NEW$ & VIEW$ (28 JANUARY 2014)

Calm Returns to Emerging Markets Efforts by emerging-market central banks to counter a vicious market selloff in recent days brought a measure of calm.

The Turkish lira held on to the large gains it made Monday, after the country’s central bank announced a previously unscheduled interest-rate decision for late Tuesday, with the dollar pinned just under 2.27 against the lira, well below the near-2.39 peak it hit Monday.

Bank Gov. Erdem Basci said Tuesday he will “not refrain from permanent policy tightening,” which appears to reaffirm the market’s clear expectation for aggressive rate rises to support the currency at the coming rates announcement, scheduled for midnight local time.

An unexpected 0.25-percentage-point rate rise by India’s central bank has also lent support to battered emerging-market currencies, which have been dented by drab economic news from China, concerns over the effects of the U.S. Federal Reserve’s pullback from monetary stimulus, and a long list of geopolitical stresses including those in Turkey, Argentina, South Africa and Ukraine.

Italy Grabs Record Low 2-Year Funding Costs

At Tuesday’s auction, the Italian treasury sold €2.5 billion euros ($3.42 billion) in December 2015-dated zero coupon notes, or CTZ, and a further €1.25 billion euros in September 2018-dated inflation-index bonds, or BTPei, the Bank of Italy said. The amounts sold were at the upper end of the treasury’s respective target ranges.

The yield on the CTZ was 1.031%. Italy’s previous lowest funding cost in this maturity segment was 1.113%, in May 2013.

Fears had surfaced that ongoing emerging-market turmoil could spill into to the euro zone’s relatively weak sovereign debt markets as the single currency area tentatively emerges from recession. But these auction results suggest the risks to the euro zone can remain contained.

 Italian Retail Sales Offer Very Slow Progress

Retail sales for Italy in November were flat, marking their best performance since August when sales also were flat. The last increase in Italian retail sales came in May 2013 with a 0.1% rise. Retail sales dropped by 1.2% over 12 months, they fell at a 1.5% annual rate over six months and they fell at an even faster, 1.7% rate, over three months. (…)

Real retail sales excluding autos are flat in November, but they had risen by 0.1% in October. Retail sales are down by 1.9% over 12 months and they are falling at a faster, 2.6% annual rate, over six months. However, over three months, real retail sales are declining at only a 0.9% annual rate. (…)

SOFT PATCH WATCH

 

(…) Last week, the flash January factory survey by data provider Markit said some respondents stated “extreme weather conditions in January had temporarily disrupted output levels.” So, too, the Kansas City Fed said its survey of area manufacturers showed production declined slightly this month because of weather.

Store chains are also feeling the freeze.

“It was a slow period for sales over the past week with some bouts of abnormal seasonal weather curbing the consumers’ appetite to shop,” the International Council of Shopping Centers said.

Consumer spending may also take a hit because households are paying more for natural gas to heat their homes.

“Weather was mentioned 21 times in the latest beige book, almost always in a negative context, the most in any winter month Beige Book since at least 2011,” wrote John Canally, investment strategist at LPL Financial, after looking at the book.

Besides store sales and manufacturing, other activity that could be hurt by weather include home building and car sales (who wants to drive a shiny new car off the lot during a snow storm).

As one positive for growth: higher demand for heat is probably lifting utility output this month.

The end result is that when January data roll out in February, the weak tone may cause some economists to trim their tracking of first-quarter GDP growth. (…)

  • FYI, updated to last Saturday:

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Economists polled by Bloomberg anticipate the economy grew 3.2 percent during the final three months of the year, a bit softer than the 4.1 percent gain in the third quarter, which was overwhelmingly the result of a $115.7 billion inventory build. While optimists may claim the fourth quarter was still strong, the data may not provide an accurate depiction of underlying conditions.

First, there’s little doubt the strong economic reports for November were
payback for the sharp, albeit temporary, weakness in October caused by
the shutdown of the U.S. government. Second, with December data coming in softer than Street expectations, recent issues such as the mass layoff announcements by Wal-Mart, Macy’s, JC Penney, Target and Intel, as well as deterioration in China’s industrial sector and currency
issues in the emerging markets, the accumulation of negatives could end up being too much weight for the sluggish recovery to bear.

The Chicago Fed’s National Activity Index decreased to 0.16 in December
from the 0.69 posting in November. Similarly, The Conference Board’s index of leading economic indicators (LEI) inched up 0.1 percent in December following a 0.8 percent spike in November. The LEI is known for predicting turning points in the economy. And the Conference Board’s coincident-to- lagging indicator ratio continues its downward descent.

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Meanwhile, meaningful housing data have been bleak – new home sales
tumbled 7 percent in November – essentially unchanged from mid-year 2013 levels. From an economist’s standpoint, new home sales matter more than their existing home counterpart since they require building materials, new durable goods (washers, dryers, refrigerators, etc.) and employ specialty trade contractors such as plumbers, landscapers,
electricians and other tradesmen.

Similarly, the MBA Purchases Index fell 3.6 percent during the week ended Jan. 17, and is off 15.2 percent from year ago levels. This gauge has been mired in weak territory for years now with no sign of improvement. (…)

 

Sales of newly built homes fell 7% to a seasonally adjusted annual rate of 414,000 in December from 445,000 in November, the Commerce Department said Monday. November’s figure was revised down by 19,000.

December sales came in below the 455,000 annual pace forecast by economists and were at their lowest level since the summer, when rising mortgage rates undermined demand.

It was not just weather related as Haver Analytics points out:

Poor weather crimped sales by more than one-third m/m in the Northeast to 21,000 (-27.6% y/y). Sales also fell 8.8% (+5.1% y/y) to 103,000 in the West while sales were off 7.3% (+4.1 y/y) in the South to 230,000, the second month of sharp decline.

Royal Philips NV and Siemens AG, two of Europe’s biggest industrial groups by revenue, reported Tuesday robust results for the three months to end-December but cautioned that business conditions remain tough, partly because of the euro’s strength against major currencies.

The cautious outlook from the Dutch and German companies follows similar downbeat forecasts from other blue-chip European companies to have reported in the past two weeks, some of them issuing profit warnings.

The year will start a bit slow,” Philips Chief Executive Frans van Houten said.

At Siemens, orders at its power-generation equipment division fell in Europe, the Americas, and Asia in the quarter. The Germany company’s main European competitors in the sector, Alstom SA of France and ABB Ltd. of Switzerland, warned on their earnings prospects last week. (,,,)

Fingers crossed States Weigh Plans for Revenue Windfalls Governors across the U.S. are proposing tax cuts, increases in school spending and college-tuition freezes as growing revenue and mounting surpluses have states putting the recession behind them.

