Import and Export Price Analysis, September 20, 2017

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Import and Export Prices
• Import Prices rose 0.6% vs. (E) 0.4% in August
• Export Prices rose 0.6% vs. (E) 0.2% in August

Takeaway
A normally overlooked price report, Import and Export Prices came out yesterday and the release is worth mentioning. The headlines showed a decent upside beat in both import and export prices, which underscored the uptick in inflation we saw last week in several overseas CPI reports including China, Britain and India.

The reason this is worth pointing out is the bond market. Over the last several weeks, firming inflation overseas has become a recurring theme that has started to influence global fixed income markets, including Treasuries, pushing yields higher despite the fact that US inflation still remains very low.

Bottom line, yesterday’s Import and Export Prices report is showing the effects of both a weaker dollar, but also the fact that global inflation is beginning to edge higher.

From a macroeconomic standpoint that is encouraging for the reflation trade argument.

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FOMC Preview, September 19, 2017

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On the surface, tomorrow’s FOMC meeting is expected to be relatively anti-climactic. The Fed is expected to go forward with balance sheet reduction while keeping interest rates unchanged. But, this is a meeting where the Fed will produce updated “dots,” and combined with the fact that the market is very complacent with regards to a December rate hike (i.e. the market doesn’t expect it) there is the chance for a hawkish surprise.

From a practical standpoint, the key here is how the 10- year yield reacts. If the Fed is marginally (or outright)  hawkish and the 10-year yield pushes through short-term resistance at 2.27% and longer-term resistance at 2.40%, that could be a tactical game changer and warrant profit taking in defensive sectors, and rotation to more cyclical sectors.

Hawkish If: The Fed provides a (very) mildly hawkish surprise if the “dots” show one more rate hike in 2017 (so unchanged from June). Specifically, in June four Fed votes expected just two rate hikes in 2017. If that number decreases to three or two, it will be a mild hawkish surprise. The Fed will provide a more serious hawkish surprise if the dots show another rate hike in ’17 and an additional rate hike in 2018 (so the median dots staying at 1.375% for ’17 and rising to 2.375% from the current 2.125% in ’18).

Likely Market Reaction. Stocks: If it’s a mildly hawkish surprise, then it should…(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

Meets Expectations If: There are no changes. The median dots still signal a December rate hike is expected, but one or two Fed officials change their dot to reflect just two rate hikes in 2017. That would imply a December rate hike is far from certain (matching the market’s current expectation) and it would be taken as mildly dovish.

Likely Market Reaction. Stocks: Cyclicals and bank stocks would likely see some…(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

Dovish If: The dots show that more than four Fed voters switch their dot to reflect no rate hike in December. That would effectively put a December rate hike off the table.

Likely Market Reaction. Stocks: A decidedly week (on a sector level). Stocks would likely rally in an
algo-driven…(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

Wildcard to Watch: Balance sheet reduction. Everyone expects the Fed to commence balance sheet reduction tomorrow, but they haven’t ever explicitly said they will reduce the balance sheet in September. So, there is a slim chance they might not, and that they might opt to wait for the next meeting (in November). This is a remote chance, as the Fed has clearly telegraphed the balance sheet will be reduced in September, but it’s possible for a last-minute change.

Likely Market Reaction: Very dovish…(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

In all likelihood, this Fed meeting should meet expectations, but that will leave the market at risk to a potential hawkish surprise later as investors are not pricing in a December rate hike despite the Fed signaling it all year.

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Weekly Market Preview, September 18, 2017

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Last Week in Review

Up until Friday, last week’s data looked like it was going to show “green shoots” of an economic reflation. But disappointing economic growth numbers on Friday off-set better inflation readings from earlier in the week, and while Hurricane Harvey likely impacted the growth data, the bottom line is the data just isn’t good enough to spur a rising tide for stocks.

From a Fed standpoint, the higher inflation data did increase the likelihood that we will get a December rate hike, although the market expectation of that remains below 50%. As such, increased expectations of a rate hike in the coming weeks could be a headwind on stocks, especially if economic data doesn’t improve.

Looking at last week’s data, the most important takeaway was that inflation appears to be bottoming. Chinese, (1.8% yoy vs. (E) 1.7% yoy), British (2.7% vs. (E) 2.5%), and US CPI (0.4% m/m vs. (E) 0.3%) all firmed up and beat expectations, and while it’s just one month’s data, it’s still a break of a pretty consistent downtrend.

