Posts

The Case for Europe, March 21, 2017

/in /by

Sevens Report - The Case for EuropeThe Case for Europe, an excerpt from today’s full Sevens Report. Join hundreds of advisors from huge brokerage firms like Morgan Stanley, Merrill Lynch, Wells Fargo Advisors, Raymond James and more… see if The Sevens Report is right for you with a free trial.

For the past several weeks, I’ve been consistently mentioning Europe as an attractive tactical investment idea. Today, I wanted to more fully lay out the investment thesis, one that is based on 1) Compelling relative valuation, 2) Continued central bank support (i.e. QE), and 3) Overestimation of political risks.

I believe those three factors have created an attractive medium-term risk/reward opportunity in European stocks, and I believe the region can outperform the US over the coming months, especially if we see policy disappointment from Washington.

Bullish Factor #1: Compelling Relative Valuation.

The reasoning here is simple. The S&P 500 is trading at the top end of historical valuations: 18.25X 2017 EPS, and 17.75X 2018 EPS. There’s not much room for those multiples to go higher, and if we get policy disappointment or the economic data loses momentum, markets could hit a nasty air pocket.

Conversely, the MSCI Europe Index is trading at 15.1X 2017 earnings, and 13.8X 2018 earnings. That’s a 17% and 22% discount to the US. So while it’s true Europe should trade at a lower multiple vs. the US given the still-slow growth and political issues, those discounts are pretty compelling. In a world where most equity indices and sectors are fully valued, Europe offers value.

Bullish Factor #2: Ongoing Central Bank Support.

This one also is pretty simple… the ECB is still doing QE. The ECB is still planning to buy 60 billion euros worth of bonds through December of this year. That will support the economy, help earnings and push inflation higher, all of which are positive for stocks. Now, there is a risk that the ECB could begin to taper its QE program before December, or end it all together in December, but neither risk looms immediately, and the much more likely result is that the ECB tapers QE starting in 2018 and ends the program in June 2018. In that scenario, the outlook for Europe over the coming months remains positive.

Bullish Factor #3: Overblown political risk.

We’ve been talking about this for a while, but the fact is that political risks in Europe are overblown, and just like people underappreciated risks in 2016, I believe they are now overreacting to Brexit and Trump by extrapolating those results too far.

Going forward, there are really two important elections this year: France and Germany. The worry is that far-right candidate Marine Le Pen will win the presidency, but that remains extremely unlikely. The top end of her support looks to be just 25%, which might be enough to win the first round of voting (where voters will cast ballots for no less than 11 candidates). Yet according to all the polling, she badly loses the second round of voting by margins as big as 30% to 70%. Point being, Le Pen is not Brexit, and she’s not Trump.

Second, Germany will have elections in September, and Social Democrat leader Martin Schulz will challenge Merkel for the Prime Minster position. Schultz is a former President of the European Parliament, and he’s not anti EU at all. So, if he wins, from an EU outlook standpoint, it isn’t a negative. Now, I’m not going to get into the details of his politics, because they aren’t yet important for this investment. The bigger point is that it’s not really a problem for the European economy if Schultz wins. Bottom line, we’ve done well in international investments in the past (Japan during Abenomics, Europe when they started QE), and we believe this is another opportunity to outperform.

How to Play It: VGK vs. EZU vs. HEDJ. For subscribers only.

This is a volatile, politically sensitive investment landscape, here in the US and in global markets, the Sevens Report can help you stay ahead of the changes, and know the right thing to say to calm concerned clients. Sign up to get your free two-week trial today.

What to Expect in Tomorrow’s Jobs Report. March 9, 2017

/in /by

Jobs Report Preview: For notable releases like tomorrow’s jobs report, the Sevens Report offers a “Goldilocks” outlook to give a few different scenarios: too hot, too cold, and just right.