(…) The strengthening in tax revenue started in late 2012 as higher-income residents in many states took increased capital gains among other steps to avoid rising federal tax rates on certain income. Those tax payments spilled over into 2013, and further fuel for collections came from a record stock market and improving economy. State tax revenue nationally climbed 6.7% in the fiscal year ended June 30, 2013, Moody’s Analytics says. (…)

Some states already have responded to rising tax collections by increasing spending on education and other programs, or cutting taxes. (…)

Economists warn the surge in tax revenue already is showing signs of slowing. Some of the strength has been fueled by people shifting income for tax purposes, making the gains more about timing than growth. New York, for example, forecasts income-tax receipts will grow 3% in the fiscal year starting this April after projecting a 6.5% rise in the current fiscal year. And rising collections spurred in part by profits from a record stock market leave some states such as New Jersey and California subject to sharp swings in revenue from income taxes. (…)

Can we now reasonably hope that state employment has bottomed out?

FRED Graph

 

FRED Graph

 

President to Hike Minimum Wage for Federal Contractors

President Barack Obama plans to act unilaterally to raise the minimum wage for employees of federal contractors, asserting his executive powers before the State of the Union address.

The executive order would raise the minimum wage for workers on new federal contracts to $10.10 an hour, according to a fact sheet from a White House official. It said Mr. Obama would announce the new policy in his speech Tuesday, which is scheduled to begin at 9 p.m. Eastern Time.

The current federal minimum wage is $7.25 per hour, and hasn’t been raised since July 2009. About 16,000 federal employees were paid at or below minimum wage in 2012, according to the Labor Department. The agency doesn’t specify how many employees were government contractors.

Mr. Obama’s executive policy change is the opening salvo in a broader, election-year push by Democrats to raise the federal minimum wage to $10.10 an hour for all eligible workers.

SENTIMENT WATCH

 

The “January indicator” says that if the stock market falls in January, it usually falls for the remainder of the year. So far, January has been a disaster for stocks. (…)

High five Wait, wait! Mike Lombardi, in the above post, reproduced in many other blogs today, writes that “it usually falls for the remainder of the year”. Ever thought what “usually” really means? Mark Hulbert shows you the stats since 1880:

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Voilà! Now you know that “usually” means anything above 50% of the time. Hulbert continues where Lombardi did not:

A follower of the January Indicator in 2009 and 2010 would have missed out on two years of double-digit gains if one were to have used the occasion of a “down” January to get out of the market.

Another example that it is usually best to check the facts out. Here “usually” means “generally”, at a minimum, “always” if you really care.

 

BANKING

 

Loan-Loss Reserves Shrink

At the end of September, about 6,500 U.S. banks had set aside loan-loss reserves of just 1.83% of their roughly $7.80 trillion in loans, according to data provider SNL Financial.

That cushion has been shrinking since 2010, and banks are on pace to have ended 2013 with reserves amounting to about 1.66% of total loans, based on fourth-quarter reports from eight of the country’s largest banks provided to The Wall Street Journal by SNL.

That would be the lowest proportion of such reserves since 1.74% in mid-2008, a few months before the collapse of Lehman Brothers.

By contrast, reserves hit a near-term peak of 3.24% at the end of 2010 as banks grappled with troubled loans in the aftermath of the Great Recession.

Total bank loans outstanding, however, still are below prerecession levels of $7.91 trillion at the end of 2007. (…)

U.S. Banks Prune Branches

Bank branch closures in the U.S. last year hit the highest level on record so far, a sign that sweeping technological advances in mobile and electronic banking are paying off for lenders but leaving some customers behind.

U.S. banks cut a net 1,487 branch locations last year, according to SNL Financial, the most since the research firm began collecting the data in 2002.

Branch numbers have been on a steady decline since 2009 and reached a total of 96,339 at the middle of last year, the lowest since 2006, according to data from the Federal Deposit Insurance Corp.

 
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NEW$ & VIEW$ (8 JANUARY 2014)

Companies in U.S. Added 238,000 Jobs in December, ADP Says

The 238,000 increase in employment was the biggest since November 2012 and followed a revised 229,000 gain in November that was stronger than initially estimated, according to the ADP Research Institute in Roseland, New Jersey. The December tally exceeded the most optimistic forecast in a Bloomberg survey in which the median projection called for a 200,000 advance.

Discounts drive U.S. holiday retail growth: ShopperTrak

Promotions and discounts offered by U.S. retailers drove a 2.7 percent rise in holiday season sales despite six fewer days and a cold snap that kept shoppers from stores, retail industry tracker ShopperTrak said. (…)

U.S. online retail spending rose 10 percent to $46.5 billion in the November-December 2013 holiday season, according to comScore (SCOR.O). This was below the 14 percent growth that the data firm had forecast.

ShopperTrak said shoppers spent $265.9 billion during the latest holiday period. The increase was slightly ahead of the 2.4 percent jump it had forecast in September.

ShopperTrak had forecast a 1.4 percent decline in shopper traffic.

Both retail sales and foot traffic rose 2.5 percent in the 2012 holiday season. (…)

ShopperTrak estimated on Wednesday that U.S. retail sales would rise 2.8 percent in the first quarter of 2014, while shopper traffic would fall 9 percent.

Growth Picture Brightens as Exports Hit Record

A booming U.S. energy sector and rising overseas demand brightened the nation’s trade picture in November, sharply boosting estimates for economic growth in late 2013 and raising hopes for a stronger expansion this year.

U.S. exports rose to their highest level on record in November, a seasonally adjusted $194.86 billion, the Commerce Department said Tuesday. A drop in imports narrowed the trade gap to $34.25 billion, the smallest since late 2009.

Pointing up The trade figures led many economists to sharply raise their forecasts for economic growth in the final quarter. Morgan Stanley economists raised their estimate to an annualized 3.3% from an earlier forecast of a 2.4% pace. Macroeconomic Advisers boosted its fourth-quarter projection to a 3.5% rate from 2.6%.

Fourth-quarter growth at that pace, following a 4.1% annualized increase in the third quarter, would mark the fastest half-year growth stretch since the fourth quarter of 2011 and the first quarter of 2012.

The falling U.S. trade deficit in large part reflects rising domestic energy production. U.S. crude output has increased about 64% from five years ago, according to the U.S. Energy Information Administration.

At the same time, the U.S.’s thirst for petroleum fuels has stalled as vehicles become more efficient. As a result, refiners are shipping increasing quantities of diesel, gasoline and jet fuel to Europe and Latin America.

