NEW$ & VIEW$ (23 AUGUST 2013)


Flash PMIs hint at improving global manufacturing economy

Flash PMI data from Markit covering the eurozone, China and the US showed an across-the-board improvement in manufacturing business conditions in August. This was for the first time since June 2011 and suggested that the global manufacturing economy has picked up growth momentum.


The Markit-produced HSBC flash manufacturing PMI for China rose sharply in August, up from a near postcrisis low of 47.7 in July to a four-month high of 50.1. Although barely above the no-change level of 50.0, the improvement in the China PMI was significant in signalling an end of a three-month sequence of contraction. The data therefore add to hopes that the Chinese economy reached a low in the second quarter, when GDP growth slowed to 7.5%.

A flash Markit Eurozone PMI reading of 51.3 signalled an improvement in manufacturing business conditions for the second month running in August. An increase in the index from 50.3 in July also pointed to an
acceleration in the pace of growth to the fastest since June 2011. A concomitant improvement in the regions’ services PMI – which registered an upturn in business activity for the first time since January 2012 – left the composite Eurozone PMI at its highest for two years.

Manufacturing growth in the single currency area was led by Germany, where the PMI was the highest for over two years, while the French manufacturing sector more or less stagnated. Particularly encouraging news came from the rest of the region, where business conditions showed the largest monthly improvement since June 2011.

Moving further west, the Markit US manufacturing PMI came in at 53.9 according to the flash August reading, up from 53.7 in July and recording the fastest pace of expansion since March. With the US PMI up for a second successive month from June’s eight-month low, the survey data suggest that the economy has gained momentum again after a spring lull.

The upturns in the flash PMIs for three of the world’s largest manufacturing economies bode well for global growth. The JPMorgan Global Manufacturing PMI signalled that a near-stagnation of the world’s factories in the second quarter continued into July, but the flash data for August suggest that growth could lift higher.

Interestingly, new orders and new export orders were strong in the U.S. and rose marginally in Europe. In China, however, total new orders rose just above 50 but new export orders declined well below 50, meaning that domestic new orders rose strongly. Since exports are only a small part of China’s economy, we might be seeing the beginning of a strengthening in the Big Three economies.

[image]That would be a big surprise. How positive would that be for financial markets? Coming tug-of-war between taper fears, inflation fears and earnings expectations.

For clues as to what might really happen, Nouriel Roubini conveniently just wrote one of his long, rear-view-mirror article for Institutional Investor in which he forecasts that

  • world economic growth will remain anemic for many more years to come;
  • unemployment rates will stay high;
  • inflation will remain subdued for a long time;
  • aggressive monetary policy will continue for a little while longer;
  • long term interest rates in advanced economies will remain low and rise only slowly

If, like me, you have been following Dr. Doom’s crystal ball since 2009, your inclination would be to bet on the other side of Roubini’s trades. Winking smile

(…) The market appears to be accepting that though yields are moving up, they remain low by historical standards and can be better absorbed if seen in conjunction with an improving economic backdrop.

And further evidence of that more optimistic scenario was provided on Thursday, when manufacturing surveys from China to the eurozone and the US came in better than expected. US house prices were also shown to have risen 7.7 per cent in the year to June, while weekly initial jobless claims remain near multiyear lows. (…)

  • German GDP Growth Gains Steam 

    Germany’s economy rebounded sharply in the second quarter from a weak start to the year, gaining steam from a pickup in investment and robust consumption, official data showed.

Gross domestic product swelled 0.7%, corresponding to an annualized rate of 2.9%, the national statistics office said. The figures confirm official estimates issued last week.

That makes Germany the fastest growing of the world’s largest industrialized economies in the second quarter.

(…) some of the activity recorded in the three months to June had been postponed from the first quarter, when a severe cold spell depressed industrial activity and construction.

German GDP data for the second quarter showed a healthy pickup in investment: construction spending jumped 2.6% from the first quarter, “partly due to weather-related catch-up effects,” the office said.

Investment in machinery and equipment increased 0.9% after six consecutive quarters of declines, indicating companies have healthy cash positions or access to favorable financing conditions.