This gives our subscribers clear talking points to explain the importance of the report to clients and prospects clearly and without a lot of jargon. As always, the Sevens Report is designed to help you cut through the noise and understand what’s truly driving markets—all in seven minutes or less and in your inbox by 7am each morning. Sign up for your free 2-week trial today and see the difference this report can make for you.

Wednesday’s ADP Jobs Report clearly put upward pressure on expectations for tomorrow’s government report. And, there’s good reason for that. Over the past five months, the ADP report has been within 10k jobs of the official jobs report (the one outlier was November, when ADP was 50k over the actual jobs report). So, yesterday’s 298k jobs blowout implies a big number tomorrow.

Given that, the major issue for tomorrow’s jobs report is simple: Will it cause the Fed to consider more than three rate hikes in 2017? If the answer is “yes,” than that’s a headwind on stocks. If the answer is “no,” then it shouldn’t derail the rally.

Getting a bit more specific, the only reason the dollar is still generally stuck at resistance at 102 (and below the recent high at 103), and the 10-year yield is still below 2.60% is because the market assumes that the Fed will still only hike rates three times this year.

If that assumption gets called into doubt via a very strong jobs and wage number tomorrow, we will see the Dollar Index likely surge through 103 and the 10-year yield bust to new highs above 2.60%, and then they will begin to exert at least some headwind on stocks.

So, tomorrow’s jobs report is potentially the most important jobs number in years, as it has the ability to fundamentally alter the market’s perception of just how “gradual” the Fed will be in hiking rates.

“Too Hot” Scenario (Potential for More than Three Rate Hikes in 2017)

  • >250k Job Adds, < 4.9% Unemployment, > 2.9% YOY wage increase. A number this hot would likely ignite the debate about whether the Fed will hike more than three times this year (or more than 75 basis points if the Fed hikes 50 in one meeting). Likely Market Reaction: Restricted for subscribers: Access today by signing up for your free 2-week trial.

“Just Right” Scenario (A March Rate Hike Is A Guarantee, But Three Hikes for 2017 Remain the Expectation)

  • 125k–250k Job Adds, > 5.0% Unemployment Rate, 2.5%-2.8% YOY wage increase. This is the best-case scenario for stocks, as it would imply still-stable job growth, but not materially increase the chances for more than three rate hikes in 2017. This is the most positive outcome for stocks. Likely Market Reaction: Restricted for subscribers: Access today by signing up for your free 2-week trial.

“Too Cold” Scenario (A March Hike Becomes in Doubt)

  • < 125k Job Adds. This would be dovish, and while the fallout would be less than previous months given the market’s focus on future growth, the bottom line is bad economic data still isn’t good for stocks. Dovish isn’t bullish any-more. Likely Market Reaction: Restricted for subscribers: Access today by signing up for your free 2-week trial.

Join hundreds of advisors from huge brokerage firms like Morgan Stanley, Merrill Lynch, Wells Fargo Advisors, Raymond James and more… see if the Sevens Report is right for you.

How Does Trump’s Approval Rating Impact The Stock Market? March 8, 2017

/in /by

Leading Indicator Update: Showing Signs of Fatigue

An excerpt from today’s Sevens Report… Skip the jargon, arcane details and drab statistics, and get the simple analysis that will improve your performance.

At the start of the year, I said that beyond the normal economic data and fund flow data, we’ll be watching two other specific leading indicators:

  • Trump’s approval rating, and the
  • Semiconductor Index.

As a refresher, we watch Trump’s approval rating because it is an imperfect, but still effective, measure of political capital.

Earlier this year, we said that if his approval rating dips in the weeks and months following Inauguration Day, that won’t be a positive sign for corporate tax cuts (i.e. it will be stock negative). Conversely, if his approval ratings rise following his inauguration, the chances of tax reform will rise (i.e. it will be stock positive).

Turning to the Semiconductor Index (see chart on Pg. 1), we view semiconductors as a destination for incremental capital that comes off the sidelines or out of bonds.

It’s our proxy for money flows, or “chasing” into the US markets.