Petroleum exports, not adjusted for inflation, rose to the highest level on record in November while imports fell to the lowest level since November 2010.

If recent trade trends continue, Mr. Bryson said net exports could add one percentage point to the pace of GDP growth in the fourth quarter. That would be the biggest contribution since the final quarter of 2010.

Rising domestic energy production also helps in other ways, by creating jobs, keeping a lid on gasoline costs and lowering production costs for energy-intensive firms. As a result, consumers have more to spend elsewhere and businesses are more competitive internationally. (…)

U.S. exports are up 5.2% from a year earlier, led by rising sales to China, Mexico and Canada. U.S. exports to China from January through November rose 8.7% compared with the same period a year earlier. Exports to Canada, the nation’s largest trading partner, were up 2.5% in the same period. (…)

US inflation expectations hit 4-month high
Sales of Treasury inflation protected securities rise

Inflation expectations, as measured by the difference between yields on 10-year nominal Treasury notes and Treasury inflation protected securities (Tips), have risen to 2.25 per cent from a low of around 2.10 a month ago.

Aging Boomers to Boost Demand for Apartments, Condos and Townhouses

 

(…) As the boomers get older, many will move out of the houses where they raised families and move into cozier apartments, condominiums and townhouses (known as multifamily units in industry argot). A normal transition for individuals, but a huge shift in the country’s housing demand.

Based on demographic trends, the country should see a stronger rebound in multifamily construction than in single-family construction, Kansas City Fed senior economist Jordan Rappaport wrote in the most recent issue of the bank’s Economic Review. (Though he also notes slowing U.S. population growth “will put significant downward pressure on both single-family and multifamily construction.”)

Construction of multifamily buildings is expected to pick up strongly by early 2014, and single-family-home construction should regain strength by early 2015. “The longer term outlook is especially positive for multifamily construction, reflecting the aging of the baby boomers and an associated shift in demand from single-family to multifamily housing. By the end of the decade, multifamily construction is likely to peak at a level nearly two-thirds higher than its highest annual level during the 1990s and 2000s,” Mr. Rappaport wrote.

In contrast, when construction of single-family homes peaks at the end of the decade or beginning of the 2020s, he wrote, it’ll be “at a level comparable to what prevailed just prior to the housing boom.” (…)

“More generally,” Mr. Rappaport wrote, “the projected shift from single-family to multifamily living will likely have many large, long-lasting effects on the U.S. economy. It will put downward pressure on single-family relative to multifamily house prices. It will shift consumer demand away from goods and services that complement large indoor space and a backyard toward goods and services more oriented toward living in an apartment. Similarly, the possible shift toward city living may dampen demand for automobiles, highways, and gasoline but increase demand for restaurants, city parks, and high-quality public transit. Households, firms, and governments that correctly anticipate these changes are likely to especially benefit.”

Euro-Zone Retail Sales Surge

A surprise jump in retail sales across the euro zone boosts hopes that consumers may aid the hoped-for recovery.

The European Union’s statistics agency Wednesday said retail sales rose by 1.4% from October and were 1.6% higher than in November 2012. That was the largest rise in a single month since November 2001, and a major surprise. Nine economists surveyed by The Wall Street Journal last week had expected sales to rise by just 0.1%.

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The pickup was spread across the currency area, with sales up 1.5% in low-unemployment Germany, but up an even stronger 2.1% in France, where the unemployment rate is much higher and the economy weaker.

The rise in sales was also broadly based across different products, with sales of food and drink up 1.1% from October, while sales of other items were up 1.9%.

The surge in sales during November follows a long period of weakness, with sales having fallen in September and October. Consumer spending rose by just 0.1% on the quarter in the three months to September, having increased by a slightly less feeble 0.2% in the three months to June.

High five Let’s not get carried away. Sales often rebound after two weak months. Taking the last 3 months to November, totals sales rose only 0.4% or 1.6% annualized, only slightly better than the 0.8% annualized gain in the previous 3 months. Core sales did a little better with  annualized gains of 3.6% and 0.4% for the same respective periods. The most recent numbers can be revised, however.image

Markit’s Retail PMI for December was not conducive to much hoopla!

Markit’s final batch of eurozone retail PMI® data for 2013 signalled an overall decline in sales for the fourth month running. The rate of decline remained modest but accelerated slightly, reflecting a sharper contraction in France and slower growth in Germany.

Record-Low Core Inflation May Soon Push ECB to Ease Policy (Bloomberg Briefs)image

Meanwhile:

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Auto U.K. Car Sales Top Pre-Crisis Levels

U.K. registrations of new cars rose 11% in 2013 to their highest level since before the 2008 financial crisis, reflecting the country’s relatively strong economic recovery in contrast with the rest of Europe, where car demand has revived only recently from a prolonged slump.

The outlook is nonetheless for more sedate growth in the U.K. this year and next as the impact of pent-up demand for new cars fades, the U.K. Society of Motor Manufacturers and Traders, or SMMT, said on Tuesday.

Much of the increase in sales last year stemmed from the generous provision of cheap financing from the car manufacturers.

The SMMT said registrations, which mirror sales, rose to 2.26 million vehicles from 2.04 million in 2012, with registrations in December jumping 24% to 152,918, a 22nd consecutive monthly rise.

As a result, the U.K. has entrenched its position as Europe’s biggest car market after Germany and ahead of France. Germany registrations of new cars fell 4.2% to 2.95 million in 2013, despite a 5.4% gain in December. French registrations fell 5.7% last year to 1.79 million cars, although they rose 9.4% in December. The German and French data were released by the countries’ auto-making associations last week. (…)

Eurozone periphery borrowing costs fall
Yields in Spain, Portugal and Greece down after Irish bond sale

(…) The strength of demand for eurozone “periphery” debt reflected increased investor appetite for higher-yielding government bonds as well as rising confidence in the creditworthiness of eurozone economies. It improved significantly the chances of Portugal following Ireland’s example and exiting its bailout programme later this year – and of Greece also soon being able to tap international debt markets. (…)

EARNINGS WATCH

Currency Swings Hit Earnings Currency swings are still taking a toll on corporate earnings despite efforts to manage the risk. Large U.S. multinational companies reported about $4.2 billion in hits to earnings and revenue in Q3, driven mostly by swings in the Brazilian real, Japanese yen, Indian rupee and Australian dollar, CFOJ’s Emily Chasan reports. The real declined 10% against the U.S. dollar during the quarter, while the rupee hit a record low.

