Have Your Cake and Eat It Too? How The Fed May Orchestrate an Immaculate Disinflation - Midday Macro – 1/19/2024
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Have Your Cake and Eat It Too? How The Fed May Orchestrate an Immaculate Disinflation
Midday Macro – 1/19/2024
Market’s Weekly Narrative and Headlines:
Equities are ending the week on a positive note on what is turning out to be a large January OPEX Friday. The Nasdaq has re-entered sicko mode as results from chipmakers this week have “AI exuberance” in overdrive again. This has supported equities overall, but the technology and communication sectors, as well as growth and momentum factors, are the clear outperformers on the week, while value and small-caps underperformed. Governor Waller started the week more somberly, pushing back on a rapid cutting cycle due to the current state of affairs, which drove Treasury yields higher (something that continued throughout the week). Retail sales enforced this view, coming in stronger than expected as consumers showed up for the holiday season. This was also reiterated in the Fed’s January Beige Book, which noted most districts saw spending in line or better than expected. Consumer confidence data from the University of Michigan certainly confirmed that consumers were feeling better, with the last two months' increase being the strongest seen in a long time. Housing data this week showed homebuilders' confidence was improving despite drops in starts and sales of existing homes, both of which continue to be affected by low inventory levels. Regional fed manufacturing surveys were mixed but negative, with the NY Empire report dropping to levels not seen since the depth of the pandemic, while the Philly region man survey faired slightly better, albeit still contracting.
Oil continues to whipsaw around its more recent range due to geopolitical headlines and no material change in demand and supply expectations. Copper was better bid as, despite missing growth expectations in recently released economic data, views on China producing more centrally planned stimulus increased. The agg complex was mixed, with grains and beans still trending lower while certain softs like sugar and cocoa are flying higher. The dollar rose on the week based on Fed comments and stronger retail sales data, with the $DXY ending the week near 103.3.
Deeper Dive:
Well, the Fed finally pushed back more forcefully on March rate cuts, and although yields rose off Waller’s comments earlier in the week, overall risk sentiment is generally unchanged. This may be due to the perception that Governor Waller’s prepared remarks and Q&A answers showed a Fed increasingly worried that policy may become too restrictive through the passive tightening that is occurring by staying at their current terminal rate level and continuing QT while inflation falls further. His summarization of the “totality” of the data also indicated that the Fed sees a non-inflation accelerating better balance in labor markets while growth expectations, although uncertain, are increasingly calling for a more two-sided risk approach to where policy should go. However, given the relative strength of where both growth and labor markets are coming from, the Fed can still be “methodical and careful,” using his words. As a result, we still see a March cut as not occurring, although the incoming data will ultimately determine what happens, as the Fed continually tells us. The call will be close, as things currently stand for sure. We still see the Fed as being cautious in easing policy due to the high uncertainty in economic forecasting being universally discussed by Fed officials. Despite the disinflationary progress, loosening labor markets, and slowing growth, the Fed knows it has a limited ability to be confident inflation is really on track towards re-anchoring around its 2% target, given its track record and the uniqueness of the current inflationary pulse. Heightened geopolitical risks affecting global supply chains are reintroducing worries of cost-push supply-side pressures. At the same time, rising real wages should support demand-pull pressures even as hiring cools, all else being equal. However, as discussed last week, we will paint a more positive picture in today’s “Deeper Dive” on why the Fed can embark on a more aggressive cutting cycle, solidifying a soft-landing scenario in 2024 that continues to support risk sentiment. We will also make a few changes to our newsletter’s mock portfolio.
*Disinflationary progress continues to occur
*Growth came in much stronger than expected last year
*Labor markets are expected to stay in better balance as the Fed has been highlighting
To be clear, we see policy as highly restrictive, and disinflationary progress alone could be reason enough to start cutting rates in March. Using the San Francisco Fed’s Fed’s proxy policy rate and subtracting a 2.5% rough estimate of where we think core inflation is, you get a real Fed’s fund rate of around 3.8%. Fed officials forecast that the longer-term real Fed funds rate should be around 1% to 1.5% to maintain price stability, so there is a lot of room to cut before policy becomes stimulative again. Three and six-month annualized core PCE measures paint a picture of “mission accomplished,” and since the goal is to move policy before the 2% target is reached, the Fed currently has what it needs to start its easing cycle. Further, December’s FOMC meeting’s discussions of ending balance sheet runoff as reserve balances move into an “ample” but not inflation-accelerating level at some point in 2024 would notably increase the pace of easing. This is already occurring through financial condition channels, which picked up on the more dovish Fed tone as the data changed in October. If QT was worth one or two hikes, its end could be seen as several rate cuts. Waller’s comments, which echoed Powell's, that financial conditions have not eased to a problematic level are notable and empowering to the idea the Fed’s sequence will include slowing its Treasury runoff as it also cuts rate, not after. It also means this will likely occur this summer, so the Fed does not appear to be influencing the 2024 election cycle. Further, following recent TBAC decisions and the fact that Treasury markets came close to breaking last fall, financial stability concerns are also driving the conversation to end QT.