That reasoning here is based on watching the price action in semis and observing that they handily outperformed post election (implying they were a destination for capital coming off the sidelines), and we continue to believe that is the case.

LI #1: Trump’s Approval Rating Updated. The outlook here hasn’t been that positive, and the movement in the approval rating anecdotally confirms our opinion that the market remains too optimistic regarding corporate tax cuts in 2017.

Why is the president’s approval rating a leading indicator?

From a broad standpoint, Trump’s approve/disapprove gap has gotten worse since the inauguration, and we think that represents a slight erosion of political capital.

Last week, we saw a slight bounce following his speech to Congress, but the numbers look to be rolling over again.

I am particularly focused on his raw approval rating numbers (as opposed to just the spread between approve/disapprove). So, while the spread between approve/disapprove has gotten worse, the reason this leading indicator isn’t flashing negative for me is because Trump’s raw approval rating is still about the same as it’s been since the inauguration (about 44%).

However, if that raw number were to drop below 40%, I would view that as a material negative for pro-growth policies… and a potential negative for stocks.

LI #2: Semiconductor Index Updated. The Philadelphia Semiconductor Index, our loose proxy for incremental money flows out of bonds/other assets and into stocks, has until recently confirmed the 2017 rally.

The SOX rallied 9% from the first of the year till February 22, at which point the index stalled, and it’s traded side-way for nearly two weeks.

Going forward, support at 955.11 now is an important level to watch, as a break of that level would constitute a “lower low” on the charts.

Below that, support at the 20-day moving average at 947.25 has supported this index three times over the past few months. So, that also will be an important level to watch.

Bottom Line

Neither of these leading indicators have sent a non-confirmation signal of the rally at this point. Yet after confirming the rally earlier this year, both of these leading indicators are starting to wobble.

Again, we’ll be watching 40 in Trump’s approval rating and 955 and 947 in the SOX. If those levels are broken that will likely prompt us to become more defensive near term for stocks.

Join hundreds of advisors from huge brokerage firms like Morgan Stanley, Merrill Lynch, Wells Fargo Advisors, Raymond James and more… see if The Sevens Report is right for you.

Senate Math Primer. March 7, 2017

/in /by

Senate Math Primer from the Sevens Report: One of the easiest ways to cut through the seemingly unending amount of political noise in the markets is to focus on the fact that there are only two important questions that need to be answered.

  1. Will Republicans agree on border adjustments and a corporate tax cut?
  2. Can that plan get approved in the Senate?
Senate in Session

Republicans have a simple 52 to 48 majority—but that’s not really that powerful.

We’ve already covered the first question from multiple angles in the full subscriber edition of the Sevens Report, but I think the second question is just as important.

In fact, part of the reason I’m covering this is because I get the sense that a lot of people think that once a plan has general Republican support it will automatically become law, because Republicans “control” the House, Senate and the presidency.

While the first and the last are truly under control from Republican leadership, the Senate is anything but.

Looking at the math, as mentioned yesterday, Republicans have a simple 52 to 48 majority—but that’s not really that powerful.

First, it’s well short of a filibuster-proof 60-person majority, and there’s zero chance eight Democrats will break with Republicans on Obamacare or corporate tax cuts.

That’s why both those issues have to be passed via a budget process called “reconciliation.” Reconciliation only requires a simple majority, so 52 to 48 would work.

But, it gets more complicated than that.

First, to say Republicans have a hard 52 votes on any issue is an overstatement. Senator Susan Collins of Maine (technically a Republican) acts much more like an independent. The same can be said for Alaska Senator Murkowski (she’s taking a hard line against supporting an Obamacare repeal that rolls back Medicaid expansion).

Then, there are Senators McCain and Graham. Both are solid Republican votes, but I think it’s fair to say they despise President Trump for multiple reasons. So while it’s unlikely they’d derail passage of Obamacare repeal/replace or tax cuts, they are going to be tough “gets.”

