THE ECONOMY:
Confidence up and down.
Consumer confidence rose to 102.2 in May, much better than the 96.0 expected and the 97.5 reported in April (originally 97.7). Expectations jumped to 92.5 from 86.7 as consumers are looking past the current higher energy prices, always a positive. The age old issue with the consumer is whether this means more than a hill of beans because in most cases the consumer does not seem to act in the same manner as ups and downs in confidence would suggest.
In most cases it does not, but there were some important takeaways from this report. First, confidence remains well above levels that would suggest a slowdown in consumption is coming, i.e. the type of slowdown that would turn into a slowdown in the economy overall. That level is down in the sixties; obviously it is not there. Second, the solid rebound in confidence breaks the string of lower reports that were starting to trend lower. While still holding well above critical levels, the trend was starting to strengthen. This report breaks up that trend. One data point does not totally remove the trend, but this was a solid rebound and goes a long way toward removing any worry that was building up with the lower and lower monthly readings.
Chicago PMI drops closer to 50 and CEO's less optimistic, making the national ISM key, and raises the question why are businesses less optimistic.
Chicago is seen as a harbinger for the national manufacturing number, and its drop to 54.1 from 65.6 (62.0 expected) raised more than a few eyebrows. Yes it was still holding above 50, the demarcation point for expansion and contraction, but fading at a sustained rate toward that key level. That put Chicago on par with the earlier New York and Philadelphia reports earlier in the month and casts doubt on the national ISM report on Wednesday. We note that the national report tends to lag the regional surveys by a month; thus if the national survey takes a dive as well, that would indicate a more nefarious decline.
With respect to the details, they were down across the board. Employment fell to 54.7 from 62.3, the lowest since January. New orders were significantly lower as well, falling to 57.9 from 71.0. On the positive side, prices paid fell to 54.3 from 66.1, a steep drop as well as oil prices continued their slide. With oil back above $51/bbl, it remains to be seen if this trend will remain in place. In the bigger picture, autos played a big role in the decline, but they also had skewed Chicago higher than the other regions in the prior two months. Thus this might simply be more of a reversion back toward the mean the entire country is experiencing.
On top of this report, the CEO Roundtable compiled the views of 160 CEO's from the top companies. The readings were the weakest in 15 months. They were still solid, but they were continuing a weakening trend. 85% still saw sales increasing. 50% were going to increase capital expenditures while 50% were not. 35% saw employment increasing, 35% saw hiring flat, and 30% saw employment declining. These are not bad numbers, just a continuing weakening in the trend of optimism.
The manufacturing sentiments surveys indicate that while the expansion continues the 'soft patch' may stretch out a bit longer. Economic data is definitely mixed even though it is looking stronger on the whole. Manufacturing was a long suffering economic sector during the recession, and if it slips into contraction that will be a harbinger for the rest of the economy.
Business sentiment is lower because of m-o-n-e-y.
Why would sentiment be lower? The cost of money is going up and the availability of money is falling as money supply falls. We have said it before: rates are still low even with the rate hikes that have brought short term funds via the Fed Funds rate to 3%. That is still a big percentage hike in the cost of money, but in historical terms, manageable. What really hurts is the continued decline in money supply. It makes no difference what rates are if the Fed does not make the money available, and it is clearly declining. Moreover, we are hearing from many lenders that the regulators from the Fed are starting to question more and more loans. No restrictions have been implemented as they were in 1999 and 2000, but there are 'suggestions' that lenders should be stricter. Just as with the housing market where the Fed went from an 'all is well' attitude to 'there is a problem here' in less than a month, when it starts making 'suggestions' about how institutions should lend, it is telling them to reign it in.
That kind of change in attitude by regulators always makes businesses nervous. First, they are typically skeptical of regulation in general as it crimps investment. Second, they are very aware of the last time the Fed was in this mode and how the combination of rate hikes, draining money supply, and restrictions on lending collapsed investment in the economy. To this day, despite talk of inflation, a housing bubble, and general health in the economy, we are nowhere near recovery in the job market and in the retirement accounts that were decimated. Thus we view the Fed's heavy handed ways as misplaced. The Fed should be looking for ways to encourage investment in business that will produce those capital assets Greenspan says we so desperately need to fund our futures instead of trying to block growth across the board. It does nothing for social security to blunt investment, yet the Fed is going about slowing the economy down just as it always does, and we can look to predictable results if it goes too far.
Ten year bond falls through 4%.
When the Chicago data hit the 10 year started to rally, and the move brought yields to 3.998% on the close. After bouncing off that level the past 10 sessions and rallying modestly, they have collapsed again. This action is very similar to oil when it fell, rebounded, fell, rebounded a bit more, and then fell again. The 10 year has been looking to take out 4%, and while this move was not the head shot that does it, it is part of the process. Remember, Bill Gross predicted the 10 year in the 3.5% range for at least a few years.
The 10 year continues to price in no inflation and most likely some fear that the Fed is going to go to far in raising rates and drying up the money supply. There is another element that goosed the US bond market the past week and Tuesday, and that is the European votes on the EU constitution. It was no surprise the French were going to vote down the issue, but now the Dutch say they are going to do it as well, and that was good for some flight into the US Treasury market again on Monday.
Thus there are local as well as global factors in the bond's run. Some are calling it 'excess world savings' finding its way into safe US treasuries. While many lament our intake of these funds, it says a lot about the US economy and the stability of our system that keeps attracting funds over other areas in the world. Look at the Chinese stock market; the economy is booming but the stock market is not because no one trusts the rule of law, how real the earnings are, where the money is going, etc. It takes more than growth to attract money.
The Fed is viewing this foreign money as a reason it is not too concerned about the bond market failing to show any response to its short end rate hikes. It does so at its peril. The one thing history shows is that the bond market, even with all of the foreign intrigue, is the best predictor of economic direction. If the Fed persists in its rate hikes and the long end does not respond (and we doubt it will in any manner that holds a move), that will signal trouble for the economy. |
