Posts tagged ‘recovery’
It is almost four months since Donald Trump won the US presidency but the shockwaves from his victory still reverberate. Coverage of supposed scandals, protests and presidential Tweets have continued to abound. Those who were delighted by November’s result, so polling suggests, remain so; those who reverted to hysteria continue their frenzy. Amid all the drama it is perhaps an odd expression to pick, but: Amercian politics has found an equilibrium.
Assumptions about the US economy have also become entrenched. It has long been obvious that a Trump presidency would be inflationary and the bond market reacted to the result accordingly: on the day of the election the ten-year Treasury yielded 1.85%, but by the end of November had hit 2.4%. It has stayed firmly in a range of 2.3%-2.6% ever since. The dollar likewise strengthened sharply after the election and has comfortably held its range against other major currencies. Eurodollar rates moved from pricing in two Fed hikes by the end of this year to pricing in three, and have held that view right up to the present.
While American politics has become energized, however – by the ambition of the new incumbent and the vitriol of his critics – financial opinion has become complacent. While markets and observers have in many cases settled on a static view, the ground since the election has shifted. Look away from fixed income and the currency, and towards risk markets and the data and this is easily clarified.
The US stock market found a secure range after the election, but only for a time. Last month it smashed it. From meandering around the 2,250 level throughout December-January the S&P 500 broke 2,300 in early February and 2,400 less than a month later. The index has now risen by more than 6% since the beginning of the year, comfortably beating other major bourses around the world.
It is not just the stock market that is optimistic, and setting new records. Consumer confidence hit a new high this week, eclipsing the levels reached prior to the credit crunch and threatening to visit territory last occupied during the go-go boom of the later 1990s. This is of a picture with earlier data on retail sales, showing the fastest annual rate of growth (+5.6% in January) since the early stages of the recovery in 2010-11, and buoyant numbers on existing home sales, which have reached a pitch last seen before the credit crunch in 2007. (Bear in mind that mortgage costs have actually been increasing at the same time, pushed up by higher long-term interest rates.)
Industrial indicators have strengthened too. Purchasing manager activity surveys out this week for both manufacturing and service sectors continued their sharp rise. The rotary rig count released last Friday showed that US oil production has continued to recover even though the price of crude has been no better than stable since December. Again, this is consistent with earlier data such as the NFIB survey of smaller firms and the “Philly Fed” report on the national outlook for business, both of which have been rocketing up, in the latter case to a 33-year high.
If one tries very hard to find them there are more equivocal releases. Monthly variability on jobs data, for instance, has been weak in some instances; then again, the broader context is one of effectively full employment, and short-term moves from 4.6% to 4.7% in the headline jobless rate are neither here nor there.
More seriously, while vague expectations of higher inflation have been priced in since November, underlying price indicators have started to move. Import price inflation, which had been negative since mid-2014, flattened out to +0.2% in election month and has since hit +3.7% (year to January). The price components of PMI surveys have also risen. Public statements from various Fed presidents and board governors has been preparing markets for a hike this month which leaves ample scope for those three rises this year, and more.
Put all the pieces together and it seems more and more obvious that there is no longer any broad backdrop of bad economic news, whatever one’s views of American politics. The credit crunch hit housing and the banking sector – all recovered. The oil price collapse hit the shale business – recovering nicely. A strong dollar dampened activity – that effect has fallen away.
On the other hand, sentiment and output indicators are on the up. The economy is at full employment. The core rate of CPI inflation has already been running above 2% for more than a year and in January posted its fastest monthly increase since 2006.
The US economy is catching fire. This will make a novel change from the sclerotic pace of recovery we have seen there to date. The question is: are markets properly discounting the eventual need to put the fire out?
This week saw headlines appear about the possibility of another debt crisis in Greece. A multi-billion loan repayment to the ECB is due this summer; the European Commission and the IMF – the other two members of the “troika” governing the bailout arrangement – are divided on the scale of deficit reduction required to allow funds to be released; and in the meantime the country has just gone out on a general strike today in protest at any further “austerity”.
It feels, rather sadly, just like old times.