Finally, Rand Paul is more Libertarian than Republican, and he (and others) will have a hard line approach to any tax cuts that might increase the deficit.

Bottom line, while Republicans “control” the legislative and executive branches of government, the Senate is still a bottleneck in the legislative process, and getting Obamacare repeal/replace through the Senate by Memorial Day will be a tough task—never mind corporate tax reform by the August recess (remember, there aren’t even hearings scheduled for the Supreme Court nominee yet).

Again, I’m not trying to throw cold water on this rally, or the optimism fueling it. I’m just trying to keep everyone focused on facts, and the outlook for passage of major reforms through the Senate remains dicey at best.

Cut through the noise and understand what’s truly driving markets, as this new political and economic reality evolves. The Sevens Report is the daily market cheat sheet our subscribers use to keep up on markets, seize opportunities, avoid risks and get more assets. Sign up for your 2-week free trial at 7sReport.com.

Why It’s Time to Buy Insurance—Right Now! March 1, 2017

/in /by

This is an excerpt from today’s Sevens Report. To get your free 2-week trial, sign up now!

The Practical Takeaway from Low Volatility

One of the bigger conundrums right now is that volatility in the stock market is plumbing multi-year lows despite the presence of multiple major and binary events that will resolve themselves positively or negatively in the coming months.

Some examples (just to name a few): When/if we will get corporate tax reform? Will the US institute tariffs? Will interest rates continue to move higher? Is inflation finally back?

Each of these events could easily cause a pullback in stocks of at least 10%, yet investors seem unimpressed. Case in point, the VIX recently hit 9.97, which is a multi-year low.

Now, the obvious question is… “Why is implied volatility so low?”

First, implied volatility is low because the macro-economic backdrop has been supportive, and stocks have relentlessly gone straight up since November. This has been the longest stretch without a 1% decline in decades.

However, there is a second reason.

The lack of volatility has invited investors and funds to sell options (specifically puts) and collect premium. Given the lack of volatility, that’s been a profitable strategy, and it has invited more competition.

So, more investors selling options (i.e. selling volatility and collecting premium) pushes the price down, and that’s why implied option volatility (which is what the VIX is based on) has dropped extra low.

Normally, this would catch my attention, but a conversation I had with a friend in the insurance business made me both intrigued and concerned that this inherent “complacency” is prevalent throughout the economy. Here’s why.

It's time to buy insurance.

I’ve almost never been an advocate of buying puts… yet buying puts to preserve market performance may not be a bad idea.

He said in his entire career, commercial and property insurance rates have never been lower than they are now.

And, if you think about it, I guess that makes sense.

I started my conversation with him because I asked my friend if my property insurance would go up because of Hurricane Matthew last year, and he said, “No way.”

He went on to tell me that the insurance companies are so flush with cash, they are just dying to write contracts to take in premium, and with so many competitors out there, it’s caused the price of insurance to drop sharply.

Empirically, that makes sense. With bond yields so low, insurance companies need to generate income and writing insurance over the past several years has been profitable (broadly speaking, we haven’t had any major disasters for the non-health insurance business).

But at this point, my friend remarked that it’s getting a bit ridiculous, as insurance companies are taking on a lot of exposure just to collect a little bit in premium (at least according to his experience).

Practical Takeaways

First, don’t assume that a low VIX means a drop in the stock market is looming. Implied volatility can’t get much lower, but it can stay down here for a while.

Volatility stayed around these levels for about two years in the ’93-’95 period, and again in the ’05-’07 period. Point being, low VIX is not a reason to expect a correction.

Second, insurance in the market (i.e. puts) is cheap, so we should consider buying insurance (i.e. buying puts).

As I said in Monday’s report, I’m almost never been an advocate of buying puts because I hate buying insurance.

Yet given we could easily see an air pocket open up in this market if corporate tax reform dies, or the Fed hikes rates in March, buying puts to preserve performance may not be a bad idea.