A total of 205 companies said currency moves had negatively affected their results in the third quarter of 2013, according to FiREapps, a foreign exchange risk-management company. “More companies are trying to manage risk…but companies are still seeing highly uncorrelated moves [against the dollar] based on swings in one currency,” said FiREapps CEO Wolfgang Koester. Companies have spent much of the year insulating themselves against big moves in the euro or the yen, but swings in the Australian dollar, rupee and real dominated discussions because they were often surprises, Mr. Koester said.

Only 78 companies quantified the impact of currencies, which translated to about 3 cents a share on average. The total was up slightly from the second quarter when 95 companies reported a total impact of $4.1 billion.

On an industry basis, car makers suddenly started disclosing more currency moves during the quarter, with 16 companies mentioning their results had been affected. Ford, for example, warned last month of the potential impact from an expected Venezuelan currency devaluation in 2014.

Thumbs down A Flurry of Downgrades Kick Off the New Year

 

Wall Street analysts have gotten back to work in the new year with a flurry of ratings changes, and they have been more bearish than bullish.  As shown in the first chart below, there have been 226 total ratings changes over the first four trading days of 2014, which is the highest reading seen since the bull market began in 2009.  We have seen 134 analyst downgrades since the start of the year, which is also the highest level seen over the first four trading days since 2009.  

In percentage terms, 2014 is starting with fewer downgrades than in 2011 or 2012 (62.7% and 60.0% respectively vs. 59.2% in 2014), but these years both had very quiet starts in terms of the total number of ratings changes.  

Record-Setting Cold Hits Eastern U.S.

A record-setting cold snap in the Midwest enveloped the eastern half of the country Tuesday, with brutally cold temperatures recorded from the deep South up to New England.

Pointing up Is China About to Let the Yuan Rise? Don’t Bank on It  China’s central bankers are beginning to think the country’s huge pile of reserves – which is still growing as authorities intervene to keep the yuan from rising too fast — is excessive. Curbing its growth could even help the economy’s transition from an export-led model to one based on domestic consumption. But the top leadership’s fear of social unrest means things are unlikely to change soon.

(…) In an effort to hold down the value of its currency and keep Chinese exports competitive, the PBOC wades into markets, buying up foreign exchange and pumping out yuan on a massive scale. The PBOC probably bought $73 billion dollars of foreign exchange in October, the most in three years, and a similar amount in November, according to Capital Economics.

Even before that, official figures showed China’s reserves had hit a record $3.66 trillion by the end of the third quarter, the bulk of it invested in U.S. dollar securities like Treasury bonds. Policymakers are beginning to wonder if that hoard is too big.

Sitting on $4 trillion might not seem like a bad position to be in, but it can make a mess of domestic monetary policy if those reserves result from the central bank’s attempts to deal with capital inflows.

To prevent the yuan from appreciating, the PBOC buys up foreign exchange using newly created domestic currency. But that can fuel domestic inflation, so the central bank “sterilizes” the new money by selling central bank bills to domestic financial institutions. That leaves these institutions with less cash for lending, pushing up domestic interest rates (and ultimately leaving the central bank with a loss on its balance sheet).

Interest rates in China already are significantly higher than in many other countries, making it a tempting target for speculative “hot money” flows, which tend to find a way in despite the country’s capital controls.

“Monetary policy gets into a conundrum,” said Louis Kuijs, an economist at RBS. “If the central bank is intervening because there are huge capital inflows, the domestic interest rate in the market will go up. The more that interest rate goes up, the more capital will be attracted. It becomes difficult for the central bank to manage.”

Yi Gang, head of the State Administration of Foreign Exchange and guardian of the treasure trove, thinks the reserves are so large they’re becoming more of a burden than an asset. In an interview last month, he told financial magazine Caixin that a further build-up would bring “fewer and fewer benefits coupled with higher and higher costs.”

Those costs include not just losses on sterilization operations but also the impact of a huge export sector on the environment, he said.

But Mr. Yi does not make the decisions, any more than his boss, PBOC Gov. Zhou Xiaochuan, has the final say on interest rates. Monetary policy in China is too big a deal to be left to the central bank; the State Council, headed by Premier Li Keqiang, has to sign off on its decisions.

The technocrats at the PBOC, financial professionals who have as much faith in markets as anyone in China’s government, might want to dial back foreign-exchange intervention. But the top leaders are leery of any move that could pose a risk to employment. If factories go out of business and jobless migrants flood the streets of Guangdong, a market-determined exchange rate will be little comfort.

To be sure, China is allowing the yuan to appreciate — just not by much. The yuan has risen nearly 13% against the U.S. dollar since authorities relaxed the currency peg in June 2010, including 3% appreciation last year. But that’s far less than it would likely rise if the market were allowed to operate freely.

Never mind that a cheap currency makes it more expensive for Chinese households and businesses to buy things from the outside world, depressing standards of living and hampering the transition to a consumer society that China’s leaders ostensibly want. The policy amounts to forced saving on a huge scale — even as the officials who manage those savings say they already have more than enough for any contingency.

Some experts think the pace of China’s FX accumulation will even increase. Capital Economics says the PBOC could amass another $500 billion over the next year. That’s what they think it will take to keep the yuan from rising to more than 5.90 to the dollar, compared with 6.10 now.

“The PBOC will have to choose between allowing significant currency appreciation and continuing to accumulate foreign assets,” Mark Williams, the firm’s chief Asia economist, wrote in a research note Monday. “We expect policymakers to opt primarily for the latter.”

Emerging Markets See Selloff

The declines come amid concerns about faltering economies and political unrest.

Investors are bailing out of emerging markets from Turkey and Brazil to Thailand and Indonesia, extending a selloff that began last year, amid concerns about faltering economies and political unrest.

The MSCI Emerging Markets Index, a gauge of stocks in 21 developing markets, slipped 3.1% in the first four trading days of 2014, building on a 5% loss in 2013. This compares with double-digit-percentage rallies in stock markets in the U.S., Japan and Europe last year.

Indonesia’s currency on Tuesday hit its lowest level against the dollar since the financial crisis in Asia trading. Meanwhile, the Turkish lira plumbed record lows against the greenback this week. (…)

In the first three trading days of the year, investors yanked $1.2 billion from the Vanguard FTSE Emerging Markets ETF, VFEM.LN +0.07% the biggest emerging-markets exchange-traded fund listed in the U.S., according to data provider IndexUniverse. That is among the biggest year-to-date outflows among all ETFs. Shares of the ETF itself are down 4.2% in 2014.