*The Fed’s Net Liquidity (Fed’s Assets - (TGA + RRP)) has yet to fall meaningfully…
*However, declines in the overall money supply indicate further disinflationary pressures are likely
*Despite the Fed insisting financial conditions are still disinflationary, growth expectations are rising on recent loosening
*Waller was right, the pandemic caused structural changes in the relationship between labor and inflation, leaving the Fed more uncertain about forecasting
We want to stay in tune with what the Fed is actually saying as things are moving quickly. Since the December FOMC meeting, we have a broad level of Fed officials seeing the “totality” of the data in a better place than expected, increasing their perceived forecasts for disinflationary progress in 2024. Despite being historically tight, labor markets are in a much better balance, reducing the worry that core service sector inflation will remain sticky due to rising wages. Fed officials don’t see the rises in real wages as reaccelerating inflation above their target level, with the expectation that openings and quits will trend back to pre-pandemic levels and reduce future wage pressures. Further job gains have been uneven in recent months, concentrated more in a few industries, while the participation rate has increased on better immigration and reduced retirement. Given the main worry regarding why inflation could remain sticky (the Fed gave us for a long time) was tight labor markets, the reversal in assessment by policymakers here is probably the most notable development in recent months. With reduced input cost pressures from wage rises, margin pressure will be reduced. This is occurring just as consumer price sensitivity is increasing, and in combination, it means greater disinflation progress should be coming. However, January’s Beige Book comments seemed to paint a mixed picture of disinflationary progress recently. While respondents saw pricing power continuing to fall, something not as clearly seen in the NFIB Small Business survey, the holiday season on aggregate was better than expected regarding final demand. The Beige Book also indicated that most respondents expected only modest progress on inflation over the next year, echoed by results from this week’s Philly Fed Manufacturing Survey’s special question, which asked about expectations for future cost increases for energy, other inputs, and labor.
*Despite a recent tick lower, the trend higher in participation reduces labor supply worries
*On an annual basis, wage increases are trending lower
*Inflation expectations are normalizing to pre-pandemic levels
Putting it all together, it is clear the Fed sees better-than-expected progress but still a high level of uncertainty in forecasting where the economy and inflation are going. The majority of the data indicates the current disinflationary progress should continue, but there are pockets that indicate the “last mile” may be more challenging as stable aggregate demand and an altered inflationary mentality keep prices sticky. However, given our objective was to paint a more rosy outlook for risk assets, we would stress that the Fed is telling us that they are ahead of where they thought they would be, and as a result, the market is right to price in more rate cuts (and end of QT) than the Fed is officially signaling as it believes disinflationary momentum will remain the same as the last few months. This supports the current trends in equities and credit and will likely cap the backup in yields around current levels. Although we expect 100 bps of rate cuts in 2024 and the end-of-balance sheet reduction to start in June, we would not be surprised with a March cut that moves things forward (and allows for more than four cuts). Currently, markets are refocused on AI again, as seen in the Nasdaq’s outperfromance, while fund managers are beginning to put on “Trump Trades,” similar to the reflation trades seen in 2016 that expected higher deficits and steeper curves. In the end, much of the optimism that propelled stocks’ furious ascent in the final weeks of 2023 rested on data suggesting the economy has slowed enough for inflation to ease but not enough to fall into a recession. That “soft landing” disinflationary scenario is still alive and well and needs to be respected. As a result, we are closing our dollar-long position with a very slight profit. Technicals are indicating the current leg higher is exhausting, and fundamentally, things look less supportive on a number of fronts. We will continue to hold our equity short positions, believing the recent strength will reverse after today’s OPEX opens up the trading range and we enter a more seasonally weak period of the year. This requires us to raise our stop for our SPY long while our $IWM (Russell) short is performing better.
*Very few fund managers expect a hard landing
*Equities tend to rally after the Fed starts cutting…
*...while yields tend to fall…
*…and the dollar stays flat and then strengthens.
*We have failed to regain the momentum we had going into Q4, and we are running a low gross level due to weaker conviction. We raised our $SPY shorts stop level as we see today’s OPEX price squeeze higher reversing next week, with the ultimate goal to exit position closer to flat now
As always, thank you for reading, and please share our newsletter. Please feel free to reach out with any questions or comments. – Michael Ball, CFA, FRM
Policy Talk:
There were fewer Fed speakers this week, and the January FOMC meeting blackout period starts Monday, but a notable hawkish pushback from Governor Waller set a new tone and reduced the odds of a March cut to around 50%. This was later echoed by Atlanta Fed President Bostic, who moved up the timing for when he expects rate cuts to Q3 but noted that there was still too much uncertainty to conclude inflation was beaten. Chicago Fed President Goolsbee said the continued disinflationary progress meant that rate cuts were coming, but the Fed was still very much meeting to meeting and evaluating new incoming data. “If we continue to make surprising progress faster than was forecast on inflation, then we have to take that into account in determining the level of restrictiveness,” Goolsbee said Friday in an interview on CNBC. As inflation comes down, “we would clearly be evaluating the responsiveness,” but his comments were still balanced and not seen by markets as overly dovish. Vice Chair Barr gave prepared remarks focused on cyber security in financial services at a conference covering the topic in Boston. Governor Bowman again spoke about regulatory reform, focusing more specifically on capital requirements. The Basel “endgame” reforms are increasingly getting pushback from banks and lawmakers, and Bowman continues to champion this debate. We cover prepared speeches from Waller and Bostic as well as the Beige Book in more detail below.