For less-experienced options investors, just buying near-the-money puts here might make sense.

For more experienced options investors, buying an at-the-money put and selling an out-of-the-money put may be attractive.

Here’s my logic. We think there’s strong support for the market around 2275, so as long as fundamentals are generally “ok,” we’d be ok buying the S&P 500 at that level.

So, we could sell 2275 puts (meaning we’d get put the stock at that level) and then use those proceeds to reduce the cost of an at the money put, say at 2370. That way, we’ve insured ourselves against any 5% or less drop in stocks, and also have the opportunity to buy the mar-ket cheaper at a level we’re comfortable with.

Third, actual insurance appears cheap, so I’m re-pricing life insurance and other insurance to try and lock in low prices.

Finally, generally, the idea that low yields and a chase for income is pushing both investors and insurance companies to increase exposure in exchange for reduced compensation is making my blood pressure go up.

As we’ve all seen, this can last for a long time, so it doesn’t mean a calamity is around the corner. Still, we all know that’s the kind of anecdotal behavior that leads to nasty consequences. Here’s to hoping it’s different this time.

For a monthly cost of less than one client lunch, we firmly believe we offer the best value in the independent research space. Subscribe to your free 2-week trial of the Sevens Report now.

The Political Outlook for Stimulus is Darkening, February 28, 2017

/in /by

This is an excerpt from today’s Sevens Report. The Sevens Report is the daily market cheat sheet our subscribers use to keep up on markets, seize opportunities, avoid risks and get more assets. Sign up for a free 2 week trial.

It’s obviously impossible to say “when” this will matter to stocks, but I want to make very clear to everyone that the political outlook for stimulus is darkening, and the chance of any pro-growth measures hitting the markets in 2017 are falling, quickly… and sooner or later that will be a problem for this market.

To that point, yesterday there were three separate areas where the outlook for fiscal stimulus darkened. First, while Treasury Secretary Mnuchin did a good job in both his major interviews (WSJ and CNBC) he didn’t add anything incremental regarding corporate tax cuts, and was downright vague on the idea of border adjustments, which is the key to corporate tax cuts.

Yes, he did say he expects a broad corporate tax reform bill by the August recess, but that’s just repeating what Speaker Ryan has said (i.e., nothing new). Bottom line, the outlook for corporate tax cuts in 2017 (and maybe at all) continues to get worse.

Paul Ryan

Speaker Paul Ryan has said he expects a broad corporate tax reform bill by the August recess. The outlook for corporate tax cuts in 2017 continues to get worse.

There were some additional headlines regarding this issue late yesterday afternoon when President Trump told Reuters he supported “some form of border tax.” Markets initially took this as a positive (implying he was supportive of border adjustments) but that’s premature because what he meant was unclear as his subsequent comments more implied he supported tariffs in some form (not the full scale border adjustments needed to pass corporate tax reform).

Beyond Trump’s comments, the major hurdle for border adjustments and corporate tax reform remains in the Senate. There is little support for that idea in the Senate currently, and until that chances, corporate tax reform is unlikely.

Second, Axios reported that Trump is punting infrastructure spending to 2018. That was treated as a notable headline yesterday, but we and others have been saying for weeks now that infrastructure spending never was on the table for 2017. So, while this isn’t an incremental negative for the market, it was a headline that we wanted to cover.

Third, as we’ve covered, the way things are looking right now Republicans must get the repeal/replace of Obamacare done before they can tackle corporate tax reform. Well, Politico reported that Republican Alaska Senator Murkowski won’t vote for any repeal/replace that reduces the Medicaid expansion. With just a 53/47 majority in the Senate, the chances of just getting 50 votes on a repeal/replace continue to dwindle, and by all reports Republicans remain fractured on how to handle the repeal/replace.

Now, I’m not pointing this out for political reason (you know I’m politically agnostic in this Report). The reason I am pointing it out is simple: No Obamacare repeal/replace, then no corporate tax cuts in 2017, and that’s a problem for stocks (how much of a problem will depend on economic growth, inflation and interest rates, but it’s still a problem).