Yet things have changed in Greece since the pandemonium over her original bailout and debt restructuring. The governing leftist coalition, Syriza, has learned through bitter experience that it really does have no option but to comply with its creditors’ requests. And while books will doubtless continue to be written on the fiscal consolidation undergone by western countries since the Great Recession it is undeniable that Greece has been getting on with the job: the budget deficit there, as a proportion of GDP, has been falling from its 2009 peak of -15.2% at almost twice the pace at which it had grown during the course of Greece’s eurozone membership up to that point. This has had the effect of containing the national debt to GDP ratio, which while eye-wateringly high (177% for 2015) has fallen since 2014 despite the suffering brought about as a result of the Greek government’s hubris a year ago. Indeed, take out the effect of the debt restructuring in 2012 and last year’s fall in this ratio was the first since 2007.
There were also tentative signs of recuperation on the broader economic front too. The European Commission’s spring economic forecast was published on Tuesday and the expected contraction in Greek GDP this year was revised down from -0.7% to -0.3%. (Growth of +2.7% is projected for 2017.) The slow turnaround in employment might have halted for now, stuck between 24%-25% over the nine months to January, but with growth beginning to return again this should continue to tick down – and remains below the peak of 28% reached three years ago.
In the meantime, bond markets in Greece and elsewhere on the eurozone periphery are not showing any sign of panic. Ten year Greek government paper is trading down towards its lows for the year to date (just over 8% at present), well short of the over 11% reached during February’s market-wide funk. Italian and Spanish bonds have been priced around the 1.5% mark in recent weeks, just like ten year gilts.
It is worth reflecting that five short years ago – when many respected commentators were confidently predicting the demise of the euro – this was unthinkable. Greece might have been in the headlines again but there is absolutely no contagion in evidence today. Today, markets are not even bothering to try taking on Mr Draghi and his “bazooka”.
It is also worth reflecting that economic growth in the eurozone as a whole is projected at +1.6% this year and +1.7% next – a breakneck pace compared to the average rate of +0.9% over the last 15 years. And talking of headlines, it drew some attention last week when data emerged to show that the zone’s GDP had finally surpassed its pre-Great Recession peak in real terms. Numbers out last month showed its deficit falling as a percentage of GDP for the sixth consecutive year in 2015 to -2.1%, and confirmed that total debt to GDP peaked a year earlier. The unemployment rate might already have dropped back below 10% this month for the first time since April 2011.
There are political risks ahead for Europe but to say that the eurozone as a whole has moved on from the debt crisis is beginning to look like an understatement. It is to be hoped that Greece manages to continue her recuperation. If she does so the “European debt crisis” will soon be history.
Since the summer of 2014 the economic landscape has changed in ways which ought to have brought joy to consumers in various parts of the world. The oil price has collapsed: good news for significant net importers like the USA. There, as in Britain too, job growth has brought the country to near-full employment. In the UK last year we saw positive, sustained growth in real wages for the first time since the Great Recession. In Europe and Japan, which have lagged those other economies in growth terms, central banks have tried to oil the wheels with rate cuts and the expansion of unconventional monetary measures.
Yet this week there were headlines in Britain about the weakness of consumer behaviour. It looked a running certainty earlier this year that the market panic was overdone. But are there signs showing here of strength for the bear case after all?
Looking at the UK first of all: no, not really. Consumer confidence reached 15-year highs last year, and while the survey measure has lost some steam into 2016 it remains above the running average over the year before that. Scrabbling around for negatives, the rate at which new car registrations increased fell to +6.5% in 2015 from +8.6% previously. This is hardly disastrous. And broad retail sales growth across all sectors averaged +4.5%, an 11-year high. The GDP print for Q4 2015 put the annual increase in household expenditure at +2.7%, up a little on 2014 and in line with long run averages. And while readers will know this blog is ambivalent on the subject of housing itself at present, mortgage approvals staged a recovery last year too after falling away in 2014 and that pickup has continued since year end.