Last year, money managers pulled $6 billion from emerging-market stocks, the most since 2011, according to data tracker EPFR Global. Outflows from bond markets totaled $13.1 billion, the biggest since the financial crisis of 2008. (…)

The stocks in the MSCI Emerging Markets Index on average are trading at 10.2 times next year’s earnings, compared with a P/E of 15.2 for the S&P 500, FactSet noted. (…)

In the Philippines, an inflation reading on Tuesday reached a two-year high and provided another sell signal to currency traders given officials and economists had expected the impact from the typhoon in November to be mild on inflation. The Philippine peso has weakened 1% against the dollar since the start of the year. (…)

Mohamed El-Erian
Do not bet on a broad emerging market recovery

(…) To shed more light on what happened in 2013 and what is likely to occur in 2014, we need to look at three factors that many had assumed were relics of the “old EM”.

First, and after several years of large inflows, emerging markets suffered a dramatic dislocation in technical conditions in the second quarter of 2013.

The trigger was Fed talk of “tapering” the unconventional support the US central bank provides to markets. The resulting price and liquidity disruptions were amplified by structural weaknesses associated with a narrow EM dedicated investor base and skittish cross-over investors. Simply put, “tourist dollars” fleeing emerging markets could not be compensated for quickly enough by “locals”.

Second, 2013 saw stumbles on the part of EM corporate leaders and policy makers. Perhaps overconfident due to all the talk of an emerging market age – itself encouraged by the extent to which the emerging world had economically and financially outperformed advanced countries after the 2008 global financial crisis – they underestimated exogenous technical shocks, overestimated their resilience, and under-delivered on the needed responses at both corporate and sovereign levels. Pending elections also damped enthusiasm for policy changes.

Finally, the extent of internal policy incoherence was accentuated by the currency depreciations caused by the sudden midyear reversal in cross-border capital flows. Companies scrambled to deal with their foreign exchange mismatches while central bank interest rate policies were torn between battling currency-induced inflation and countering declining economic growth.

Absent a major hiccup in the global economy – due, for example, to a policy mistake on the part of G3 central banks and/or a market accident as some asset prices are quite disconnected from fundamentals – the influence of these three factors is likely to diminish in 2014. This would alleviate pressure on emerging market assets at a time when their valuations have become more attractive on both a relative and absolute basis.

Yet the answer is not for investors to rush and position their portfolios for an emerging market recovery that is broad in scope and large in scale. Instead, they should differentiate by favouring companies commanding premium profitability and benefiting from healthy long-run consumer growth dynamics, residing in countries with strong balance sheets and a high degree of policy flexibility, and benefiting from a rising dedicated investor base.

 
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NEW$ & VIEW$ (31 DECEMBER 2013)

Smile Small Businesses Anticipate Breakout Year Ahead

(…) Of 937 small-business owners surveyed in December by The Wall Street Journal and Vistage International, 52% said the economy had improved in 2013, up from 36% a year ago. Another 38% said they expect conditions to be even better in 2014, up from 27%.

Three out of four businesses said they expect better sales in 2014, and overall, the small business “confidence index”—based on business owners’ sales expectations, spending and hiring plans—hit an 18-month high of 108.4 in December. All respondents, polled online from Dec. 9 to Dec. 18, had less than $20 million in annual revenue and most had less than 500 employees.

According to the latest data from the National Federation of Independent Business, a Washington lobby group, small-business owners in November ranked weak sales below taxes and red tape as their biggest headache, for the first time since June 2008.

In the group’s most recent survey, owner sentiment improved slightly in November but was still dismal compared with pre-2007. (…)

U.S. Pending Home Sales Inch Up

The National Association of Realtors said Monday that its seasonally adjusted index of pending sales of existing homes rose 0.2% in November from the prior month to 101.7. The index of 101.7 is against a benchmark of 100, which is equal to the average level of activity in 2001, the starting point for the index.

The November uptick was the first increase since May when the index hit a six-year high, but it was less than the 1% that economists had forecast.

Pointing up The chart in this next piece may be the most important chart for 2014. I shall discuss this in more details shortly.

Who Wins When Commodities Are Weak? Developed economy central bankers were somewhat lauded before the financial crisis. Recently, though, they’re finding it harder to catch a break.

(…) Still, here’s a nice chart from which they might take some solace.  Compiled by Barclays Research it shows the gap between headline and core consumer price inflation across Group of Seven nations, superimposed on the International Monetary Fund’s global commodities index. As can be seen at a glance, the correlation is fairly good, showing, as Barclays says, the way commodity prices can act as a ‘tax’ on household spending power.

During 2004-08, that tax was averaging a hefty 0.8 percentage points a year in the G7,  quite a drag on consumption (not that that was necessarily a bad thing, looking back, consumption clearly did OK). However, since 2008. it has averaged just 0.1 percentage points providing some rare relief to the western consumer struggling with, fiscal consolidation, weak wage growth and stubbornly high rates of joblessness.

So, what’s the good news for central bankers here? Well, while a deal with Iran inked in late November to ease oil export sanctions clearly isn’t going to live up to its initial billing, at least in terms of lowering energy prices, commodity-price strength generally is still bumping along at what is clearly a rather weak historical level.

And the consequent very subdued inflation outlook in the U.S. and euro area means that central banks there can continue to fight on just one front, and focus on delivering stronger growth and improved labor market conditions.

Of course, weak inflation expectations can tell us other things too, notably that no one expects a great deal of growth, or upward pressure on wages. Moreover, as we can also see from the chart, the current period of commodity price stability is a pretty rare thing. Perhaps neither central bankers or anyone else should get too used to it.

Coffee cup  Investors Brace as Coffee Declines

Prices have tumbled 20% this year, capping the biggest two-year plunge in a decade and highlighting commodity markets’ struggle with a supply deluge.

(…) The sharp fall in coffee prices is the most prominent example of the oversupply situation that has beset many commodity markets, weighing on prices and turning off investors. Mining companies are ramping up production in some copper mines, U.S. farmers just harvested a record corn crop, and oil output in the U.S. is booming. The Dow Jones-UBS Commodity Index is down 8.6% year to date.

In the season that ended Sept. 30, global coffee output rose 7.8% to 144.6 million bags, according to the International Coffee Organization. A single bag of coffee weighs about 60 kilograms (about 132 pounds), an industry standard. Some market observers believe production could rise again in 2014. (…)

The U.S. Department of Agriculture forecasts that global coffee stockpiles will rise 7.5% to 36.3 million bags at the end of this crop year, an indication that supplies are expected to continue to outstrip demand in the next several months. (…)

The global coffee glut has its roots in a price rally more than three years ago. Farmers across the world’s tropical coffee belt poured money into the business, spending more on fertilizer and planting more trees as prices reached a 14-year high above $3 a pound in May 2011.(…)

Americans on Wrong Side of Income Gap Run Out of Means to Cope

As the gap between the rich and poor widened over the last three decades, families at the bottom found ways to deal with the squeeze on earnings. Housewives joined the workforce. Husbands took second jobs and labored longer hours. Homeowners tapped into the rising value of their properties to borrow money to spend.