That turn in inflation potentially matters, a lot, because it’s making central banks become more hawkish. The ECB is going to taper QE, the Bank of England is going to raise rates sooner rather than later (more on that in Currencies), the Fed may hike again in December and the Bank of Canada was the first major central bank to give us a surprise rate hike in nearly a decade. I’m going to be covering the implications of this a lot more this week, but the times, so it seems, they are a changin’.

That makes an acceleration in economic growth now even more important. Unfortunately, the growth data from last week was disappointing. July retail sales missed on the headline (-0.2% vs. (E) 0.1%) as did the
more important “Control” group (retail sales minus autos, gas and building materials). The “control” group fell to -0.2% vs. (E) 0.3%.

Additionally, Industrial Production also was a miss. Headline IP fell to -0.9% vs. (E) 0.1% while the manufacturing subcomponent declined to -0.3% vs. (E) 0.1%. Now, to be fair, Hurricane Harvey, which hit Southeast Texas, likely skewed the numbers negatively. But, the impact of that is unclear, and we can’t just dismiss these numbers because of the hurricane.

Bottom line, the unknown impact of Hurricane Harvey keeps this week’s data from eliciting a “stagflation” scare, given firm inflation and soft growth. But if this is the start of a trend, and it can’t be blamed on Harvey or Irma, then that’s a problem for stocks down the road. We need both inflation and growth to accelerate (and at the same time) to lift stocks to material new highs.

This Week’s Preview

The two key events for markets this week will be the Fed meeting on Wednesday, and the global flash PMIs on Friday.

Starting with the Fed, normally I’d assume this meeting will be anti-climactic, but it’s one of the meetings with the “dots” and economic projections, so there is the chance we get either a hawkish or dovish surprise. I’ll do my full FOMC Preview in tomorrow’s report, but the point here is don’t be fooled into a false sense of security if people you read say this meeting is going to be a non-event. It very well could be, but there’s a betterthan-expected chance for a surprise, too (and if I had to guess which way, I’d say it’d be a hawkish surprise… and that could hit stocks).

Turning then to the upcoming data, given the new-found incremental hawkishness of global central banks, strong growth data is more important than ever to avoid stagflation. We’ll want to see firm global manufacturing PMIs to keep stagflation concerns at bay. Looking more specifically at the US, Philly Fed comes Thursday and that will give us anecdotal insight into manufacturing activity, although the national flash PMI out the next day will effectively steal the thunder from the Philly report.

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Is an Economic Reflation Finally Starting, September 15, 2017

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Assuming that North Korea is another temporary headwind on stocks (and again it will be temporary as long as they don’t shoot a missile at Guam), then the bigger story of the week is the outperformance of the cyclical sectors and the underperformance of YTD sector outperformers (super-cap internet, utilities, etc.).

I continue to believe that if we are going to see the stock market extend this 2017 rally, it will have to be driven by the expectation of an economic reflation. And, after months of lack luster inflation data, this week provided some hope for that cause. Now, today’s growth data needs to be better than expected to complete the week.

But, even then, one month does not make a trend—so I’m not saying abandon utilities, healthcare and super cap internet for banks and small caps. All I’m saying is that we need to be prepared to make a switch, if we get the compelling signals in the near future.

Regardless, the upcoming economic data (especially the Core PCE Price Index at the end of the month) just got a lot more important.

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CPI Preview, September 14, 2017

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I normally don’t do CPI previews (sometimes if it’s a non-event number, I won’t even bother you with a CPI review), but this number is different for two reasons.

First, the fledgling hopes of an economic reflation have pushed stocks to new highs. Second, if this CPI report does meet or beat estimates, then it might continue the sector rotation that has seen cyclical sectors (banks in particular) outperform this week at the expense of YTD outperformers such as utilities, healthcare and super-cap internet. So, it will raise the question of whether a tactical rotation is necessary.

Hawkish If: Core CPI beats the 0.2% m/m expectation.
Likely Market Reaction (assuming it’s a small beat): Stocks should continue to rally. Look for Treasury yields and the dollar to continue to rally, and for..(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

Neutral If: Headline CPI meets the 0.3% m/m expectation while core CPI meets the 0.2% m/m expectation. Likely Market Reaction: A mild continuance of the…(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

Dovish If: CPI misses the headline or core expectations of 0.3% m/m or 0.2% m/m. Likely Market Reaction: An unwind of the…(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

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Green Shoots of A Global Reflation, September 13, 2017

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Are We Seeing “Green Shoots” of A Global Reflation?
• Chinese August CPI rose 1.8% yoy vs. (E) 1.7% yoy.
• British Core CPI rose 2.7% vs. (E) 2.5% yoy.