The picture is a little cloudier across the Atlantic, but again, far from catastrophic. The personal consumption component of GDP for Q4 grew by +2.7% on the year – also in line with long term averages – though in this instance down from +3.2% in Q4 2014. Retail sales growth has fallen more obviously too, to a 12-month running average of +2.7% to March of this year down from +4.1% across calendar 2014. What is equally interesting, however, is that auto sales over the same period averaged 17.4m, up by a full 1m on 2014 and running at a 15-year high. Existing home sales, too, quickened in pace to the highest level since the credit crunch. Perhaps this is a sign that the net impact on consumption from oil has been disappointing, but that credit expansion has fueled asset purchases instead (a supposition reinforced by a rise in the level of student debt per capita). One can be ambivalent about this again, of course – but it is expansionary economic activity driven by consumer behaviour.
At the other end of the growth spectrum, Japan has had a terrible time of it in recent quarters. At the same time, recovery from yet another period of economic contraction has seen the downturn in household consumption as listed in the GDP figures abate, to a year-on-year pace of -1.3% for Q4 2015 as against -2.0% for Q4 2014. Car sales growth as well as broad retail sales growth has been flat; nationwide housing starts have risen measurably while condominium sales in Tokyo have declined again. So a more mixed picture here, but one which has not been declining any more than it has been showing signs of vibrancy overall.
Finally, Europe has also suffered something of a lost decade, having been through a double-dip recession which the US and UK were spared. Yet here the strength of the consumer has actually been most noticeable. The running 12-month average pace of retail sales growth is stronger now than it has been at any time since 2001. The household consumption component of eurozone GDP rose to an annual +1.7% in 2015 from 0.8% a year earlier, and sits well above the average of +1.1% seen since the zone began life in 2000. Data on building permits and mortgages outstanding show a marked rise over the last year, and passenger car registrations have been rising at a running average of +9.6% over the last twelve months up from +3.5% during 2014. It is most obvious to attribute stronger consumer demand here to cheap energy – as the eurozone is the biggest net oil importer by some distance, this is after all the most obvious place to look. (We should also note, however, that the unemployment rate has begun to fall at a faster pace in recent quarters too.)
For growth investors, growth rates have the constant potential to disappoint. These remain nervous, and volatile times. But if we take a good look at the available data there is nothing to suggest that developed-world consumption has done anything more than fail to respond to the theoretically benign tailwinds of cheap oil and monetary expansion in the way that some might have hoped. This is not the same thing as failing to respond at all.
The FTSE 100 index hit a new high only a few days ago, closing above 7100 for the first time on Monday. Risk assets have generally had a strong year. There has not even been any visible excitement over the prospect of a secessionist wipeout in Scotland or any of the other shocks which have been postulated by Westminster pundits in the run up to the election next week. But tensions rose yesterday when the US GDP print for Q1 came out almost flat against expectations for a lacklustre but positive +1%. Markets took the number badly. Was it a sign that the global economic motor is slowing – yet again? Has the pricing of risk got ahead of itself?
There have undeniably been signs of pressure on the US. One agent of the weak growth number was a decline in net exports: by the end of March the dollar had strengthened by more than 20% on a trade weighted basis over a period of nine months. Currency strength was expected to weigh on corporate earnings too. As earnings season opened earlier in the month forecasts were for a 6% drop in EPS for the S&P 500 index relative to Q1 2014. And it is not just the US of course. China has come under scrutiny for growth outcomes well below the 9% averaged by the economy over the past 20 years. Towards the middle of the month data for retail sales and industrial production disappointed the market consensus, and there are signs that the manufacturing sector has fallen back into slight contraction.
After the run markets have had so far and the experience of most of the last few years it is perhaps natural to expect a period of retrenchment, if not a modest sell off, over the next little while. If the economy is indeed under pressure then this could catalyse such an event as well as justifying it. The picture is more mixed than it might appear, however. From the US we had stronger than anticipated employment data out only this afternoon, with initial jobless claims down to 262,000 – within reach of the previous low of 259,000 recorded in April 2000. And corporate earnings have not collapsed as feared: with two thirds of the index’s members now having reported, S&P 500 EPS are up by 3% over the previous year and the forecast for the whole index this season has come up to -1%. In China too, foreign investment growth has continued its solid run, service sector activity has accelerated and some progress has been made on structural reform (an area which is often overlooked).