Those strategies finally may have run their course as women’s participation in the labor force has peaked and the bursting of the house-price bubble has left many Americans underwater on their mortgages.

“We’ve exhausted our coping mechanisms,” said Alan Krueger, an economics professor at Princeton University in New Jersey and former chairman of President Barack Obama’s Council of Economic Advisers. “They weren’t sustainable.”

The result has been a downsizing of expectations. By almost two to one — 64 percent to 33 percent — Americans say the U.S. no longer offers everyone an equal chance to get ahead, according to the latest Bloomberg National Poll. The lack of faith is especially pronounced among those making less than $50,000 a year, with close to three-quarters in the Dec. 6-9 survey saying the economy is unfair. (…)

The diminished expectations have implications for the economy. Workers are clinging to their jobs as prospects fade for higher-paying employment. Households are socking away more money and charging less on credit cards. And young adults are living with their parents longer rather than venturing out on their own.

In the meantime, record-high stock prices are enriching wealthier Americans, exacerbating polarization and bringing income inequality to the political forefront. (…)

The disparity has widened since the recovery began in mid-2009. The richest 10 percent of Americans earned a larger share of income last year than at any time since 1917, according to Emmanuel Saez, an economist at the University of California at Berkeley. Those in the top one-tenth of income distribution made at least $146,000 in 2012, almost 12 times what those in the bottom tenth made, Census Bureau data show.

(…) The median income of men 25 years of age and older with a bachelor’s degree was $56,656 last year, 10 percent less than in 2007 after taking account of inflation, according to Census data.(…)

Those less well-off, meanwhile, are running out of ways to cope. The percentage of working-age women who are in the labor force steadily climbed from a post-World War II low of 32 percent to a peak of 60.3 percent in April 2000, fueling a jump in dual-income households and helping Americans deal with slow wage growth for a while. Since the recession ended, the workforce participation rate for women has been in decline, echoing a longer-running trend among men. November data showed 57 percent of women in the labor force and 69.4 percent of men. (…)

Households turned to stepped-up borrowing to help make ends meet, until that avenue was shut off by the collapse of house prices. About 10.8 million homeowners still owed more money on their mortgages than their properties were worth in the third quarter, according to Seattle-based Zillow Inc.

The fallout has made many Americans less inclined to take risks. The quits rate — the proportion of Americans in the workforce who voluntarily left their jobs — stood at 1.7 percent in October. While that’s up from 1.5 percent a year earlier, it’s below the 2.2 percent average for 2006, the year house prices started falling, government data show.

Millennials — adults aged 18 to 32 — are still slow to set out on their own more than four years after the recession ended, according to an Oct. 18 report by the Pew Research Center in Washington. Just over one in three head their own households, close to a 38-year low set in 2010. (…)

The growing calls for action to reduce income inequality have translated into a national push for a higher minimum wage. Fast-food workers in 100 cities took to the streets Dec. 5 to demand a $15 hourly salary. (…)

Cold Temperatures Heat Up Prices for Natural Gas

2013 by the Numbers: Bitter cold and tight supplies have helped spur a 32% rise in natural-gas futures so far this year, making it the year’s top-performing commodity.

(…) Not only are colder-than-normal temperatures spurring households and businesses to consume more of the heating fuel, the boom in U.S. output is starting to level off as well. These two factors are shrinking stockpiles and lifting prices. The amount of natural gas in U.S. storage declined by a record 285 billion cubic feet from the previous week and stood 7% below the five-year average in the week ended Dec. 13, according to the Energy Information Administration. (…)

Over the first 10 days of December, subzero temperatures in places such as Chicago and Minneapolis helped boost gas-heating demand by 37% from a year ago, the largest such gain in at least 14 years, according to MDA Weather Services, a Gaithersburg, Md., forecaster.

MDA expects below-normal temperatures for much of the nation to continue through the first week of January.

Spain retail sales jump 1.9 percent in November

- Spain retail sales rose 1.9 percent year-on-year on a calendar-adjusted basis in November, National Statistics Institute (INE) reported on Monday, after registering a revised fall of 0.3 percent in October.

Retail sales had been falling every month for three years until September, when they rose due to residual effects from the impact of a rise in value-added tax (VAT) in September 2012.

Sales of food, personal items and household items all rose in November compared with the same month last year, and all kinds of retailers, from small chains to large-format stores, saw stronger sales, INE reported.

High five Eurozone retail sales continue to decline in December Surprised smile Ghost

image_thumb[5]Markit’s final batch of eurozone retail PMI® data for 2013 signalled an overall decline in sales for the fourth month running. The rate of decline remained modest but accelerated slightly, reflecting a sharper contraction in France and slower growth in Germany.

The overall decline would have been stronger were it not for a marked easing the rate of contraction in Italy, where the retail PMI hit a 33-month high.

The Markit Eurozone Retail PMI, which tracks month-on-month changes in the value of retail sales, fell back to 47.7 in December, from 48.0 in November. That matched October’s five-month low and indicated a moderate decline in sales. The average reading for the final quarter (47.8) was lower than in Q3 (49.5) but still the second-highest in over two years.

image_thumb[4]Retail sales in Germany rose for the eighth month running in December, but at the weakest rate over this sequence. Meanwhile, the retail downturn in France intensified, as sales fell for the fourth successive month and at the fastest pace since May. Retail sales in France have risen only twice in the past 21 months. Italy continued to post the sharpest decline in sales of the three economies, however, despite seeing a much slower fall in December. The Italian retail PMI remained well below 50.0 but rose to a 33-month high of 45.3, and the gap between it and the German retail PMI was the lowest in nearly three years.

Retail employment in the eurozone declined further in December, reflecting ongoing job shedding in France and Italy. The overall decline across the currency area was the steepest since April. German retailers expanded their workforces for the forty third consecutive month.

EARNINGS WATCH

Perhaps lost among the Holidays celebrations, Thomson Reuters reported on Dec. 20 that

For Q4 2013, there have been 109 negative EPS preannouncements issued by S&P 500 corporations compared to 10 positive EPS preannouncements. By dividing 109 by 10, one arrives at an N/P ratio of 10.9 for the S&P 500 Index. If it persists, this will be the most negative guidance sentiment on record.

Strangely, this is what they reported On Dec. 27:

For Q4 2013, there have been 108 negative EPS preannouncements issued by S&P 500 corporations compared to 11 positive EPS preannouncements.