Governor Waller delivered prepared remarks titled “Almost as Good as it Gets… But Will It Last?” and took questions at the Brooking Institution in DC. He reviewed that while inflation was running close to 2% (on a sixth-month annualized rate), growth was only now cooling, and unemployment was still low. This led him to claim this was “almost as good as it gets,” but he questioned whether it would last. As a result, he believes where policy goes from here needs to be “carefully calibrated and not rushed.” He continued by summarizing the recent developments in the economy, seeing activity moderating, with business investment and government spending slowing in Q4. Waller believes consumer spending should now slow, given the higher interest rates, depletion of excess savings, and a pick-up in credit card usage. He noted that labor supply has been increasing, bringing the labor market into better balance, not seeing the recent jobs reports changing that view due to revisions. He also highlighted moderation in wage increases as likely to continue and move to levels in line with the Fed’s inflation target. He did note that he sees a path forward that does not require a much higher UER, given the level of vacancies is still historically high and able to absorb the decline in labor demand. He summarized the model he used two years ago to back his assumptions that UER didn’t need to rise much for inflation to fall and that it had faired well. However, he added that now that the vacancy rate was lower, policymakers would need to proceed with greater caution to avoid over-tightening. He went on to share his view that financial conditions continued to be restrictive and were having the desired effect of putting downward pressure on inflation. Regarding inflation, his reliance on 3 and 6-month annualized readings as well as his views on cooling growth and better-balanced labor markets, gives him greater confidence that the Fed is on track to achieving its goal. Concluding with the course for future policy, Waller believes the focus will now be more balanced, now “watching for sustained progress on inflation and modest cooling in the labor market that does not harm the economy.” He believes the Fed will cut rates this year, but the timing and amount are still very uncertain. He will be watching CPI revisions, noting the lost progress due to annual updates to seasonal factors last year. Waller answered a number of questions after his prepared remarks. He noted that this was not just a supply-shocked induced inflationary story, and instead, fiscal policy made a big impact. He pushed back on any March by saying cuts shouldn’t be rushed and talked about a methodical and careful cutting cycle, unlike past ones, reiterating that policy was currently set properly given the strengths still seen in the economy.
“But over the course of the fourth quarter, wages rose less than they did in the third quarter, and over the past several quarters, I see a moderation in wage increases across various measures of labor compensation that I expect will be consistent with ongoing progress toward 2 percent inflation. And, though there was a drop in labor force participation in December, the fourth-quarter average is higher than it was in 2022. These are all signs that the labor market continues to come into better balance.”
“Based on this analysis, we argued that, as long as the involuntary job-separation rate did not rise, restrictive monetary policy would allow the FOMC to bring inflation down without a significant increase in the unemployment rate. This seemed like a very plausible assumption, given the incredibly high vacancy rate and dearth of workers looking for jobs. Our predictions contradicted standard Phillips curve analysis and historical precedent, but we were in unprecedented times in 2022.”
Atlanta Fed President Bostic gave prepared remarks titled “The Arc of Monetary Policy May Start Bending Soon” at the Atlanta Business Chronicle 2024 Economic Outlook Conference, where he discussed his latest views on the economy and monetary policy. He believes the Fed has entered a new phase in policy with the real Fed funds at an appropriately restrictive level that will return inflation to the Fed's 2% target. Bostic sees the challenge now as knowing how long to stay at the current policy stance, which is tricky given the uncertain long and variable lags and the current “macro” backdrop. He did acknowledge that disinflationary progress was “encouraging” so far as the economy “proved to be even more vigorous than our most optimistic outlook.” Bostic believes the first-rate cut would be appropriate in the third quarter, given what he has seen and believes will transpire. He noted that there was currently passive tightening occurring, which means the risks were becoming skewed that the Fed could over-tighten. He is watching shorter-term inflation measures to gauge whether progress continues. He sees the current real wage progress as not problematic towards the Fed achieving its goal, noting it is still below pre-pandemic levels. Overall, he sees the labor market as healthy, hiring slowing, but he does not expect a material pick up in layoffs. He concluded by noting the high level of uncertainty in the current environment, especially due to rising geopolitical risks/events. This forces him to be more cautious and data-dependent regarding future policy predictions. If things change, Bostic says he would have no problem changing his stance on policy, and given he is a voter this year, he holds more sway.
“Taken together, these data indicate that the golden path of declining inflation and still-solid labor markets and economic growth may stretch farther than most of us figured just a few months ago. Because I'm data dependent, I have incorporated the unexpected progress on inflation and economic activity into my outlook, and thus moved up my projected time to begin normalizing the federal funds rate to the third quarter of this year from the fourth quarter.”
“Recall the continual shifts in the outlook for inflation and GDP growth I mentioned a moment ago. Those changes demonstrate just how difficult it remains to discern true signals from noise in this economy. That's because uncertainty lurks in numerous corners. Conflicts around the world could again complicate global supply chains and rattle energy markets. Other geopolitical events, including federal budget fights and elections at home and abroad could affect economic activity and financial markets. A weakening labor market could sap consumer spending that has buoyed GDP growth.”
The January Beige Book showed that the majority of the Fed districts reported “little to no change” in activity. Three districts reported “modest” growth, and one reported a “moderate” decline. Consumer activity met and even beat expectations in some districts, including NY, which noted strong holiday spending, especially on apparel. Several Districts noted increased leisure travel and a tourism contact described New York City as bustling. Manufacturing activity was broadly reported as weaker across all districts. Districts continued to note that high-interest rates were limiting auto sales and real estate deals, but expectations for rates to fall improved sentiment. Views on office property markets worsened, hurting demand. The 2024 political cycle was often cited as a source of economic uncertainty. However, overall, most firm's views on future growth were positive, had improved, or both.
Seven districts reported little or no net change in overall employment, while job growth was described as modest to moderate in four districts. Two districts continued to note a tight labor market, and several described hiring challenges for firms seeking specialty skills, but nearly all cited signs of a cooling labor market, “such as larger applicant pools, lower turnover rates, more selective hiring by firms, and easing wage pressures.” The pace of wage growth was characterized as moderate, modest, and slight. Firms expected wage pressures to ease and wage growth to fall further over the next year.
Eight districts noted slight, modest, or moderate price increases. However, a few districts indicated no significant shift in price pressures. Firms cited examples of steady or falling input prices, “especially in the manufacturing and construction sectors, and more discounting by auto dealers.” Firms also noted that consumer price sensitivity had increased, causing the narrowing of profit margins and to “push back in turn on their suppliers’ efforts to raise prices.” Premium increases for insurance continue to impact most firms. Three districts noted that their firms were expecting price increases to ease further over the next year, while four districts’ firms anticipated little change.
