It was a mixed week among economic indicators. Among those giving optimism were GDP for the 3rd quarter, showing gains to 3.1%; higher after tax corporate profits, up 17.9% year-over-year.
-Frank James, founder, James Investment Research, Inc.
Stock Market Analysis
Conclusions: Stock indices rose throughout the week aside from Friday, rising as much as 3% for small cap stocks. Among the sectors, prices generally rose except for consumer staples, health care, and telecommunication services. Commodities were mixed to lower, the losses occurring mostly in precious metals and industrial metals...
It was a mixed week among economic indicators. Among those giving optimism were GDP for the 3rd quarter, showing gains to 3.1%; higher after tax corporate profits, up 17.9% year-over-year. The Chicago Fed National Activity Index rose to a positive 0.105 reading. The ECRI index rose. Durable goods orders were ahead 2.9% and personal income rose as did real personal spending, from October’ -0.2% to 0.6% in November. Vehicle sales rose to a level of about 15.7 million annually, and best of all non-defense capital goods orders rose 2.7%. This series is often thought of as a proxy for business investment and is correlated with employment.
Against these positive readings we have reports of decreased savings, lower readings for the Kansas City FED index, lower leading economic indicators, and the accurate Coincident/Lagging index which declined to 89.3
We haven’t solved the problems of the country but, as we mentioned before, in America the consumer debt burden is lessening, the natural tendency of Americans is to consume, and business people desire to grow. If Washington policies are encouraging, growth will be faster. But even without the encouragement, consumers will consume and business firms will aim for growth.
Part of the long term optimism we feel lies in the demand for new plants which will permit firms to take advantage of newly found cheap energy. For example, Orascom Construction, the largest company in Egypt, plans to spend $1.4 billion setting up a fertilizer plant in Iowa, to be near the source of natural gas. Dow Chemical will spend over $2 billion on a plant in Texas to produce plastics, once again exploiting cheap natural gas into plastics. In the process, 2,000 construction jobs are to be created before the plant is completed, according to the Wall Street Journal.
The majority of the economic reports are positive, suggesting a renewed period of moderate growth, not an immediate drop into a contraction early in the year. Later in the year the drag of higher taxes, more regulations, faltering export markets and anti-business policies from Washington will be felt. It is likely that some of today’s increased activity may be deliberately taking sales away from next year, thereby avoiding 2013’s tax and regulatory bump. But for now, we follow our leading intermediate term stock indicators which remain positive even in the face of likely short term volatility.
F James, Ph.D.
Bond Market Analysis
Conclusions: The FED’s QE-4 program has been a lump of coal this Christmas season for bond investors. Yields on the 10-Year Treasury now stand at 1.77%.
This is not a surprise to students of recent history. The QE programs, which ostensibly are in place to keep interest rates low, have had the opposite effect. Falling yields have occurred but only after the QE programs come to an end. With the FED announcing they are going to stay in the QE business until unemployment falls to a “reasonable” level this may take a while.
Bonds continue to move counter to the economy. In the short run there are some encouraging economic signs. Regional Fed reports now show new orders in manufacturing are expanding where just a month ago they were showing contraction.
Further, capital goods excluding defense and air are on the rise. These are goods often used to make other goods and can be a pre-cursor to rising economic activity. Last month we saw a healthy jump of 2.7%.
However, there are some continued longer-term troubles for the economy which may benefit bond holders. Small business owners are at historic pessimistic levels on the future of the economy. This is ominous as it is the small business community that offers almost half of all our jobs. Additionally, the coincident-to-lagging economic index which provides surprisingly accurate insights into the future of the economy has fallen to its lowest level since January 2010.
In the short run we will likely see continued volatility especially in light of the Washington battle over the fiscal cliff. However these market palpitations will eventually be settled. The ramifications, however, will last longer. It is estimated that the regulatory burden in 2013 will cost around $1.8 trillion. This is too heavy a burden and will dampen our nation’s economic output.
Presently our indicators are continuing to deteriorate. While we are not looking to abandon bonds, it does make sense to become more conservative for over-aggressive accounts.
David W. James, CFA