Private consumption in Germany increased 0.5% from the first quarter, supported by low unemployment and rising wages. Public consumption increased 0.6%.

Exports rose 2.2% on the quarter, while imports increased 2.0%. The data is adjusted for inflation and accounts for seasonal swings as well as the number of working days in each quarter.


There is a high level of hope that the housing market will keep lifting the economy. Existing home sales have been stronger lately and expectations are that they will keep rising, boosting prices and pulling along new construction. Charts like this one (CalculatedRisk) feed the hope:

But we forget that the early 2000’s were bubble years. BMO Capital puts things into their proper perspective. Warning: this may deflate some of your expectations.

U.S. Resale Market Feeling Normal Again

The 6.5% jump in existing home sales to more than three-year highs of 5.39 million annualized in July has taken the level above long-term averages, normalized for the growing number of households. This compares with the market for new homes, where sales and starts are both well below normal despite solid gains in the past year. The role of investors, who account for one-in-six resale transactions, likely explains the difference.


Note that first-time buyers were 29% of July sales, unchanged from June, and down from 34% a year ago and the historical norm of 40%. Not a healthy market just yet.

Raymond James adds:

Interestingly, there may be some evidence that the surge of demand from rental-home investors may have begun to wind down, as the NAR reported 16% of homes purchased in July were bought by investors down from 17% last month and 22% in February (the cyclical peak). That said, we note that 31% of all sales in June were still “all-cash” transactions (normally less than 10%), indicating that investors and other affluent households still remain a critical component of current housing demand. With rising home prices, distressed sales continued to dwindle to just 15% of sales (the lowest level on record since tracking began in October 2008).

Listed inventory in July rose by 120,000 units from June to 2.28 million for-sale homes. Total listings are still down 5.0% y/y and months’ supply still registers at a very low 5.1 months (down from 6.3 months last year). Nevertheless, the sequential inventory increase (+5.6%) was larger than typical June-July patterns, as listings are typically flat between June and July (dating back to 1990).

Inventory increases have now exceeded historical patterns in five of the last six months. Given the recent pace of double-digit y/y price increases
in many markets across the country, it’s not terribly surprising that more sellers would begin to emerge.

Consumers Skip Dining for Cars as Sales Slow

Restaurant sales contracted in June and July, even as spending on other discretionary categories such as automobiles and homes grew, a sign some Americans remain budget conscious.

Results at casual-dining establishments fell 3.5 percent last month, following a 2 percent drop in June, according to the Knapp-Track Index. This marked the first two consecutive declines in the monthly index of restaurant sales after the industry was rocked by its worst streak in almost three years between December and February.

Preliminary data suggest that August sales still are weak, though “better than July,” said Malcolm Knapp, a New York-based consultant who created the index and has monitored the industry since 1970.

“Consumers’ priorities change every month based on what they can afford,” Knapp said. Many Americans don’t eat out as often as they would like, and they’ve had to cut back “very begrudgingly” on meals away from home to help subsidize other purchases.

Pointing up Restaurants and retailers have been among the most active employers in recent months.

Leading Index Signals U.S. Growth to Pick Up Into 2014


The Conference Board’s gauge of the outlook for the next three to six months increased 0.6 percent after no change in June.

Eight of the 10 indicators in the leading index strengthened in July, led by a widening gap between long- and short-term interest rates, higher stocks and more building permits. Fewer jobless claims and gains in factory orders also propelled the leading index last month.

Click to View

Here is a look at the rate of change, which gives a closer look at behavior of the index in relation to recessions.

Click to View(charts from Doug Short)

On the other hand:

This rise, however, was spearheaded by the three financial components (equities, credit spreads and yield curve). The steepening of the yield curve alone was responsible for half of the monthly increase in the LEI in July.