Hmmm…things are really getting better!

On the other hand, the less volatile Factset’s tally shows no deterioration in negative EPS guidance for Q4 at 94 while positive guidance rose by 1 to 13.

The official S&P estimates for Q4 were shaved another $0.06 last week to $28.35 while 2014 estimates declined 0.3% from $122.42 to $122.11. Accordingly, trailing 12-months EPS should rise 5.1% to $107.40 after Q4’13.

Factset on cash flows and capex:

S&P 500 companies generated $351.3 billion in free cash flow in Q3, the second largest amount in at least ten years. This amounted to 7.2% growth year-over-year, and, as a result of slower growth in fixed capital expenditures (+2.2%), free cash flow (operating cash flow less fixed capital expenditures) grew at a higher rate of 11.3%. Free cash flows were also at their second highest quarterly level ($196.8 billion) in Q3.

S&P 500 fixed capital expenditures (“CapEx”) amounted to $155.0 billion in Q3, an increase of 2.2%. This marks the third consecutive quarter of single-digit, year-over-year growth following a period when growth averaged 18.5% over eleven quarters. Because the Energy sector’s CapEx spending represented over a third of the S&P 500 ex-Financials total, its diminished spending (-1.6% year-over-year) has had a great impact on the overall growth rate.

Despite a moderation in quarterly capital investment, trailing twelve-month fixed capital expenditures grew 6.1% and reached a new high over the ten-year horizon. This helped the trailing twelve-month ratio of CapEx to sales (0.068) hit a 13.7% premium to the ratio’s ten-year average. Overall, elevated spending has been a product of aggressive investment in the Energy sector over two and a half years, but, even when excluding the Energy sector, capital expenditures levels relative to sales were above the ten-year average.

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Going forward, however, analysts are projecting that the CapEx growth rate will slide, as the projected growth for the next twelve months of 3.9% is short of that of the trailing twelve-month period. In addition, growth for capital expenditures is expected to continue to slow in 2014 (+1.6%) due, in part, to negative expected growth rates in the Utilities (-3.2%) and Telecommunication Services (-3.0%) sectors.

Gavyn Davies The three big macro questions for 2014

1. When will the Fed start to worry about supply constraints in the US?

(…) The CBO estimates that potential GDP is about 6 percent above the actual level of output. This of course implies that the Fed could afford to delay the initial rise in short rates well beyond the 2015 timescale that the vast majority of FOMC participants now deem likely. The very low and falling rates of inflation in the developed world certainly support this.

But the suspicion that labour force participation, and therefore supply potential, may have been permanently damaged by the recession is gaining ground in some unexpected parts of the Fed, and the unemployment rate is likely to fall below the 6.5 percent threshold well before the end of 2014 (see Tim Duy’s terrific blog on this here)This is the nub of the matter: will Janet Yellen’s Fed want to delay the initial rate rise beyond the end of 2015, and will they be willing to fight the financial markets whenever the latter try to price in earlier rate hikes, as they did in summer 2013? I believe the answer to both these questions is “yes”, but there could be several skirmishes on this front before 2014 is over. Indeed, the first may be happening already.

2. Will China bring excess credit growth under control?

Everyone now agrees that the long run growth rate in China has fallen from the heady days when it exceeded 10 per cent per annum, but there are two very different views about where it is headed next. The optimistic version, exemplified by John Ross’ widely respected blog, is that China has been right to focus on capital investment for several decades, and that this will remain a successful strategy. John points out that, in order to hit the official target of doubling real GDP between 2010 and 2020, growth in the rest of this decade can average as little as 6.9 per cent per annum, which he believes is comfortably within reach, while the economy is simultaneously rebalanced towards consumption. This would constitute a very soft landing from the credit bubble.

The pessimistic view is well represented by Michael Pettis’ writing, which has been warning for several years that the re-entry from the credit bubble would involve a prolonged period of growth in the 5 per cent region at best. Repeated attempts by the authorities to rein in credit growth have had to be relaxed in order to maintain GDP growth at an acceptable rate, suggesting that there is a conflict between the authorities’ objective to allow the market to set interest rates, and the parallel objective to control the credit bubble without a hard landing.

As I argued recently, there is so far no sign that credit growth has dropped below the rate of nominal GDP growth, and the bubble-like increases in housing and land prices are still accelerating. The optimistic camp on China’s GDP has been more right than wrong so far, and a prolonged soft landing still seems to be the best bet, given China’s unique characteristics. But the longer it takes to bring credit under control, the greater the chance of a much harder landing.

3. Will the ECB confront the zero lower bound?

Whether it should be described as secular stagnation or Japanification, the euro area remains mired in a condition of sluggish growth and sub-target inflation that will be worsened by the latest bout of strength in the exchange rate. Mario Draghi said this week that

We are not seeing any deflation at present… but we must take care that we don’t have inflation stuck permanently below one percent and thereby slip into the danger zone.

This does not seem fully consistent with the ECB’s inflation target of “below but close to 2 per cent”. Meanwhile, the Bundesbank has just published a paper which confidently denies that there is any risk of deflation in the euro area, and says that declining unit labour costs in the troubled economies are actually to be welcomed as signs that the necessary internal rebalancing within the currency zone is taking place.

The markets will probably be inclined to accept this, as long as the euro area economy continues to recover. This seems likely in the context of stronger global growth.

But a further rise in the exchange rate could finally force the ECB to confront the zero lower bound on interest rates, as the Fed and others have done in recent years. Mr Draghi has repeatedly shown that he has the ability to navigate the tricky politics that would be involved here, but a pre-emptive strike now seems improbable. In fact, he might need a market crisis to concentrate some minds on the Governing Council.

So there we have the three great issues in global macro, any one of which could take centre stage in the year ahead. For what it is worth, China currently seems to me by far the most worrying.

SENTIMENT WATCH

Goldman’s Top Economist Just Answered The Most Important Questions For 2014 — And Boy Are His Answers Bullish

Goldman Sachs economist Jan Hatzius is out with his top 10 questions for 2014 and his answers to them. Below we quickly summarize them, and provide the answers.

1. Will the economy accelerate to above-trend growth? Yes, because the private sector is picking up, and there’s going to be very little fiscal drag.