U.S. Economic Data:
Retail sales increased 0.6% in December, following a 0.3% rise in November and beating forecasts of 0.4% MoM. Unadjusted retail sales increased by 3.2% in 2023. Excluding autos, gas, building materials, and food services, the so-called core retail sales increased by a strong 0.8% MoM, the most since July. December saw a large increase in the sales of autos (1.2% MoM vs. 0.8% MoM in Nov). Excluding autos, retail sales increased by 0.4% MoM (vs. 0.2% MoM). Sales increased at nonstore retailers (1.5% MoM vs.1.2% MoM), clothing (1.5% MoM vs. 1% MoM), general merchandise stores (1.3% MoM vs. -0.2% MoM), miscellaneous store retailers (0.7% MoM vs. -0.3% MoM), building materials and garden equipment (0.4% MoM vs. -0.1% MoM), sporting goods, hobby, musical instrument and books (0.3% MoM vs. 1.4% MoM), and food and beverages stores (0.2% MoM vs. 0.2% MoM). On the other hand, sales declined at health and personal care (-1.4% MoM vs. -0.2% MoM), gasoline stations (-1.3% MoM vs. -3.4% MoM), furniture (-1% MoM vs. 2.4% MoM) and electronics and appliances (-0.3% MoM vs. -1.8% MoM) and were unchanged at food services and drinking places.
Key Takeaways: Consumers ended the year on a high note, with retail sales blowing past all estimates for the month, boosted by an increase in auto sales, but also on clothing, likely at department stores and, more generally, online purchases. U.S. shoppers spent a record $222.1 billion online between November and December, up 4.9% from a year earlier, according to data from Adobe Analytics. The increase in spending was driven by discounts and the use of “buy now pay later” shopping options, Adobe said. Seasonal factors were also more favorable than in December 2022. However, gains were not as broad-based as the headline beat would suggest. It was notable there was no change in spending at restaurants and bars, the only service sector components of the report. We also saw fewer large ticket household items being purchased, or at least prices dropping. Still, the increase in core retail sales was a positive way to end the year, especially with the price of goods becoming more stable, indicating increases are again being driven by higher volume, not just prices. Although overall inflation heated up in December, the prices of products, including appliances, footwear, sporting goods, and toys, declined from the prior month. The results also increased the Atlanta Fed GDPNow forecast for Q4 to 2.4% from 2.2%. The retail sales report reduced the chances of a March rate cut due to the persistence of consumer strength.
*The results across various slices of the data were all better than expected, with a notable uptick in the control group
*Leadership from Autos and Online, while less of a drag from Gas Stations
*Despite the beat, numerous sub-categories declined on the month, especially in going out and home-related items
*Real gains are trending higher as inflation has finally stabilized in most goods, which are the bulk of the items captured in the retail report purchases
The University of Michigan Consumer Sentiment increased to 78.8 in January’s preliminary reading from 69.7 in December, beating expectations of an increase to 70. The Consumer Expectations sub-index increased to 75.9 from 67.4, while the Current Economic Conditions subindex increased to 83.3 from 73.3. Inflation expectations for the year ahead declined to 2.9%, the lowest level since December 2020, from 3.1% in December, and the five-year outlook also edged lower to 2.8% from 2.9%.
Key Takeaways: When combining January and December together, consumer sentiment has now climbed a cumulative 29%, the largest two-month increase since 1991 as a recession ended. For the second straight month, all five index components rose, with a 27% surge in the short-run outlook for business conditions and a 14% gain in current personal finances. Consumer views were supported by confidence that inflation has turned a corner, along with more positive income expectations. There was a broad consensus of improved sentiment across age, income, education, and geography. Democrats and Republicans alike showed their most favorable readings since the summer of 2021. Sentiment is now around 7% under its historical average level. Inflation expectations are also still outside their historical average range seen pre-pandemic, indicating that the loss of confidence from higher inflation post-pandemic and a minimal amount of de-anchoring of inflation expectations still exist. With that said, there has certainly been remarkable progress over a short period regarding a more positive consumer sentiment, which could support more PCE activity moving forward.
*The improvement in sentiment over the last two months has been the largest since 1991
*Inflation expectations are close to re-entering a more historical pre-pandemic average range
*There was less of a pick up in Republican-affiliated respondents than independents and Dems
Import prices were unchanged in December, defying market expectations of a -0.5% MoM decline. Imported fuel prices decreased by -0.3% MoM, with lower petroleum prices more than compensating for higher natural gas prices. Nonfuel prices were unchanged, having increased by 0.1% in November, as higher prices for industrial supplies/materials and automotive vehicles were offset by lower prices for capital goods and foods, feeds, and beverages. On a year-on-year basis, import prices fell by -1.6%, while core imports declined by -1% in 2023. Export prices declined by -0.9% in December, missing expectations of a -0.6% decrease. Prices for nonagricultural exports declined by -0.9% MoM as lower prices for industrial supplies/materials and nonagricultural foods more than offset higher prices for consumer goods and automotive vehicles. Also, prices for agricultural exports declined by -0.6% MoM due to declines in prices for soybeans, corn, meat, and nuts, which more than offset higher fruit prices. On an annual basis, export prices declined by -3.2%.
Key Takeaways: The flatter-than-expected change in import prices was a change after two months of declines. Broadly speaking, most sub-categories changed slightly in the month, indicating a reversal in recent disinflationary progress through this channel. Exports declined more than expected, indicating that both sides of the equation may be feeling the effects of a weaker dollar. We see this report as neutral, not materially changing the current disinflationary narrative but indicating a loss of progress on the margin.