Takeaway

Are there “green shoots” of inflation? I reference the Bernanke comments regarding economic growth here, because very quietly we’ve seen two better-than-expected inflation numbers in two big economies (technically three if you count the uptick in Indian CPI, although that’s not widely followed).

August Chinese CPI beat (it came out Friday but couldn’t be priced in until markets opened on Monday) but it was the big uptick in core British CPI that saw the market extend the rally on Tuesday.

So, the logical question, given these two surprise beats is, “Will US CPI also surprise markets?”

The inclination is to believe in the trend, but to be clear, higher Chinese and British CPIs have no real bearing on US CPI—so strong numbers in those two reports don’t increase the likelihood of a strong CPI number.

But, if it comes, expect some potentially big market moves across Treasury yields, the dollar, and in stock
sector trading (banks and cyclicals will scream higher while defensives, including parts of tech, will likely badly lag). But again, that will depend on tomorrow’s number.

From a market standpoint, looking at the effects of the strong Chinese and British CPI, the clear ETF winner is…(withheld for subscribers only—unlock specifics and ETFs by signing up for a free two-week trial).

I continue to believe that an economic reflation (better growth, higher inflation) remains the key to a sustained US and global stock rally. And while two numbers don’t make a trend, they were the first positive surprises we’ve had on inflation in months, and we think that’s potentially very important (if it continues).

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New Stock Highs, September 12, 2017

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Stocks surged to a new record high on Monday after the damage from Hurricane Irma wasn’t as bad as feared, and in the absence of North Korea performing an ICBM test over the weekend. The S&P 500 rose 1.08%.

Stocks were higher from the start on Monday thanks to the two aforementioned positive catalysts: Hurricane Irma and North Korea. Both events turned out to be not as bad as feared, and that caused a classic “buyers chasing” rally.

Reflecting the fact that it was those two “not negative” macro catalysts that sent stocks higher on Monday was the fact that the S&P 500 gapped higher at the open and rallied throughout the morning on that buyers chase. Then, stocks spent the afternoon grinding sideways near the day’s highs.

Outside of Irma/North Korea, there weren’t any notable catalysts in the markets Monday. Economic data was non-existent, as was any notable political or geopolitical news (outside of North Korea). Also helping stocks rally was the fact that the week’s important events (CPI, Retail Sales, Industrial Production) are on Thursday and Friday, and there aren’t many looming catalysts on the calendar between now and then.

Stocks maintained their gains into the close to finish the day at a new all-time high.

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Weekly Market Cheat Sheet, September 11, 2017

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Last Week in Review

The economic data remains remarkably consistent: Growth data remains good but not great while inflation data relentlessly disappoints. From a market standpoint, that means that the economy isn’t at imminent risk of a material loss of momentum, but at the same time there are no signs of the type of acceleration that would lead to a rising tide carrying stocks higher.

From a Fed standpoint, inflation remains lackluster, and that’s causing a reduction in expectations for a December rate hike. That’s not a medium/longer-term good thing for stocks, because it further throws into doubt the chances for reflation—and economic reflation remains the key to sustainably higher stock prices.

Looking at last week’s data, there weren’t many numbers, but the numbers we got reinforced the “slow growth/low-inflation” trend.

The ISM Non-Manufacturing PMI (or service sector PMI) rose to 55.3 from 53.9. So, there was acceleration in activity in August. But that acceleration missed estimates of 55.8, and while a number in the mid-50s is solid, it’s not the type of number that implies we’re seeing real acceleration.

The other notable number last week that was largely ignored by the media was August productivity and unit labor costs. An uptick in productivity, if it’s consistent and material, could lead to an economic acceleration.

The reason for that is simple: The economy is basically at full employment. But, if those workers get more productive, the total economic output increases, and we get a stronger economy.

August productivity rose to 1.5% vs. (E) 1.3%, so that is a good sign. It’s not nearly the acceleration we need, but it’s a step in the right direction.

However, that productivity number wasn’t the important one from this release. The important number was unit labor costs. Rising unit labor costs is a precursor to larger inflation, so it’s an important number. And, unfortunately, it once again missed expectations. Unit labor costs rose 0.2% vs. (E) 0.3%, providing even more fodder for the “doves” on the Fed to not hike rates in December.

Finally, turning to the ECB meeting last week, you know by now it was slightly hawkish. Draghi signaled the ECB will reveal the details of QE tapering at the October meeting, and he again chose not to try and “talk down” the euro, which led to the euro hitting new multi-year highs (and the dollar hitting multi-year lows).

