After the news-heavy calendar last week, there are few market-moving economic reports in the week ahead. It is also the quiet period for the Fed. How will the punditry fill those empty minutes?

Last week’s trading revived a question that many find puzzling. I expect pundits to be asking:

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How can bonds and stocks both be so strong?

Last Week

Last week the economic news was mixed, but the market showed strength anyway.

Theme Recap

In my last WTWA I took note of the big economic calendar and short week. My conclusion was that we might finally see some volatility. Wrong! The news was close enough to expectations that the reactions were modest. Since there was little volatility, it never became the theme for the week.

The Story in One Chart

I always start my personal review of the week by looking at this great chart from Doug Short via Jill Mislinski. The gain for the week, achieved entirely on Thursday and Friday, was almost 1% and another new all-time high.

Doug has a special knack for pulling together all the relevant information. His charts save more than a thousand words! Read the entire post for several more charts providing long-term perspective, including the size and frequency of drawdowns.

 

Personal Note

I am considering some changes in WTWA. Instead of launching “new Coke” without proper testing, I would like reader suggestions. I have outlined the ideas here, and I welcome comments and suggestions.

The News

Each week I break down events into good and bad. Often there is an “ugly” and on rare occasion something very positive. My working definition of “good” has two components. The news must be market friendly and better than expectations. I avoid using my personal preferences in evaluating news – and you should, too!

The economic news last week was mixed, but the market reaction was positive.

The Good

  • Personal income and spending both increased 0.4%, positive but in line with expectations.
  • Household deleveraging has been “historic.” Since this news is contrary to most of what you hear, it is important to read the excellent global macro update from BlackRock.

To be balanced, we must also note the increasing leverage of corporations. BlackRock notes that this reflects the low cost of loans versus equity. More of the lending locked in for a long period.

Any assessment of debt and leverage must include government. It is a concern, and on my writing agenda.

  • Consumer confidence declined slightly, but remained at a high level – 117.9. Here is the analysis from the Conference Board:

    Consumer confidence decreased slightly in May, following a moderate decline in April,” said Lynn Franco, Director of Economic Indicators at The Conference Board. “However, consumers’ assessment of present-day conditions held steady, suggesting little change in overall economic conditions. Looking ahead, consumers were somewhat less upbeat than in April, but overall remain optimistic that the economy will continue expanding into the summer months.

  • ISM manufacturing beat expectations with a solid 54.9 reading. The Chicago PMI (Calculated Risk) notched its highest reading in 2 ½ years.
  • ADP private employment showed a gain of 253K. Regular readers know that I regard this as an alternative source on the jobs situation, neither better nor worse than the BLS.

The Bad

  • Pending home sales declined for a second straight month. (MarketWatch). Once again, low inventory was blamed. Steven Hansen (GEI) has an interesting take, comparing historical household formation and replacement needs, to new supply.

He writes as follows:

Based on the data in the above graph, since the beginning of the Great Recession there were almost a half million more new homes constructed than households formed. Up until the 21st century, there was good correlation between household formation and homes constructed.

However, historically 300,000 new homes are needed each year to replace those lost to fires, rot, other causes, or simply torn down to make way for new construction. Based on just replacements needs, 3 million new houses were needed since the beginning of the Great Recession instead of the half million above household formation actually constructed. The green line in the above graph is the combined need for new housing (year-over-year gain of households plus the replacement housing).

The bottom line is that the NEED for new construction is outpacing the supply. It seems the price for new and existing housing is above the price many buyers are willing (or can afford) to pay. It seems that there is a shortfall also of buildable land near many metros where people want to live.

 

  • Corporate profits may have peaked. (New Deal Democrat)
  • Legislative chaos from the Trump budget. Stan Collender’s pessimistic viewpoint has five negatives, including a 60% chance of an October government shutdown and reduced chances for tax reform. Stan is an experienced Washington insider, so we should pay attention. I strongly agree with the need for some compromise. That said, it seems overly pessimistic to me.
  • Auto sales declined slightly to a seasonally adjusted annual rate of 16.6 million and may have peaked. This means that companies will be competing for market share. Everyone will be watching to see if this is a peak or a plateau.
  • Initial jobless claims rose by 13K from an upwardly-adjusted prior week. The widely-followed four-week moving average also increased by 2500. Some observers are poised to see any increase in this level as a sign of danger. Doug Short has a key chart, which adjusts the results for the size of the labor force. It is great work, and something to keep in mind.

  • Construction spending dropped 1.4%, the largest decline in a year. (Reuters)
  • Employment situation disappointed in both the non-farm payroll report and the household survey. The headline net job gains of 138K significantly missed expectations. The prior two month reports were revised lower by 66K. The household survey was weak. None of my regular sources showed any enthusiasm about the employment picture. Calculated Risk summarizes the general reaction to this report.

    The headline jobs number was below expectations, and there were combined downward revisions to the previous two months.   Is this slowdown in hiring a short term issue, part of the normal business cycle, or due to a Trump Slump? My view is this slowdown in hiring is mostly part of the normal business cycle (my expectation was job growth would slow further this year).

    There was still some good news – especially with the unemployment rate falling to 4.3% (lowest since 2001), and U-6 falling to 8.4% (lowest since 2007).  But overall this was a disappointing report.

The Ugly

The opioid epidemic. Ohio is suing five drug companies for contributing to that state’s epidemic (Fortune). Some companies cannot find enough workers who can pass drug screening (Washington Post).

And at the low end of those trying to make a buck out of the, “addict brokers” find people whom they can induce to travel to a rehab facility. They qualify them for short-term insurance, and then abandon them after it runs out. (Stat).

The Silver Bullet

I occasionally give the Silver Bullet award to someone who takes up an unpopular or thankless cause, doing the real work to demonstrate the facts. This week’s award goes to David Templeton of HORAN Capital Advisors for his timely refutation

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