*Import prices have been little changed on an annual basis over the last four months
*Export prices had a tough monthly annual comparison, which is why the annual rate shot up despite continued monthly declines
Industrial production increased by 0.1% in December, beating market expectations of no growth. Manufacturing output, which accounts for 78% of total production, increased by 0.1% MoM, also beating market expectations of a flat reading. Final products (0.1% MoM vs. 0.3% MoM in Nov) cooled as production of Business Equipment (-0.2% MoM vs. 1% MoM) declined, although Consumer Goods (0.2% MoM vs. 0.1% MoM) was more stable. Nonindustrial supplies (-0.2% MoM vs. -0.5% MoM) due to declines in Construction (-0.1% MoM vs. -0.6% MoM ) material production, which has declined over six months now. Finally, Material (0.1% MoM vs. -0.1% MoM) production has stabilized after a large monthly decline in October. Additionally, Mining output increased by 0.9% MoM (vs. -1% MoM), while output from Utilities fell by -1% MoM (vs. -0.7% MoM). Capacity utilization was unchanged in December at 78.6%, a rate that is 1.1 percentage points below its long-run (1972–2022) average. Industrial production declined by -3.1% at an annual rate in Q4, and manufacturing output declined by -2.2%.
Key Takeaways: On an annual basis, this was a weak year for overall industrial production and factory output. Despite the stabilization in December, there still is a general loss of momentum. Further, recent “stabilization” has been mainly due to a pick-up in auto production due to the end of the UAW strike. Excluding autos, factory production slipped by -0.1%, the third-straight monthly decline. Stepping back, it is unclear if there will be a pick up in activity anytime soon, with consumer goods suffering from reduced demand and leaner inventories while business surveys are showing reduced business investment intentions, albeit unevenly.
*There was little change in manufacturing activity in December, especially when excluding autos
*Capacity utilization continued to trend lower
The NAHB/Wells Fargo Housing Market Index increased to 44 in January from 37 in December and above market expectations of 39. The sub-index for current single-family home sales increased to to 48 from 41 in December, while the sub-index measuring prospective single-family home sales increased to 57 from 45. The sub-index for prospective buyers increased to 29 from 24 in the prior month.
Key Takeaways: This second consecutive monthly increase in builder confidence closely tracks a decline in mortgage rates. Confidence was further supported by the belief that the Fed would start cutting its benchmark rate soon, stimulating further demand for new homes. “Lower interest rates improved housing affordability conditions this past month, bringing some buyers back into the market after being sidelined in the fall by higher borrowing costs,” said NAHB Chairman Alicia Huey said. “Single-family starts are expected to grow in 2024, adding much-needed inventory to the market. However, builders will face growing challenges with building material cost and availability, as well as lot supply.”
*Homebuilder confidence is higher for a second month due to lower mortgage rates
*All three sub-indexes rose, with expected sales bouncing the most notably
Existing home sales declined by -1.0% to a seasonally adjusted annualized rate of 3.78 million units in December, falling below the market's anticipated 3.82 million units. Sales of single-family homes decreased by -0.3% to 3.4 million units, while multi-unit sales declined by -7.3% to 0.38 million. Among the major regions, sales declined in the Midwest and South, increased in the West, and remained unchanged in the Northeast. On a year-on-year basis, sales declined by -6.2%. The median existing-home sales price rose 4.4% on an annual basis to $382.6K, the sixth consecutive month of year-over-year price increases. The inventory of unsold existing homes declined by -11.5% from the previous month to 1 million at the end of December, or the equivalent of 3.2 months' supply at the current monthly sales pace.
Key Takeaways: The level of overall sales in December reached the lowest level since August 2010. The problem remains a higher mortgage rate, locking people into their existing homes due to the sticker shock of getting a new one. As a result, existing home sales fell to the lowest level in nearly 30 years in totality for 2023. There is hope that falling mortgage rates and growing expectations for rate cuts will drive more supply to hit the market. "The latest month's sales appear to be the bottom before inevitably turning higher in the new year," said NAR Chief Economist Lawrence Yun. He attributed this potential upturn to lower mortgage rates compared to the preceding two months and anticipated a boost in inventory in the coming months.
*Existing home sales continue to trend lower
*Once accounting for “stock inflation,” we see that existing-home sales are the lowest in series history (going back to 1991) as a percentage of households
Housing starts declined by -4.3% in December to an annualized 1.46 million, above market forecasts of 1.426 million. Single-family housing starts declined by -8.6% to 1.027 million, while multi-units increased by 7.5% to 417K. Starts fell in the Northeast (-16.9% to 108K), the South (-5.1% to 787K), and the Midwest (-8.8% to 187K) but rose in the West (4.7% to 378K). Building permits increased by 1.9% in December to an annualized rate of 1.495 million, up from November's 1.467 million and above market expectations of 1.48 million. Approvals for the multi-units increased by 2.2% to a rate of 501K, while single-family authorizations rose by 1.7% to 994K. Across the various regions, there were increases in permits in the South (8.4% to 860K), the Midwest (4.7% to 199K), and the Northeast (20.2% to 101K), while declines occurred in the West (-16.3% to 335K).
Key Takeaways: December was the first decline in four months, following a downwardly revised 10.8% surge to 1.525 million in November and the biggest fall since July 2022 in single-family starts. However, on the other hand, it was a five-month high for multi-unit starts. Multi-unit permits also recovered from November's three-year low, with single-unit permits reaching the highest level since May 2022. There remains a shortage of homes, and with mortgage rates expected to fall, builders' confidence is growing due to increased expectations for more demand for new homes.
