, Cleveland Fed President Loretta Mester forecast GDP growth above 2% in 2017, and sees a “sustained return” to 2% inflation “over the next year or so.” Mester also expects the Fed to raise interest rates again this year, but didn’t say how many times might be likely.

Dallas Fed President Rob Kaplan says the biggest risk facing the economy is… Washington. Kaplan said he was worried about policy, such as on trade or healthcare, that would cause consumers to pull back. For instance, seniors may curtail spending if they see they may have to pay more for their health care.

Kaplan said he was also worried actions to roll back trade openness might cause U.S. jobs to be lost to Asia, especially if companies must supply chains and logistics that have helped them become productive. Kaplan defended the existing U.S. trade relationship with Mexico, saying it has improved U.S. competitiveness and added jobs.

Kaplan said Congress could also do positive things like cutting red tape and boosting spending on infrastructure. Corporate tax reform, if done right, might boost investment. The Dallas Fed president, who is a voting member of the Fed’s policy committee this year, said three interest rate hikes in 2017 is his “base case.”

William Dudley, the president of the New York Fed delivered a speech in Florida today, said the federal funds rate is in a “still unusually low” range of 0.75%-1%, and “In such circumstances, it seems appropriate to scale back monetary policy accommodation gradually.” Dudley said, “I don’t think we’re removing the punch bowl yet. We’re just adding a bit more fruit juice.”

The oil market might be looking at a supply crunch as producers cut spending on major projects to focus on short-term low-cost shale output in the US. After jumping 20 percent in the weeks following the decision by OPEC and 11 allies to curtail output to end a three-year surplus, prices have slipped as US shale producers fill the gap.

With current and future prices depressed, spending decisions on major projects have been delayed.  Oil companies are reviving investment after a two-year rout, easing but not eliminating the risk of a future supply crunch. Investment will likely increase this year after back-to-back declines of about 25 percent slashed global investment to $433 billion in 2016, per the IEA.

US producers are leading the spending revival, and will contribute most of the growth in supplies outside OPEC through to 2022. Still, a lot depends on price stability; stable prices at current levels or slightly higher might find more willing investors.

Gasoline prices could see a significant springtime jump of 20 to 45 cents per gallon, pushing retail pump prices to their highest level since June 2015, per energy analysis at Oil Price Information Service. The factors behind the increase: anticipated higher crude prices, higher demand from US drivers and a higher level of gasoline exports.

Macro factors support higher gasoline prices, include: high employment, consumer purchases of SUVs instead of more fuel-efficient cars and strong consumer confidence, which jumped to a 16-year high this month. Global oil supplies appear to be rebalancing and demand for crude could soon outstrip supply, despite the huge amount of US oil in storage.

That should help prices, but so should demand for gasoline, which usually rises by about 100,000 barrels a day in April, though it fell last year. The forecast calls for gas prices to rise to around $2.50 to $2.75 a gallon, with a few states looking at $3 gas. According to AAA, the national average for unleaded gasoline as of today, is $2.30 per gallon.

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