Bottom line, I don’t want to sound like the boy who cried wolf, but I just want to point out consistently and clearly that the gap between market policy expectations and policy reality is widening—and again, that’s a risk that should not be ignored.

This is a volatile, politically sensitive investment landscape—you need the Sevens Report to stay ahead of the changes, and to calm worried clients.

The FOMC Expects a Rate Hike “Fairly Soon” – Here’s What We Think That Means. February 27, 2017.

/in /by

This is an excerpt from today’s Sevens Report. You can get a free 2-week trial and see for yourself how the Sevens Report can give you fresh talking points for your client conversations, and help you outperform your peers. Read on to see our predictions for when the FOMC will announce the next rate hike.

There were only two notable economic events last week and neither were particularly positive for stocks (although they weren’t outright negatives). For weeks, the economic data has been supporting markets through consistent policy disappointment from Washington, so it’s notable that last week the data wasn’t particularly supportive, and incremental disappointment finally weighed slightly on stocks. Going forward, with policy outlook continuing to dim, data will need to be consistently good to further support this rally.

Last Week

Looking at last week’s data, the February flash PMIs (both manufacturing and service sector) were surprisingly disappointing. The flash manufacturing PMI declined to 54.3 vs. (E) 55.5, which was a surprise miss given the very strong Empire and Philly surveys from two weeks ago. The flash services PMI also missed estimates at 53.9 vs. (E) 55.9, again posting a surprise decline. Additionally, most of the details in these reports, including New Orders in the manufacturing PMI (which is a leading indicator), also fell. Meanwhile, the manufacturing input price index rose slightly while the selling price index declined slightly, implying margin compression in the manufacturing sector.

Now, to be fair, the absolute levels of these two PMIs remain high and by no means does the mild pullback imply a loss of economic momentum. However, the market needs consistently better data to offset the noise from Washington, and that didn’t happen last week.

The FOMC expects another rate hike "fairly soon," but it is unlikely to be in March 2017.

The FOMC expects another rate hike “fairly soon,” but it is unlikely to be next month.

The FOMC minutes were the other notable economic event last week, and while the minutes were taken as slightly dovish by the currency and bond markets, in reality they only confirmed that May is now (in our opinion) the next likely date for a rate hike.

The key phrase in the minutes was the FOMC expected another rate hike “fairly soon.” The reason that was taken as slightly dovish is because fairly soon isn’t the “next meeting” (that’s what has appeared in the FOMC minutes before the previous two rate hikes). The takeaway is that a March hike is unlikely, though that’s not incrementally dovish because the market wasn’t expecting a March rate hike anyway. If we get a strong inflation number this week and a strong jobs report Friday, odds of a March rate hike could creep closer to 50% from the current 22% (and that could be a headwind on stocks).

This Week

This will be a busy and important week for the economy as we get some critical data on growth and inflation, and if stocks can maintain this rally, the former needs to be strong and the latter doesn’t. The most important number this week is the PCE Price Index contained in Wednesday’s Personal Income and Outlays report. February CPI and PPI were both much stronger than expected, and if the Core PCE Price Index (which is the Fed’s preferred measure of inflation) moves close to 2% (currently at 1.6%) then we will see expectations for a March rate hike increase, and that will send Treasury yields higher and send the dollar higher—and that will put a headwind on stocks.

The next most important number this week is the ISM Manufacturing PMI, out Wednesday. Normally, this would be the most important number of the week, but even if this confirms last week’s flash PMI and pulls back a bit from January, it’s still a very high absolute level and it will take several months of declines before anyone would get worried about activity in the manufacturing sector. Nonetheless, it is still a critical number and if it’s soft we could see a bit of stock weakness.