From a market standpoint, that dollar weakness is a slight tailwind on US stocks, although not a material one. Until we get better inflation or growth data here in the US, the trend of euro strength/dollar weakness will continue.

This Week’s Preview

All the important economic reports this week come out Thursday and Friday, which is nice because that gives us a bit of time to get ourselves squared away following all the hurricane issues from last week.

The most important number this week is CPI, out Thursday. As you know, inflation remains the key issue with the economy and Fed expectations. Frankly, we need CPI to start firming because it’ll give us hope of a looming economic reflation. If, however, this number disappoints, as it has for a few months, we’ll see new lows in the dollar and new lows in Treasury yields, neither of which are a good thing for stocks beyond the very short term.

After CPI, there are three important growth numbers out this Friday: Retail Sales, Industrial Production and Empire Manufacturing Survey.

Starting with the first two, remember there remains a large gap between “hard” economic data and surveys. Put plainly, actual economic data is not rising to the level that’s being implied by the PMIs and/or consumer confidence. The longer that occurs, the more likely it is that the surveys are exaggerating economic growth.

So, the sooner hard economic data begins to accelerate, the better. If retail sales and industrial production can beat estimates, that will be an economic positive.

Turning to Empire Manufacturing, that’s the first data point from September, and that’s always anecdotally important because we don’t want to see any steep drop off that might imply a loss of momentum.

Bottom line, this week gives us more color into the state of growth and inflation in August. We need to see both begin to accelerate if we are to hold out hope that we can see an economic reflation create a “rising tide” for stocks in Q4 ’17 or Q1 ’18.

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EIA Report Analysis and Oil Update, September 8, 2017

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Yesterday’s EIA report was taken with a grain of salt, as the effects of Hurricane Harvey badly skewed the data resulting in a print that was basically worthless from a fundamental analysis standpoint. As would be expected with a large number of refinery outages, crude stocks rose +4.6M bbls, but that was slightly less than estimates calling for a +5.0M build.

EIA Report Analysis and Oil Update

Meanwhile, both gasoline and heating oil inventories declined (as refineries runs were way down) by -3.2M bbls and -1.4M bbls, respectively (but both declines were smaller than expected). On balance, the headline prints were largely dismissed. WTI finished the day down 0.22% while RBOB gasoline futures fell 0.98%.

The production portion of the report was a little shocking at first glance, but at the same time, the data made sense when you consider the impact Harvey had on the Gulf Coast oil industry. Lower 48 production declined -783K b/d last week, or 94% of the 2017 output gains.

For perspective, the average weekly change coming into this week was +24K b/d. Like the headlines, the production data was largely overlooked by traders because the data was so badly skewed by Hurricane Harvey.

Looking ahead, it will be very important to watch the production data. If output does not recover in a swift manner that will be a bullish supply side development, as the relentless grind higher in US oil output has been the single-largest headwind for oil prices this year. For now, the outlook for oil is neutral with a bias to the downside, as nothing has changed materially enough to push futures through resistance between $50 and $54/barrel in WTI.

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Why the Debt Ceiling Deal Isn’t a Positive for Markets, September 7, 2017

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Bottom Line: Fischer & Debt Ceiling Not Market Positives

The two big news items Wednesday were the resignation of Fed Vice Chair Fischer, and the agreement on a three-month debt ceiling extension/government funding deal.

Starting with the former, Fischer’s resignation makes the Fed very slightly more dovish (Fischer was a modest hawk) but really the future path of Fed interest rates depends a lot more on inflation data than it does Fed personnel.

From a market standpoint, the odds of a December rate hike appropriately declined slightly Tuesday. But again, Fischer’s departure isn’t a dovish gamechanger, and if inflation metrics move higher between now and December we’ll still get a rate hike. From a stock standpoint, other than the temporary pop yesterday, I don’t see this news as an influence.

Turning to Washington, as usual, politicians have kicked the can down the road. On a positive note, we won’t see a debt ceiling drama or shutdown drama in late-September.

On a negative note, we likely will see an even more intense budget battle into the year-end. This will be all the more contentious because now tax cuts will be thrown into the mix, assuming Republicans have a concrete plan by then.

From a market standpoint, this is a very short-term positive in so much as it removes the possibility of a crisis over the next few weeks.

However, it sets up an even bigger potential negative into the end of the year. Bottom line, the debt ceiling/government funding agreement is not an incremental positive for markets, and we don’t expect it to push stocks higher from here.

In sum, both of Wednesday’s headlines had no real impact on our overarching macro view. We remain cautiously positive on stocks, but continue to believe that tax cuts and earnings hold the key to performance for the remainder of 2017.

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