Excluding financial components, the gauge of future economic activity was only up 0.1% on the month. As today’s Hot Chart shows, the
behaviour of the LEI in this economic recovery has been very peculiar with little to no contribution from its non-financial components (there are seven of them). Four years into a recovery, it remains difficult to have strong convictions about the underlying strength of the U.S. economy. Under these circumstances, we believe that QE tapering by the Federal Reserve will proceed in slow increments. (NBF)



Hot smile  Central-Bank Moves Blur The View

The escalating role policy makers are playing in the foreign-exchange market is injecting new uncertainty into financial markets.

Central banks from Indonesia to Turkey to Brazil are stepping up efforts to fight steep declines in their currencies and protect vulnerable economies as investors pull cash from emerging markets.

These measures to support local markets are a sharp reversal from much of the past two years, when some of these same emerging-market central banks were trying to tame excessive currency appreciation.

On Thursday, Turkey’s central bank auctioned $350 million out of its reserves, making good on its promise to hold daily sales to support the lira.

Brazil’s central bank on Thursday said it would provide at least $60 billion more in dollar liquidity through the end of the year. Under the plan, the bank will offer $3 billion of dollar loans and swaps per week in regular auctions starting Friday.

Indonesian President Susilo Bambang Yudhoyono is expected on Friday to announce a “policy package” to stabilize the economy. (…)

The Fed released minutes Wednesday from its last policy meeting that did little to change investors’ expectations. The Philippines PSE Composite share index dropped 6% after markets reopened for the first time since Friday, while Indonesian stocks have shed 9% this week and Turkey’s are down 8%.

As money flows back to rich economies, developing countries face questions about how they will continue to fund economic growth and pay off their debts. A weaker currency can help on that front, spurring growth by boosting exports. But it also can trigger inflation, already viewed as too high in countries such as Brazil and India.

Some countries already have burned through foreign-exchange reserves with little to show for it. Turkey has spent about 15% of its reserves since May, while Nomura estimates Indonesia’s reserves are down 26% from their 2013 peak. Reserves in 21 emerging economies tracked by Nomura are down $153 billion from their peak this spring, a level of spending that hasn’t been seen since 2008, the bank said. (…)

Fed Burned Once Over Taper Now Twice Shy on QE3

U.S. central bankers have $3 trillion of losses reminding them they had better get their communications right should they decide to taper their bond purchases.

That’s how much global equity markets declined in the five days after Federal Reserve Chairman Ben S. Bernanke’s June 19 remarks that he may reduce his $85 billion in monthly securities buying this year and halt it altogether by mid-2014. His comments pushed the yield on the benchmark 10-year Treasury to a 22-month high.

Gillian Tett
Central bank chiefs must master art of storytelling

(…) Rather than operating the controls, moreover, central bankers also try to control economic outcomes by using words, not merely to influence price and interest rate expectations but to shape the mood. Thus the seemingly dry ritualistic texts that are issued each month – and supplemented by sober speeches – no longer merely describe policy; they are creating it too. Words are the weapon. (…)

At the European Central Bank, Mario Draghi has been masterful at delivering economic outcomes through words, as much as deeds. Indeed, what is most striking is that Mr Draghi has managed to reframe public discourse about the euro not so much by what he has said but what he implicitly persuaded us to assume. (…)

“[This] is about the creation of a monetary regime – a regime impelled by a series of communicative experiments … in which we are all participants, knowingly or not,” Prof Holmes argues. It is, he says, now defined “by the concept of a ‘public currency’, a term used in passing by Mervyn King, [former] governor of the Bank of England.” Central bankers now operate in an area where linguists, psychologists – and even anthropologists – know as much as economists. (…)

Narratives, narratives…(see EPSILON THEORY)

Clock  Coming soon at a theater near you: Lew warns Congress to strike debt deal US Treasury secretary fears risk of damage to economy

On a visit to Mountain View, California, in the heart of Silicon Valley, Mr Lew did not offer an exact deadline by when US lawmakers will need to strike a deal to raise America’s borrowing limit or face default. But analysts at the Bipartisan Policy Center, a think-tank, believe it will be somewhere between mid-October and mid-November, depending on the government’s cash flow.