There are other notable reports this week including Durable Goods (today) and the services PMI (Friday). Finally, revised Q4 GDP comes Tuesday, and analysts are still looking for around 2% growth (Q4 GDP was 1.9% in the advanced look last month). As we said, all the data is important given strong data has helped offset growing policy worries, so these number meeting or beating estimates will be generally supportive. Bottom line, data needs to stay good and inflation needs to stay tame in order to support this market, because Washington policy expectations are a growing headwind.

Join hundreds of advisors from huge brokerage firms like Morgan Stanley, Merrill Lynch, Wells Fargo Advisors, Raymond James and more… see if the Sevens Report is right for you with a free 2 week trial.

Real Economics vs. Trump’s Washington Buzz

/in /by

As has been the case since the election, the political noise in the market is deafening.

But cutting through that noise, the reality is this: The gap between market expectations from Washington and the current reality has grown significantly in the month since Trump’s inauguration, and it is not an understatement to say that political disappointment risk is now very high.

Is Trump News Affecting Markets?

Specifically, Trump noise aside, all signs point to massive fractures in the Republican Party over the repeal/replace of Obamacare, and over border adjustments (the key to any material corporate tax reform).

To boot, the constant drama and infighting is draining Trump’s political capital even before we get close to deals on Obamacare and taxes. Specifically, the immigration ban battle, the Gen. Flynn drama, and the Puzder (the Labor Secretary nominee) withdrawal (where a full 12 Republican Senators would have voted against him) all are combining to reduce the likelihood of anything substantial on taxes.

Bottom line, the only thing politically that really matters to markets is tax cuts. But given the fractures appearing on Obamacare and border adjustments, the likelihood of material, pro-growth policy is fading… and fast.

Last week, Trump again touted fantastic things coming up, and Ryan promised an Obamacare repeal/replace by the end of February. Yet neither actually mean any progress (for that we need Republican support for bills in the Senate, and that’s lacking).

Going forward, a key date emerging on the calendar is February 28, when Trump is due to give an address before Congress (first year Presidents give this address instead of a State of the Union).

If there is no material progress on a compromise on a Obamacare repeal/replace or border adjustments within corporate tax reform by this address, then the political reality could begin to weigh on markets as investors begin to lose hope of pro-growth reforms in 2017.

Cut through the noise and understand what’s truly driving markets, as this new political and economic reality evolves with the Sevens Report. Get a free two-week trial: www.7sReport.com.

Disappointing Numbers from Flash February Manufacturing & Service PMIs: February 22, 2017

/in /by

Below is an excerpt from the “Economics” section of the Sevens Report. The Sevens Report has everything you need to know about the markets by 7am each morning in 7 minutes or less—can get a free trial if you sign up now.

Flash February Manufacturing & Service PMIs

  • Feb. Manufacturing PMI declined to 54.3 vs. (E) 55.5.
  • Fed. Service PMI declined to 53.9 vs. (E) 55.9.

Takeaway

In what was a surprising contradiction to last week’s very strong Empire and Philly manufacturing PMIs, both flash PMIs declined, and implied increased stagflation risk, signaling that further economic acceleration is not a foregone conclusion.

Now, to be clear, neither number was outright bad in an absolute sense. Both numbers in aggregate are reflective of a decently strong economy. Yet in order to power stocks higher in the context of growing political dysfunction, data needs to continue to show acceleration, and neither of these flash PMIs showed acceleration.

Declines in Nearly Every Sub Index of the PMI

Looking specifically at the manufacturing PMI, New Orders, the leading indicator in the Report, dipped to 56.2 from 57.4 (still a very high absolute reading but a decline nonetheless). In fact, virtually every sub index declined in February except for input prices, which rose slightly to 56.1 from 56.0. Notably, output prices (i.e. selling prices) dipped slightly to 51.7 vs. 51.9, which is indicative of margin compression. One number doesn’t make a trend, but that’s something to keep an eye on.

