This week the Fed meets again and the general consensus seems to be a continued reduction of asset purchases but beyond that is grey. The cycle is pretty standard, when the Fed is easing or in an easy monetary policy they usher in a boom. When the Fed tightens, it ultimately causes a bust. Without robust growth in the forecast, the Fed may take as much time as they want before making any substantial tightening moves, in my opinion. Onto Baghdad and Ukraine, I don’t think anyone expects a quick resolution. Gas prices may be impacted and prices above four dollars per gallon have proven to slow consumer spending and correspondingly, the overall economy. Thus, at present, I would not presume the Fed would indicate any additional tightening or take any action above what is expected. Sitting back and watching the World Cup might be the best course of action for now.
Some fears are clearly present with rising food prices or potential inflationary trends. I have certainly seen milk prices appreciate in recent years as my three sons easily drink a gallon a day between them. I am told food shocks tend to be short-lived and may at times reflect meteorological rather than monetary phenomena. Recently food prices have receded. This doesn’t seem to be the case with my milk budget. Overall, core CPI as last reported rose to a thirteen month high of 1.8% year over year compared with 1.6% in the first quarter. The headline may seem dramatic, “Thirteen Month High!” but the increase itself is not eye opening. I think most of us can absorb that amount of increase as long as we are not taking wage cuts.
The U.S. consumer balance sheet is better than it has been in recent years. However, I don’t think there is too much money chasing too few goods as wage inflation is yet to materialize. Paying down debt doesn’t eliminate it and in the case of fixed rate mortgages, it doesn’t even provide a monthly break in the payment. Most of us still have a mortgage and credit card debt, not to mention college bills. If we aren’t seeing wage increases, there is not much room for increased spending. Personal consumption expenditures fell .1% in April although personal income rose .3%. Maybe we are still paying down that debt or a college loan? Educational debt has risen more quickly since the recession than any other form of household debt and now exceeds all other categories of debt except mortgages.
Home prices have risen again with the last US Case-Shiller report showing the index up .9% month over month. New home sales increase in April at a 6.4% clip. These combined numbers help most of us feel a bit more comfortable about spending. May Consumer Confidence was unchanged at 83. Housing starts jumped 13.2% to 1.072 million on well above expectations of 980,000. Breaking down the pieces we see the largest increase was 40% in the multifamily building. Single family starts were only up .8% month over month and building permits rose just .3%. There seems to be a common thread running through most of the economic data. It’s good but it isn’t overly good.
Before we put a break on this bull market we need to see a few historical signs of a market top. Simply put, the numbers need to be much better. These numbers would include a big pick-up in M&A and IPO activity, rising real interest rates, heavy inflows into equity market funds, weakening upward earnings revisions, etc. These signs simply aren’t there to the degree we would expect at or near a market top.
One item bolstering the market has been sturdy labor gains. May non-farm payrolls rose 216k. Rail freight activity has also rebounded strongly from the recent weather related lows. Low inflation and solid employment growth numbers are paving the way for higher P/E’s. Is there a need for the Fed to slow the economy, the stock market or to thwart inflation? I am not a believer that we have seen any “irrational exuberance”. The slow growth environment we are currently experiencing could simply be part of a longer term trend. But for now, let’s watch the World Cup!
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