*Housing starts reversed recent gains in December while permits picked up slightly
*Multi-unit starts have bottomed after trending lower for most of 2023
The Philadelphia Fed Manufacturing Index increased by 2.2 points to -10.6 in January from -12.8 in December, worse than market estimates of -7. Although still contractionary, demand and activity measures improved somewhat. Sub-index readings for New Orders (-17.9 vs. -22.1) and Shipments (-6.2 vs. -11.2) contracted at a reduced rate. However, Unfilled Orders (-18.5 vs. -8.9) notably worsened. Delivery Times ( -27.6 vs. -18.1) shortened at an increased rate, and Inventories (-14.6 vs. -3.9) declined further. Inflation measures improved with Prices Paid (11.3 vs. 24.3) and Prices Received (6.3 vs. 12.2), both expanding at a notably reduced rate. Finally, current labor measures improved, with Employees (-1.8 vs. -2.5) and Average Workweek (-0.9 vs -5.9) expanding, with the first moving closer to neutral while the latter is now expansionary again. Forward-looking readings declined, with the general business activity now contractionary on drops in demand and activity expectations, although unfilled order expectations rose further. Prices paid also rose notably, while labor measures rebounded from more neutral readings in December. Capital spending intentions flipped from contractionary to expansionary.
Key Takeaways: This is the index’s 18th negative reading in the past 20 months, with demand and activity still notably contractionary while labor measures were more positive. Price pressures also look to have fallen notably on the month, although future input cost expectations jumped higher. More generally, the forward indicators showed a large drop in demand and activity expectations, although they remained expansionary. Countering this drop in sentiment was an increase in planned capex activity. The month’s special question asked respondents about their various input and labor costs over the past year and their expectations for changes in costs for the coming year. The average percent change in costs expected for 2024 was smaller than the average percent change in costs reported for 2023. The respondents were also asked to rank the importance of various factors in setting prices. Demand for their own goods/services was the most important factor, followed by maintaining steady profit margins, wage and labor costs, and competitors’ prices.
*Current activity readings were little changed on aggregate, while future expectations fell more notably
*There was a significant decline in prices paid and received in January’s report
*More broadly, the sub-index readings were mixed, but labor ones did improve more consistently
The New York Fed’s Empire State Manufacturing Survey headline General Business Conditions index declined to -43.7 in January from -14.5 in December, missing expectations of -5 by a wide margin. Demand and Activity orders contracted at a faster rate, as seen in declines in New Orders (-49.4 vs. -11.3 in Dec), Shipments (-31.3 vs. -6.4), and Unfilled Orders (-24.2 vs. -24). Delivery Times (-8.4 vs. -15.6) shortened at a slower rate, while Inventories (-7.4 vs. -5.2) contracted at a faster pace. Employment (-6.9 vs. -8.4) contracted at a slightly reduced rate, while the Average Workweek (-6.1 vs -2.4) shortened at a faster pace. On the inflationary front, Input Prices (23.2 vs. 16.7) increased somewhat, while the pace of Prices Received (9.5 vs 11.5) weakened slightly. Forward-looking indicators were notably more optimistic than the significant decline in current ones, as has been the trend. Demand and activity expectations rose, delivery times lengthened, while inventories changed little. Price pressure expectations rose broadly, especially for prices paid, as did employment measures. The capital spending index increased ten points to 13.7, pointing to some improvement in investment plans.
Key Takeaways: PMI-based surveys have been more volatile than normal at the regional Fed level, especially for the Empire State report. It's an emotional time with high levels of uncertainty across most industries. There is also a continued divergence between weaker current readings and brighter future expectations to the point that we find more value in the six-month ahead readings regarding the actual activity that is coming. However, we don’t want to dismiss this massive decline in demand and activity readings completely, nor the continued stickiness inflationary readings are indicating. As a result, this report does not bode well for soft landing enthusiasts as it shows weaker growth, continued inflationary pressures, and tight labor market activity on the margin, leading to a more hawkish Fed in the face of slowing activity.
*The headline index declined to the lowest non-pandemic period reading
*Current New Orders contracted sharply, but expectations improved
*Price reading have moved sideways for several months now
The New York Fed’s Business Leaders Survey headline Business Activity Index increased to -9.7 in January from -14.6 in December. Views on the Business Climate (-30.3 vs. -38.4) improved but remained negative and within a two-year range. Labor Measures were mixed, with Number of Employees (-6.5 vs. -1.2) contracting at a faster pace, while Wages (41.9 vs. 25.9) shot up. There was little change in price readings, as Prices Paid (45.2 vs. 46.9) moderated slightly and Prices Received (24.7 vs. 23.1) rose slightly. Current Capital Spending (4.5 vs. 1.3) rose off neutral. The reading for six months ahead general business activity rose notably, with expectations for the business climate to be outright positive. Hiring plans expanded further while wages, although still expected to expand at a historically high rate, fell slightly. Forward price measures declined but remained rangebound and expanding. Finally, capital spending plans rose but remained in the middle of their recent reading range.
Key Takeaways: The overall headline index reading improved, but weak views on the business climate continued to keep it negative. The good news is that forward expectations on the business climate shot higher, moving it back into positive reading territory for the first time since summer. No material progress on price readings and a notable uptick in wage readings indicate that inflationary pressures worsened in January. Further, improvements in current and forward capital spending show that service sector firms continue to invest in their business. Overall, despite the fact that business activity declined at a slower pace during the month, a better outlook prevailed, making this report generally more positive. However, with no disinflationary progress, it does not bode well for the Fed.
*There was a slight improvement in views regarding the business climate, which supported the improvement in the overall index
*Forward price measures moved lower for another month, indicating reduced servicer sector inflationary pipeline expectations
Technicals, Positioning, and Charts:
The Nasdaq outperformed the S&P and Russell on the week. Tech, Communication, and Financials were the best-performing sectors, while Momentum and Growth were the best-performing factors. Large-cap Growth was the best-performing size/value combo of the week.
