For anyone who attended the ALMEdge® Conference in April, today's very weak economic report from the Bureau of Labor Statistics on new jobs created in the month of April should hardly be surprising. Pundits, whether on television or the internet, seem utterly shocked that the number was so far below economists' expectations, but the credit markets and the ISM reports have been telegraphing the approaching weakness for months. I presented this chart at the April User's Conference. It clearly shows that we should expect the pace of labor market growth to decelerate, beginning now, through year-end:
Not only were credit markets telling you to expect this, but the ISM reports were also alerting you that an abrupt change (slowing) in the labor market should be expected. My post last month talked about the importance of listening to those that do, not to opinions. Within both of the monthly ISM surveys (Manufacturing & Service Sector) there are questions posed to business operators about the future of their employment levels. I have taken the ISM Employment Index contained in each report and created an economically weighted index, based on the total amount of jobs in each sector. This index clearly leads the year-over-year (YOY) growth rate in payroll growth by an average of 5 months. Here is the chart:
So, we have two different leading indicators that tell us we should expect payroll growth to continue to decelerate for the rest of the year, at a minimum. This makes it very difficult for the Fed to raise rates going forward. I continue to say that any further hikes will be a big mistake, so for bankers potential reinvestment risk will be high due to the likelihood of falling earning asset yields, and credit risk will grow into this environment. Pay close attention to what is going on around you. These conditions may or may not exist in your communities but you need to pay attention and listen to those that do.
06/03/2016 11:18:59 AM
The Yield Curve Neither Hires nor Borrows
A great verbal war seems to be underway among financial and economic pundits. One pundits' model says "RECESSION" while another says "NO RECESSION." I read one such battle this weekend. It was over what the current message of the yield curve was. Both arguments were passionate and seem to be well articulated and seemingly supported by the data and graphs they provide for the reader. The first research analyst thought that the yield curve slope should be adjusted by his fancy math because of the efforts of the Fed to manage the yield curve via their QE and "operation twist" experiments. His adjusted curve showed the curve is now inverted and signaling an oncoming recession. The second analyst basically argued this academic was nuts and that the curve will invert, on its own, when we are REALLY headed for a recession, no adjustments are necessary. He pointed out that a yield curve inversion has led every recession and the curve is currently steep. The positively sloped yield curve is a sign of good ecoomic activity with moderate inflation expectations. I got tired of the back-and-forth relentless arguing of positions and moved on to a different article.
The next piece I read intrigued me. It was on small business sentiment. I instantly thought back to the bicker-fest I had just read and said to myself "wow, thes guys are missing the big picture here, the yield curve doesn't hire people or borrow money from banks, businesses do!" Small businesses are also responsible for the majority of new jobs created in this country so we really should be focused on what they are telling us, not what the yield curve MIGHT be telling us.
The piece covered research done by a firm called Rcube over in Europe. They have done some really interesting research on small business sentiment surveys, and how you can use that data to create a picture of the future of small business profitability based on the current operating and regulatory environment. They used data from the National Federation of Independant Business (NFIB) to create what they refer to as the "Small Business Profits Indicator". This indicator is a great leading indicator of not only profitability but capital expenditures, employment and earnings. Here is the proof in charts:
Now, while going through all of this, I kept telling myself that the chart of this small business indicator looked so familiar. It bothered me to the point of recreating the research for myself and this way, I could start trying to figure out what I was missing, what was bothering me so much. Then VOILA!! I found it. The graphic picture of this profitability indicator reminded me of the yield curve spread I had seen in the bicker-fest article I had just read. So, I overlayed the two and here is what I got:
The realtionship is stunning. But somthing changed in the relationship and they have parted ways recently. The two data sets had a strong correlation of .68 up until the Fed embarked on its QE mission. Since then, the correlation has plumetted to just .04. This solved for me why this battle of opinions has grown so loud. The yield curve may not be inverted, but business is already operating like it is inverted! The Fed's control of the yield curve may be hiding the reality of what is really going on. Small businesses are telling us that things are not all that hot. They are telling us that they expect profitability to tumble and because of that, we should expect less earnings and thus, less capital spending and thus, less hiring in the future. This means ultimately that if the Fed chooses to raise rates again this year, it will be a big mistake. The message for us in all of this is that we need to listen to those who hire and borrow.
05/24/2016 07:49:24 AM
Now I get it!
Janet Yellen gave a speech on March 29th to the Economic Club of New York and both financial pundits and economists were suprised, even shocked, at Janet Yellen's very dovish tone on the future path of monetary policy here in the US. Heck, it was just 3 months ago when the Fed decided the economy was not only healthy enough to raise interest rates for the first time in years, but to forecast as many as 4 more rate hikes during 2016. So what happened between then and now? Data revisons!
The Industrial Production data series is put out by the Board of Governors of the Federal Reserve System. So, it only makes sence that Janet Yellen was privy to what turned out to be the alarming data revisons (negative revisions) that were going to be released just days after her speech. Here is a graph that shows the data series before and after revisions:
Here is the same data but this is looking at the year-over-year (YOY%) percentage change:
As you can see, the recent data is significantly worse than originally estimated. We have known for months now that the manufacturing sector has been contracting but according to the rivisions, it started contracting 5 months earlier than thought and the contraction is deeper than originally thought. The problems for Janet Yellen don't stop there either.
More data out this week has drastically reduced the real-time Q1 2016 GDP estimate from the Federal Reserve Bank of Atlanta. As you can see below, heading into the new year, estimates were running almost double the Q4 GDP growth rate of just 1.39%. But since peaking in February, through today, the estimate is now barely positive, coming in at just .40%.
There you have it. It is now
clear why Janet Yellen was so cautious in her speech. I expect a slight recovery in Q2 data but I was never in the 4 rate hike camp. I did expect 2 rate hikes in total but it is getting harder and harder to justify any further tightening from the Fed this year.
04/05/2016 12:03:49 PM