Furthermore, the world’s glass is half full as well as half empty. Given the size of its markets, power of its central bank and global economic influence it is inevitable that the US should occupy much of our thoughts. While the titan across the Atlantic has been struggling a little, however, the weary colossus of Europe has begun to show improving signs of life. Similarly, while the growth rate of the world’s most populous country has fallen back it has been overtaken by stronger than expected economic expansion in the second most populous: India, where GDP growth for 2015 was projected to reach 5.5% at the beginning of the year is now forecast to see 7.4% (using Bloomberg consensus data). This speaks to the continued variability of outcomes identified as a market theme by this blog for the current calendar year, and it should also make us wary of interpreting particular data as evidence of general gloom.
Before leaving the subject of growth behind it is worth looking at the behaviour of the oil price over recent weeks. The collapse in crude was the most significant market event of the last few months of 2014. It generated pronounced volatility in equity markets and its disinflationary impact thrust bond markets higher – especially in Europe, where yields have reached record lows. The price stabilized over Q1 (a cornerstone of the rallies we have seen). Indeed it now appears to have bottomed, with both the Brent and West Texas Intermediate futures contracts up over 20% this month. This has had effects which few might have predicted back in December, such as helping the Russian stock market become one of the world’s top performers over the year to date.
It also means a bottom for oil-driven disinflation, though it is likely to be a few months before this washes through to annual CPI numbers. At the same time, that US labour market data reminds us that underlying pricing pressures will have been gathering strength. Only this morning the Employment Cost Index rose by its highest annual rate – 2.6% – since 2008. Looking forward, it is perhaps here that we might find genuine reason for concern on the macro front, and another source of variability between markets as the year plays out.
Market chat on the subject of the eurozone has tended to be rather downbeat over the last few years. Some observers have focused on its benighted wrangling over sovereign debt; others, more recently, on the supposed millstone of deflation. And there have of course been those who have questioned the zone’s very future. Narrative gloom set in well before the double dip recession’s second leg, persisted throughout it (Q4 2011 – Q1 2013) and has continued since. Today, however, the fundamentals are refusing to play ball even more stubbornly than they usually can, when the mood takes them.
Earlier this month we saw the ECB revise its growth forecast for 2015 up from 1.0% to 1.5%. Just this week, consumer confidence in the eurozone hit its highest level since the short-lived spike up into July 2007. And the composite output indicator showed the strongest level of growth since May 2011, before the market crash and pandemonium which dominated the second half of that year.
There are three major reasons for this.
- The euro has depreciated. It has fallen by over 20% against the dollar over the last nine months (from 1.365 to 1.088) and more modestly against sterling and the yen also (-8.7% and -6.5%).
- This real world monetary easing has been matched by the ECB’s first foray into quantitative easing. Dubious though the policy’s concept and effects may be, markets have tended to approve of this.
- The eurozone collectively is the world’s largest net importer of crude oil. Though the euro has got cheaper, oil has got cheaper still: the near Brent crude future is 36% lower in euro terms today than it was nine months ago.
Against this background the strong performance of European equity markets versus their developed-world peers is understandable. (The Stoxx 50 is up by 17% so far this year as against 11% for the Nikkei, 4% for the FTSE 100 and zero for the S&P.) The question is: can it last?
Disaster notwithstanding, the answer might just be “yes”.
The benign effects of cheap oil on the US as another significant net importer are offset by fears over monetary tightening in the face of a galloping labour market. These intensified last week when the word “patient” was removed from the formal description of the Fed’s present monetary stance. The Bank of England is similarly looking to tighten policy at some point as affirmed by Governor Carney only this morning. Before the oil price collapse began to be felt in earnest there were signs of price pressure in these economies and should the collapse unwind at all into the end of this year those signals will get stronger and stronger.
The unemployment rate in the eurozone, by contrast, fell by only 0.6% over the whole of last year to end it at 11.3%. This brings with it all sorts of other problems, of course, but from an inflationary perspective it leaves a lot of slack in the labour market. It looks likely to be some considerable time before investors need to worry about monetary tightening from the ECB.
On a similar note: with oil and other commodities having fallen or – at best – stabilized in price over the last few months, there is little danger of the weak euro having an inflationary effect. At the same time, the pitch of its descent means it has been winning that notorious game of “beggar my neighbour” for its exporters on the major currency markets. (This is not such great news for some far eastern countries, including China, whose exchange rates have strengthened impressively against the euro.)