@Koyfin
S&P optionality strike levels have the Zero-Gamma Level at 4753 while the Call Wall is 5000 and the Put Wall is 4750. Today’s large OPEX will remove a notable amount of gamma, which could free markets to move more freely in general (both up or down), leading to a breakout of the range we've been holding over the past 2 weeks. That may already be occurringg with the Nasdaq and S&P pushing to new ATHs today.
@spotgamma
S&P technical levels have support at 4830, then 4802, with resistance at 4880, then 4910.
@AdamMancini4
Treasuries are lower on the day, with the 10yr yield higher to 4.16%, while the 5s30s curve is flatter by 4 bps on the session, moving to 28 bps.
Four Key Macro House Charts:
Growth/Value Ratio: Growth is higher on the week; with Large-Cap Growth the best-performing size/factor on the week.
Chinese Iron Ore Future Price: Iron Ore futures are lower on the week.
5yr-30yr Treasury Spread: The curve is flatter on the week.
EUR/JPY FX Cross: The Euro is stronger on the week.
Other Charts:
The Nasdaq hit a new ATH on better results from chipmakers over AI optimism this week.
Positioning is very optimistic currently for the Nasdaq.
More generally, speculative positioning in equity futures seems to be stretched
The aptly named Consensus Inc. conducts weekly surveys of futures market newsletters/brokerage reports and aggregates the percentage that is bullish. At this point, their stock index series has been the most bullish since 2018. - @biancoresearch
The percentage of FMS investors expecting a stronger economy in the next year is at a 12-month high. - @dailychartbook, BofA
But “low-margin” stocks are underperforming, trading at a significant discount.
However, Goldman’s sentiment indicator shows investors becoming more cautious after the recent rally.
Outflows continued for equities this past week (to -$6.81bn from -$9.50bn) - @MikeZaccardi
FMS investors are the most overweight Healthcare, Tech, Cash, and US stocks. They are the most underweight UK equities, Utilities, and Insurance. - @dailychartbook, BofA
Credit spreads continue to be near recent tights…
…but a growing share of US investment-grade bonds matures within a year.
Real household deposits are nearing pre-pandemic levels.
Goldman is forecasting a 3% level for real household income growth this year.
Large drop in 1Y ahead expectation of food & rent as the CPI's food at home fell from 11.3% YoY in Jan23 to 1.5% YoY in Dec and rent growth started to cool (although CPI obv lagging real-time). - Large drop in 1Y ahead expectation of food & rent as the CPI's food at home fell from 11.3% YoY in Jan23 to 1.5% YoY in Dec and rent growth started to cool (although CPI obv lagging real-time).
“Global rate cuts lost at (Red) Sea?” Shipping costs have increased up to three-fold for certain routes. Inflationary pressures may be larger in Europe, but non-negligible for the US. - BofA:
More investment in LNG production will be needed to meet demand.
China’s nominal GDP growth last year was the lowest since “The Great Reform” during the late 1970s.
Loan growth for Chinese households and businesses continues to move sideways.
Articles by Macro Themes:
Medium-term Themes:
Half the World (2024 Election News):
Cast and Counted: In a closely watched election, Taiwan’s voters elected Democratic Progressive Party (DPP) presidential candidate and current Vice President Lai Ching-te. No party won a majority in the 113-seat Legislative Yuan. Taiwan’s political system will be more fragmented than it has been since 2008. Governance will be complicated. The results of the election provide a soothing set of facts for Xi that all is not lost. This election showed that an overwhelming majority of Taiwan’s people prefer to preserve the status quo. Furthermore, Lai won the presidency with less than 50% of the vote — 40.05% to be exact. This is the lowest percentage for a winning candidate since 2000. In addition, Lai’s political party did not retain control of Taiwan’s legislature. In other words, Lai does not have a mandate to alter Taiwan’s status, and his political party is not positioned to deliver such an outcome. - The impact of Taiwan’s election in 2024 and beyond - Brookings
China's Rebalancing Act:
Daunting: China’s economic growth rate finished at one of the lowest levels in decades last year, underscoring the heavy toll that a property-sector collapse and weak consumer confidence have taken on the world’s second-largest economy despite the lifting of all Covid-19 restrictions. Gross domestic product in China expanded 5.2% in the fourth quarter and for the full year in 2023. Maintaining growth at a similar pace this year may prove harder, given policymakers’ hesitance so far to launch any big-ticket stimulus packages. Forecasts for China’s growth rate this year among several global investment banks range from 4% to 4.9%. China is expected to announce any formal growth target at an annual legislative session set to take place in March. - China’s Growth Slows to Three-Decade Low Excluding Pandemic – WSJ
Central Authorities: China is considering 1 trillion yuan ($139 billion) of new debt issuance under a so-called special sovereign bond plan, only the fourth such sale in the past 26 years. The proposal under discussion by senior policymakers would involve the sale of ultra-long sovereign bonds to fund projects related to food, energy, supply chains and urbanization. The deliberations underscore efforts by President Xi Jinping’s government to shift spending responsibility from debt-laden local officials to central authorities in support of an economy that is struggling to maintain momentum. - China Weighs More Stimulus With $139 Billion of Special Bonds – Bloomberg
Longer-term Themes:
The Singularity is Near (AI Developments) and Cyber Life (More Generally):
Banned: OpenAI outlined limits on using its tools in politics during the run-up to elections in 2024, amid mounting concern that artificial intelligence systems could mass-produce misinformation and sway voters in high-profile races. Among a series of clarifications on its policies Monday, OpenAI said people aren’t allowed to use its tools for political campaigning and lobbying. People also aren’t allowed to create chatbots that impersonate candidates and other real people, or chatbots that pretend to be local governments, it said. - OpenAI Bans Use of AI Tools for Campaigning, Voter Suppression – WSJ
