You made my day
Will the stock and bond rallies have staying power?
An early flight to Kalamazoo this week, and the gentlemen in front of me paid for my Starbucks. “Why?” I asked. “Because it’s that kind of day.” “You are too kind, you made my day,” I thanked him. Yes, there really is a Kalamazoo. The city’s most recognizable ad can be found on coffee cups, buttons and coffee mugs, one of which I received on a visit some years ago. Kalamazoo made the 2023-24 U.S. News and World Report list of 150 Best Places to Live in the U.S. and, according to surveys, had the lowest cost of living in the country among cities in the first quarter of 2022. No wonder I received so many smiles during my stay. “You made my day!” replied my local colleague when I noted that he’s a dead ringer for a young Pittsburgh Penguins Sidney Crosby. Same reply (!) that evening from our server at dinner when I remarked that she looks just like a young Christina Applegate. My meetings came the same day as the Fed’s, which as expected held, with Powell’s presser seeming to reinforce expectations policymakers are done. Recession discussions have virtually disappeared in management conference calls. Consumers and businesses that locked in low borrowing rates may help explain why. Over 75% of S&P 500 debt is long-term fixed, and only 15% of investment-grade bond debt will refinance in the next two years. Among consumers, the Fed’s latest triennial survey found the ratio of debt to total assets fell to a 20-year low from 2019 through 2022, with the median payment-to-income ratio its lowest level ever. Resilient businesses and consumers. Higher for longer, longer.
Not that the most restrictive rate policy in decades (10-year real rates are at a 16-year high) aren’t increasingly taking a bite. Housing’s (more below) the starkest example. Regional bank stress, too. Now, perhaps jobs (more below). On top of the strongest quarter for GDP since 2021, the Atlanta Fed’s GDPNow tracker for Q4 GDP growth plunged to 1.2% from 2.3% this past week. On an equal weight basis, Consumer Discretionary vs. Staples is trading at a 3-month low, suggesting the market sees a weaker consumer ahead. The latest ISMs and PMIs weakened, too (more below). As good as Q3 earnings have been—with half of S&P companies reporting, the expected earnings growth rate has jumped to 4.3% from 1.6% on Oct. 1—silence on 2024 guidance has been deafening. Goldman Sachs blames uncertainty about the geopolitical environment, consumer spending, the future path of interest rates, etc. With interest-rate sticker shock for new or rolled-over debt for both consumers and businesses, Strategas Research thinks what happens next is all about jobs.
This week’s equity run-up after the worst October in five years can be explained by many factors. Seasonality (November historically is the best month, November-December the best two months and dating back a century, the S&P autumnal low has occurred on Oct. 27 on average). Sentiment (AAII bearish sentiment at highs for the year). Last month’s massive tax-loss selling by large stock and bond funds. Just after near-record short positioning in Treasuries, should we trust their big rally? Treasury Secretary Yellen’s attributed this year’s sell-off to a stronger-than-expected economy, not record deficits. But federal debt as a percentage of GDP is on track to hit 98% of GDP this year, more than twice the 50-year historical average and eight points from the record of 106%, just after World War II. With $1 trillion of Q3 borrowings, U.S. Treasury marketable securities held by the public is a record $25.7 trillion, up $9 trillion since January 2020. It’s scheduled to reach $27.3 trillion over the next six months. Doesn’t this imply higher for longer, longer? There were lots of nodding heads at this week’s investor dinner presentation as I suggested future returns will be more modest while we deal with exploding federal debt. An executive at a large consulting firm wonders why his young consultants seem to have stopped quitting, leaving him with “700 too many on our bench.” (Fits with a falling “quits’’ rate hovering near a 2.5-year low, suggesting a further easing of wage pressures.) Indeed, labor-hoarding employees are a low-hanging cost-cutting expense that may be increasingly tapped in the higher for longer, longer months ahead. The same executive responded to my suggestion AI will likely increase productivity and prevent a serious recession. “Seems like a solution looking for a problem that it can’t find.” Disagree! Productivity just might save the day.
Positives
- Bad news is good news October’s below-consensus (and narrower—only half of industries added workers) nonfarm jobs increase, downward revisions to prior months, the first decline in labor force participation in a year, an increase in the jobless rate to a 21-month high and further moderation in hourly earnings growth added to evidence of a cooling labor market. JOLTS showed the hiring rate holding steady a third straight month and Challenger said holiday hiring is at its lowest for this point in a year since 2013.
- Productivity just might save the day It accelerated strongly in Q3 off an upwardly revised Q2, helping net unit labor costs (compensation minus productivity) actually decline despite elevated albeit moderating wage growth. This in part was due to weakening employment (self-employed and unpaid family workers also are counted and have been weaker than nonfarm payrolls) as companies slowed hiring, cut hours and turned to automation. A big positive for margins if this trend continues.
- Consumers won’t go down easily Conference Board confidence fell to a 5-month low in October but still came in above consensus and off an upwardly revised September. Several details suggested resilience. Vacation intentions to a foreign country jumped to a fresh record. The number saying jobs were “hard to get” declined. The number assessing their family financial conditions as “good” rose. And plans to purchase appliances and autos in the next six months also increased.
Negatives
- Good news is bad news The Fed follows the data, and the high-frequency evidence of late reflect an economy that’s still accelerating. Weekly Redbook same-store sales advanced at their fastest pace since February. Y/y raw steel production rose a seventh straight week. Weekly intermodal rail traffic jumped 2.2% y/y. October vehicle sales topped forecasts. And U.S. crude oil production set a new all-time high.
- Bad news is bad news The October update of the global manufacturing PMI sent a pessimistic signal about the industrial cycle, with the decline in the headline indicating a faster pace of deterioration. The U.S. manufacturing ISM also contracted an 11th straight month, and the U.S. services ISM fell more than expected but stayed expansionary.
- Housing doldrums 30-year mortgage rates at 30-year highs. A resumption of home price appreciation as FHFA and CoreLogic indexes surpassed 2022 peaks. A dearth of available homes with owners holding sub-4% mortgages (the effective average rate is 3.6%) in no rush to sell. Declining affordability and choices causing mortgage purchase applications to fall a fifth time in six weeks to 1995 lows. Single-family construction up a fifth straight month as builders rush to fill the gap.
What else
Water, water everywhere? Bank of America says the U.S. is running out so fast that by 2040, we might not have enough freshwater to go around. Demand has jumped 40% since the ’70s—U.S. datacenters alone are now the 10th largest consumer of water—and our water infrastructure is so old that every 2 minutes, there’s a water break. Microplastics have been found in 83% of tap water. Fashion is a drain, too—it would take 3 years to drink the amount of water needed to make 1 T-shirt.
QE on trial No one Strategas knows would claim the global financial crisis would not qualify for the implementation of quantitative easing. But such extraordinary measures were only to be used in the context of “exigent circumstances.” In as much as the Fed is a group of political appointees not directly accountable to the American people, that QE continued long after the GFC as a tool to solve all the world’s problems, from unemployment to social justice to climate change, arguably was illegal.
Election Day is one year from Sunday And Strategas is watching next week’s state elections for clues for how well Dems might do in 2024. The voting comes as President Biden’s approval rating is at 37%, matching a low for his term, Gallup says. Support from Dems alone plunged 11 points in October to 75%, the worst of his presidency. Despite Biden’s unpopularity, Dems have won the majority of special elections so far this year, outperforming by an average of 11 points.