There are always risks and Europe faces its own particular demons. But the speed of the turnaround there has been impressive: it was only back in November that the EU Commission last cut its forecast for 2015 growth. Like good news, quick turnarounds might well strike readers as a most un-European phenomenon. It has been most welcome to see the Continent delivering such pleasant surprises for a change.
Today has been dominated by news from the world’s central banks. First, Mario Draghi gave markets a boost by announcing that the ECB would take action to increase inflation and inflation expectations, which he described as “excessively low.” Then, with the eurozone Stoxx 50 index already up by more than 1%, the People’s Bank of China said later in the morning that it was cutting interest rates with effect from tomorrow. At the time of writing, the Stoxx 50 is up by almost 3%, with markets around the world also enjoying a boost, from equities to oil to industrial metals. Bond markets are up too; after all, all this has to do with lacklustre demand and low inflation – all good, bond-positive stuff.
Now growth of 0.8%, which is what is forecast for the eurozone this year, is sub-trend even for the sclerotic economies of the Continent, so low inflation is not really a surprise. Elsewhere, however, there has been quite a lot of other news on prices out this week with a different tone.
This Tuesday we had the October CPI and RPI data out here in the UK. Headline numbers were a little firmer than expected, with CPI up 1.3% on the year as against expectations of a 1.2% rise. RPI ex mortgage interest payments – the old monetary target measure – also surprised somewhat, up to an annual 2.4% from 2.3% in September. Part of this was to do with transport costs, but another reason was also due to rising prices for toys and computer games in the run up to Christmas.
This might seem rather dry and the numbers immaterial. But it is the last point which ought to raise an eyebrow. There is clearly sufficient consumer buoyancy in the UK market just now to allow retailers to increase some prices – good, old-fashioned supply and demand at work. This might well be connected to the fact that the economy has been growing, house prices rising and the unemployment rate falling. Indeed, at 6%, unemployment has already dropped by more than 1% this year alone and is 2.5% below its 2011 peak.
Then on Thursday we had CPI numbers out from the US. The headline rate, which had been expected to fall, remained constant at 1.7%, while the core rate (which excludes food and energy prices) ticked up a little to 1.8%, all of which surprised markets. Interestingly, the “recreation” component of the index – which includes video and audio products – was again one of the reasons. And again, we know that the US lies at the more robust end of the growth scale across developed economies, and that unemployment has fallen to 5.8%, with 2014 already showing the fastest drop for any year since the rate peaked at 10% in 2009.
Rounding the theme off, this afternoon it was Canada’s turn. The headline CPI change on the month, which had been expected to fall with weaker energy prices, actually rose, bringing the annual rate for October up from 2% to 2.4%. The core rate – which in Canada’s case excludes eight “volatile” items, plus indirect taxes – also increased from 2.1% to 2.3%. Price inflation has been gathering steam in Canada significantly this year, up from only 1.3% on the core measure at the end of 2013, and here the sectors responsible ranged from shelter to transportation to food and clothing.
One might go so far as to say that there are two conflicting themes visible in this area at present. On the one hand there is Europe and Japan, each with their own problems, each battling low growth and each trying to ramp up inflation. On the other hand there is the UK, the US and the rest of the dollar zone, where activity has been stronger for some time, labour market slack has reduced and inflation, while not yet problematic, is certainly not problematically low.
With the Brent crude future down by almost 30% since the middle of the year it is difficult to get worried about inflation just now. But there are signs in some major economies that the massive disinflationary impact of the Great Recession is now over. Some people still worry about the next banking or property market crash just like the one they witnessed a few years ago – who knows, in China, perhaps? – and perhaps they are right to do so. Those who worry about prices today generally seem to worry about them falling, focused as they are on the euro-Japanese side of things.
Still, it is the shocks from left field that cause the most excitement, and uncomfortable levels of inflation on the UK-US-dollar zone side of things would fit that bill. (Markets are not expecting policy to be tightened in Britain, the US or Canada until next September at the earliest.) As John Cleese pronounced in Michael Palin’s shop during the famous sketch, inflation might well be definitely deceased and bereft of life. But just imagine what a surprise it would be for an audience if the dead parrot prop suddenly squawked to life and flew out the shop window.