Much has been written about current high profit margins and the risk of mean-reversion. BMO Capital takes another approach that I find interesting:

(…) regarding profit margins – it is extremely difficult for corporations to improve margins for long periods of time. Sooner or later organic growth is required to deliver results. Based on historical data the market
appears to be at an inflection point. For instance, using corporate profits as a percentage of nominal GDP as a broad proxy for US profit margins there have been only four other periods since 1950 where profit margins expanded for four or more consecutive years (Exhibit 1, left).

Interestingly, only two periods reached five years of profit margin expansion (market is currently in its fifth consecutive year of profit margin expansion). Following each of those periods, profit margins deteriorated quite significantly. In addition, current profit margins are at
all-time highs and well above one standard deviation from its average since 1950. As Exhibit 1 (right) shows, similar profit margin levels have proved to be short lived.


Given recent productivity and labor cost trends, we believe history is likely to repeat itself with profit margins having already peaked. This is important because following similar peak levels, market performance, EPS growth, and P/E levels tend to suffer in the period that follows. As
imageExhibit 2 illustrates, in the calendar year following an extreme peak in profit margins, market performance is slightly negative, price multiples contract while profits are roughly flat.

We believe this is explained by subdued productivity growth and increased labor costs during these periods (trends that are occurring now). What compounds matters is the fact that the current economic backdrop has been much weaker compared with those other periods where margins expanded significantly, yet market performance and valuation trends have been stronger. Whether or not the market is correctly anticipating stronger economic growth remains to be seen. Nonetheless, stronger economic growth is exactly what we believe will be required to keep EPS and market momentum intact.

Chart of the day: from Morgan Stanley’s Viktor Hjort via ZeroHedge


My good friend I. Bernobul wrote last week about a FT front page piece by James W. Paulsen, chief investment strategist at Wells Capital Management who was arguing that rising consumer confidence would more than offset slower earnings growth and rising bond yields as it apparently did in previous “remarkably similar cycles”.

Unfortunately, Paulsen provided no evidence of his assertions. However, it just happens that BMO Capital’s strategist published a chart correlating the equity risk premium with consumer confidence over the years. Nice of him to include the regression line to the scattergram; if this is what Paulsen means…how confident can you be?



The media are clearly in a positive mood these days.

U.S. Small-Business Owners Most Optimistic Since 2008

U.S. small-business owners are more optimistic now than at any time since late 2008. The Wells Fargo/Gallup Small Business Index improved to +25 in July, from +16 in the second quarter. The latest result, while not as high as pre-recession levels, is the highest index score since the third quarter of 2008.


Pointing up  Prior to the recession and financial crisis of 2008-2009, Small Business Index scores were generally in the triple digits. The Wells Fargo/Gallup Small Business Index was initiated in August 2003, reached its peak at 114 in December 2006, and hit its low point of -28 in July 2010.

The latest results are based on a national random sample of 603 small-business owners having $20 million or less of sales or revenues, conducted July 22-26.

Small-business owners’ ratings of their current operating environment are mostly flat compared with April. The Present Situation Dimension of the index was +4 in July, essentially the same as the +2 in the previous quarter. But, this is only the second time the Present Situation Dimension has been in positive — if still broadly neutral — territory since December 2008.


I’d say they’re just barely out of misery. But they are good spirited…

Fingers crossed  The increase in the overall index score comes more from owners’ improving future outlook than from their views of present conditions.

The Future Expectations Dimension of the index, which measures owners’ expectations for their business’ operating environment over the next 12 months, increased to +21 in July, up from +14 in April. Small-business owners are modestly more optimistic about their future operating environment compared with one year ago, when this dimension stood at +18.


…although really not that much more.

But here’s the real thing:

Small-business owners’ increased overall optimism correlates with their more positive views toward the ease of obtaining credit. Fewer business owners say they have experienced difficulty in the last 12 months obtaining credit, at 25%, than did so last quarter, at 30%.


My reading of the above chart is that “% easy” is flat but “% difficult” is down a little. Simple math suggests that “% unchanged” must be up, and this is unchanged from poor. Nothing “more positive” here.

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