Bottom line, the flash PMIs are one of the bigger economic numbers each month, and this was a surprising disappointment. It won’t change the trajectory of the rally near term, but strong (and stronger) economic data is a critical support to this market, especially in the face of growing doubts in Washington. So, the rest of February’s data just got a lot more interesting.

Get the simple talking points you need to impress clients and prospects. Sign up for your free trial today: The Sevens Report.

Economics: This Week and Last Week. February 21, 2017

/in /by

An excerpt from today’s Sevens Report. Subscribe now to get the full report in your inbox before 7am each morning.

Both economic growth and inflation accelerated according to last week’s data, and while the former continues to help support stocks despite a darkening outlook from Washington, the latter also is increasing the likelihood of a more hawkish-than-expected Fed in 2017, and a resumption of the uptrend in interest rates. For now, though, the benefit of the former is outweighing the risk of the latter.

If, however, we do not see any dip in the data between now and early May, I do expect the Fed to hike rates at that May meeting, which would be a marginal hawkish surprise. To boot, if we get a strong Jobs report (out Friday, March 3), then a March rate hike two weeks later isn’t out of the question. Point being, upward pressure is building on interest rates again.

Last Week

Both economic growth and inflation accelerated according to last week’s data.

Looking at last week’s data, it was almost universally strong. Retail Sales, which was the key number last week, handily beat expectations as the headline rose 0.4% vs. (E) 0.1% while the more important “Control” retail sales (which is the best measure of discretionary consumer spending) rose 0.4% vs. (E) 0.3%. Additionally, there were positive revisions to the December data, and clearly the US consumer continues to spend (which is more directly positive for the credit card companies).

Additionally, the first look at February manufacturing data was very strong. Empire Manufacturing beat estimates, rising to 18.7 vs. (E) 7.5, a 2-1/2 year high. However, it was outdone by Philly Fed, which surged to 43.3 vs. (E) 19.3, the highest reading since 1983! Both regional manufacturing surveys are volatile, but clearly they show an uptick in activity, which everyone now expects to be reflected in the national flash PMI.

Even housing data was decent as Housing Starts beat estimates on the headline, while the more important single family starts (the better gauge of the residential real estate market) rose 1.9%. Single family permits, a leading indicator for single family starts, did dip by 2.7%, but even so the important takeaway from this data is that so far, higher interest rates don’t appear to be negatively impacting the residential housing market, and a stable housing market is a key, but underappreciated, ingredient to economic acceleration.

Finally, looking at the Fed, Yellen’s commentary was marginally hawkish, as she was upbeat on the economy, basically saying the nation had achieved full employment and was closing on 2% inflation, and reiterated that a rate hike should be considered at upcoming meetings. None of her comments were new, but the reiteration of them reminds us that the Fed is in a hiking cycle, and the risk is for more hikes… not less.

This Week

The big number this week is the February global flash manufacturing PMI, out Tuesday. With last week’s strong Empire and Philly Surveys, expectations will be pretty elevated for the flash manufacturing PMI, so there is some risk of mild disappointment. On the flip side, if this number is very strong (like Empire and Philly) you will likely see a hawkish reaction out of the markets (dollar/bond yields up) and the expectation for a rate hike before June increases. That, by itself, shouldn’t cause a pullback in stocks, but upward pressure will build on interest rates.

Outside of the flash manufacturing PMIs, the FOMC minutes from the January meeting will be released Wednesday, and investors will parse the comments for any clues as to the likelihood of a March increase. Yet given the amount of political/fiscal uncertainty, and considering the FOMC meeting was before the strong January jobs report and recent acceleration in data, I’d be surprised if the minutes are very hawkish (although given they are dated, I don’t think that not-dovish minutes reduces the chances of a May or even March hike).

Bottom line, the focus will be on the flash manufacturing PMIs, and a good number this week will be supportive for stocks.

Join hundreds of advisors from huge brokerage firms like Morgan Stanley, Merrill Lynch, Wells Fargo Advisors, Raymond James and more… see if the Sevens Report is right for you.