Markets barely had enough time to recover from Mario Draghi’s last “rock star” performance at the ECB before he shocked them with yesterday’s encore. Back in June he left his fans with the rhetorical question: “Are we finished? The answer is no.” Yesterday he proved it, lifting the lid on a plan for purchasing about €700bn worth of asset-backed securities while slicing another 10bp off policy rates. Only six of the fifty-seven economists and investment banks surveyed by Bloomberg expected the rate move, and the ABS programme, though trailed at the June ECB press conference, has also come surprisingly quickly.
Three months ago it looked as though Mr Draghi was playing to the crowd as much as anything. Two questions now emerge:
- Has anything substantial happened in Europe since June which has increased the need for emergency monetary measures?
- If not, how necessary are the ECB’s announcements as “open mouth operations”?
Look at the growth numbers reported in August and it is tempting to answer question (1) with a “yes”. Across the eurozone as a whole, GDP for Q2 was flat, down from an already-muted 0.2% rise in Q1. Stagnation in France was no surprise but it was a mild shock to see Italy back in recession. At the same time, headline inflation has continued to fall back with the annual CPI increase to August down at 0.3%. There has also been heightened concern in recent weeks over events in eastern Ukraine, with some commentators attributing weakness in European business investment to fears over escalating sanctions against Russia.
At the same time, however, it’s not that simple. The PMI composite indicator of economic output for the eurozone remains well into positive territory, despite the usual variation between countries, and the economic sentiment indicator (of consumer and business confidence) remains well off its 2012 lows – and indeed well above the levels associated with the three quarters of positive growth witnessed from Q2 2013. The ECB along with the consensus expects GDP to grow again this quarter, albeit at the accustomed muted rate. Even on the inflationary front much of the decline is down to cheaper energy prices: the “core” CPI rate for August, which as it excludes volatile items such as food and energy is supposed to be a more accurate reflection of the economy’s underlying price dynamics, actually rose for the second time since May to 0.9%. On balance, then, it does not seem reasonable to believe that there has been a material deterioration in the fundamental prospects for the eurozone over the last three months.
This does nothing to detract from the importance of question (2). At yesterday’s press conference (the full text of which can be read here), Mr Draghi had the following important, and in this blog’s view unarguable statement to make in the tangential final section of his answer to a question about fiscal policy:
[I]n many parts of the euro area, there are several reasons why growth is not coming back, but one of them is actually that there is lack of confidence. There is lack of confidence in the future, lack of confidence in the prospects, in economic prospects, of these countries.
It is an indisputable fact that much of the world’s confidence in recent years has relied for better or for worse on the perceived actions of central banks. The ECB understands this. And the reaction to this week’s news, together with one key longer-term trend, seems to indicate that they are getting the confidence-building part of their operation right.
First the reaction yesterday: Stoxx 50 up by 1.8% on the day, credit spreads tighter, euro back under 1.30 for the first time in over a year – in its biggest daily percentage fall against the dollar since the height of the debt crisis in November 2011 – and as for the bond market, well, that brings us on to the longer-term trend side of things.
Talking of the height of the debt crisis, back in November ’11 it cost the Italian government 7.9% to raise three-year money. A few months later, after the ECB announced its potential use of an emergency long-dated bond-buying programme, Italy was borrowing for ten years at 5.8%. Finally, just on Thursday last week, Italy raised ten year money at 2.4% and five year at 1.1%, record lows in both cases. And it isn’t just Italy. At the time of writing, two year bond yields are actually negative now in Germany, Denmark, Finland, Belgium, the Netherlands, France, Austria, Slovakia and (wait for it …) Ireland. It puts even the two-year Japanese government bond to shame, and makes the yield on our own 4% 2016 gilt look positively generous at 0.8%. All this is just excellent news, of course, if you’re an indebted sovereign looking to refinance your borrowing at the cheapest rates available in the world.
It doesn’t do to be complacent about Europe, or indeed the world economy in general. But it is encouraging that the ECB has been rising to the market’s demands for action in its own managed, but clearly credible way. European confidence in particular does indeed need all the help it can get. Rock star: play on …