Federal Crime: As AI tools have continued to proliferate and become more popular over the last year, so has deepfake pornography and sexual harassment in the form of AI-generated imagery. Creating a convincing deepfake five years ago required hundreds of images, which meant those at greatest risk for being targeted were celebrities and famous people with lots of publicly accessible photos. But now, deepfakes can be created with just one image. Proposals to regulate deepfakes often include measures to label and detect AI-generated content and moderate child sexual abuse material on platforms. This raises thorny policy issues and First Amendment concerns. However, there are now new regulations with more bipartisan support to make it illegal to create deepfakes. - A high school’s deepfake porn scandal is pushing US lawmakers into action – MIT Review
Lockout Patent: Ford has abandoned its patent application for a controversial system that would take over vehicles whose owners are delinquent in making payments and, in the case of self-driving cars, allow them to repossess themselves by driving to repo lots. The patent application explains technology that would allow a lender to have access to multiple systems within a car. If a person were late on payments, the lender could permanently lock the car; disable steering wheels, brakes and air conditioning; and cause annoyances like playing sounds inside. The decision comes as automakers are facing increased scrutiny for their data-collection and remote-access policies for vehicles. - Ford drops attempt to patent tech allowing lenders to remotely meddle with cars – The Record
AI Jobs: A quarter of global chief executives expect the deployment of generative artificial intelligence to lead to headcount reductions of at least 5 percent this year, according to a survey unveiled as world and business leaders gathered in Davos. Industries led by media and entertainment, banking, insurance and logistics were most likely to predict job losses because of cutting-edge AI tools, according to the poll of top directors conducted by PwC. Some 46 percent of those surveyed said they expect the use of generative AI (systems that can spew out humanlike text, images and code in seconds) to boost profitability in the next 12 months. - Generative artificial intelligence will lead to job cuts this year, CEOs say - FT
The Demise of Unipolarity: A World of Rising Regional Sphere:
Critical: Europe is boosting efforts to reduce its reliance on Chinese batteries. The European Union is contributing almost $1 billion toward $3.4 billion in lending for Swedish battery maker Northvolt to increase production and recycling of batteries in Sweden. The WSJ’s Amrith Ramkumar and William Boston report that the funding is part of a push across Western countries to loosen China’s control over swaths of the battery supply chain from metals processing to cell assembly. The U.S. and European governments are throwing billions of dollars in tax credits, loans and grants at companies to build up supply chains that power electric cars and store energy from the wind and sun. - Global Battery Race Heats Up With Billions for Europe’s Northvolt – WSJ
Food: Security, Innovations, and Climate Change Implications:
Disruption Risk: Vessels loaded with foodstuffs are among those avoiding Houthi attacks in the key waterway by sailing around Africa, a longer and costlier route. But unlike gas, oil and consumer goods cargoes that have also been affected, lengthier shipping times risk making perishable foods unsellable. That’s spooking the industry. Italian exporters fear kiwi and citrus fruits will spoil on the way, Chinese ginger is getting pricier and some African coffee cargoes were briefly delayed. Grain is being diverted from the Suez Canal and a livestock carrier bound for the Middle East has changed course. - Red Sea Unrest Is Bad News for World’s Fragile Food Supply - Bloomberg
Cold Places (Deep Sea, Artic, and Space Capitalization):
Making Friends: The Defense Department plans to reduce the classification of space programs, which has been an obstacle to closer cooperation with allies and the commercial space industry. This does not mean classification is going away, he said, but it indicates that the Pentagon is taking a hard look at where secrecy might have gone overboard. Plumb also said his office is developing a new strategy for integrating commercial space capabilities into defense programs, one that is intended to complement the Space Force's own commercial integration plan. - DoD seeks less space classification, more collaboration with allies and commercial partners - SpaceNews
Other Articles of Interest:
State of War: Western financial help and ammunition supplies for Ukraine are running low, while public support is showing some cracks. Russia, with its larger population, has so far withstood the worst of Western sanctions and ramped up its war economy for a prolonged fight. Russian President Vladimir Putin is now betting he can outlast the West’s support for Ukraine and make a decisive breakthrough if Russia’s economy can keep ticking over. This article covers the various ways the two countries stack up. - Here’s How the Russian and Ukrainian War Efforts Compare, in 10 Charts – WSJ
Still Bullish: Jeff Currie, who spearheaded commodities research at Goldman Sachs Group Inc. for almost three decades, remains bullish on the sector for this year. Demand for raw materials is at record levels, inventories are low, and spare production capacity is largely “exhausted,” the veteran analyst said in an interview with Bloomberg television. Copper, which drifted sideways for much of 2023, has the greatest scope for gains, he added. - Goldman Veteran Jeff Currie Remains Bullish on Commodities This Year - Bloomberg
New King: The last time a company not named Samsung was at the top of the smartphone market was 2010, but in 2023, it is now Apple. International Data Corporation (IDC) Worldwide Quarterly Mobile Phone Tracker, report showed global smartphone shipments declined 3.2% year over year to 1.17 billion units in 2023. While this marks the lowest full-year volume in a decade, driven largely by macroeconomic challenges and elevated inventory early in the year, growth in the second half of the year has cemented the expected recovery for 2024. The fourth quarter (4Q23) saw 8.5% year-over-year growth and 326.1 million shipments, higher than the forecast of 7.3% growth. - Apple Grabs the Top Spot in the Smartphone Market - IDC
Podcasts and Videos:
Harley Bassman on Why the Big Moves in the Bond Market Are Done – Bloomberg’s Odd Lots
The War in Yemen & its Impact on Middle East Politics, Shipping, Oil, Gas & the Global Economy – Daily Energy Report
Decades of Navigating China's Evolving Business Landscape with Andrew Cainey - Baiguan
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