2. Will consumer spending improve? Yes, because real incomes will grow, and the savings rate has room to decline.

3. Will capital expenditures rebound? Yes, because nonresidential fixed investment will catch up to consumer demand.

4. Will housing continue to recover? Yes, the housing market is showing renewed momentum.

5. Will labor force participation rate stabilize? Yes, but at a lower level that previously assumed.

6. Will profit margins contract? No, there’s still plenty of slack in the labor market for this to be an issue.

7. Will core inflation stay below the 2% target? Yes.

8. Will QE3 end in 2014? Yes.

9. Will the market point to the first rate hike in 2016? Yes.

10. Will the secular stagnation theme gain more adherents? No. With the deleveraging cycle over, people will believe less in the idea that we’re permanently doomed.

So basically, every answer has a bullish tilt. The economy will be above trend, margins will stay high, the Fed will stay accommodative, and inflation will remain super-low. Wow.

High five But wait, wait, that does not mean  equity markets will keep rising…

David Rosenberg is just as bullish on the economy, with much more meat around the bones, but he also discusses equity markets.

Good read: (http://breakfastwithdave.newspaperdirect.com/epaper/viewer.aspx)

Snail U.S. Population Growth Slows to Snail’s Pace

America’s population grew by just 0.72%, or 2,255,154 people, between July 2012 and July 2013, to 316,128,839, the Census said on Monday.

That is the weakest rate of growth since the Great Depression, according to an analysis of Census data by demographer William Frey of the Brookings Institution.

Separately, the Census also said Monday it expects the population to hit 317.3 million on New Year’s Day 2014, a projected increase of 2,218,622, or 0.7%, from New Year’s Day 2013. (…)

The latest government reports suggest state-to-state migration remains modest. While middle-age and older people appear to be packing their bags more, the young—who move the most—are largely staying put. Demographers are still waiting to see an expected post-recession uptick in births as U.S. women who put off children now decide to have them. (…)

Call me   HAPPY AND HEALTHY 2014 TO ALL!

 
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NEW$ & VIEW$ (29 NOVEMBER 2013)

Storm cloud  EUROZONE RETAIL SALES REMAIN WEAK

 

Markit’s latest batch of retail PMI® data for the eurozone signalled an ongoing downturn in sales in the penultimate month of 2013.

The Markit Eurozone Retail PMI, which tracks month-on-month changes in the value of retail sales, edged up to 48.0 in November,  from 47.7 in October. That was indicative of a moderate depletion in sales. The PMI was only just below its long-run average of 48.5, however, and greater than the trend shown over the first half of 2013 (45.7).

Eurozone retail sales continued to fall on an annual basis in November, extending the current sequence of contraction to two-and-a-half years. The rate of decline eased since October, but remained sharp.

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German retail sales increased for the seventh month running in November, the third-longest sequence of continuous expansion since data
collection began in January 2004. The rate of growth remained moderate, however, and slower than the trend pace registered since May.

Retailers in France registered a third successive monthly decline in sales in November. That said, the rate of reduction slowed further to a fractional pace.

The Italian retail sector remained mired in a steep downturn in November. Sales fell for the thirty-third month in succession Disappointed smile, the longest sequence of decline in the survey history. Moreover, the pace of contraction accelerated again in November, to the fastest since July.

Retailers continued to cut purchases of new stock and jobs in November. Adjusted for seasonal factors, purchasing activity fell for the twenty-eighth month running, the longest sequence of decline in the survey history. Moreover, the rate of contraction in the latest period was the fastest since April.

Stocks of goods held by retailers declined in November, having risen slightly in October. Retail employment meanwhile fell marginally for the third month running.

Average purchase prices paid by retailers for new stock rose sharply in November, at a rate broadly in line with the long-run survey average. Italian retailers continued to feel the effects of the recent VAT increase, although Germany posted the strongest overall rate of inflation. By product sector, food & drink registered the steepest inflation of purchase prices for the fifteenth month in a row.

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Euro-Area Inflation Holds at Less Than Half ECB Ceiling

The annual rate rose to 0.9 percent from 0.7 percent in October, the European Union’s statistics office in Luxembourg said in a preliminary estimate today. The median forecast in a Bloomberg News survey of 44 economists was for 0.8 percent.

The core inflation rate rose to 1 percent in November from 0.8 percent. Economists had forecast that it would increase to 0.9 percent.

Euro-Area Unemployment Unexpectedly Drops Amid Recovery

The jobless rate fell to 12.1 percent in the 17-nation economy from a record 12.2 percent in the prior month, the European Union’s statistics office in Luxembourg said today. Economists had forecast the jobless rate to remain at 12.2 percent, the highest since the euro’s debut, according to the median of 34 estimates in a Bloomberg survey.

The jobless rate in Spain rose to 26.7 percent in October, even after the economy resumed growth in the third quarter. Italy’s unemployment rate held at 12.5 percent last month, today’s report showed. In Germany, Europe’s largest economy, the jobless rate remained steady at 5.2 percent.

A Stumbling Core Presents ECB Fresh Worries

The recent news from the euro zone gives the European Central Bank plenty to chew over. The region’s most beleaguered economies are getting a bit better. But the core is getting worse.

The latest mini-bombshell to hit the euro-zone economy was the decision of credit agency Standard & Poor’s to strip Netherlands sovereign debt of its AAA-rating, notwithstanding that the Dutch government has been paring back its deficit, that the country’s gross debt is moderate and that it routinely runs current account surpluses in excess of 10% of GDP.

Instead, S&P focused on the fact that the Dutch economy is contracting and unemployment has been rising. Those weak fundamentals will cause the government’s deficit to get worse and national debt to swell over the coming years, according to IMF forecasts.

But the Netherlands isn’t the only core country to raise concerns. Recent German data have also shown some worrying trends–albeit not nearly to the same degree.

German jobless claims have ticked up during the past couple of months, surprising forecasters. At the same time, consumption has stumbled. Retail sales declined again in October, having fallen the previous month.

France is slipping from the doldrums to something worse. This is a problem as it’s widely seen as a bellwether for the wider euro zone: though its economy is only second in size to Germany, it isn’t quite core while it also can’t be lumped in with region’s hardest hit countries. Consumer spending is down, unemployment is high and there are precious few signs of where growth might come from.

So where does that leave the ECB?

Recent fears that the single currency region was slipping towards a deflationary spiral were alleviated a little by the latest set of inflation numbers: euro-zone consumer prices rose 0.9% on the year to November up two tenths of a percentage point from October. At the same time, the unemployment picture eased slightly, with the jobless rate declining to 12.1% in October from a record 12.2% the previous month.

But set alongside the news from the core, that’s hardly solace.

The ECB cut its key rate a quarter point at its October meeting. Rates can’t really go down much from here before going negative. Although the ECB assures us that it is prepared to take that step, there are good reasons to believe it would avoid doing so as long as possible for fear of signalling it has nothing left in its monetary armory.

And yet it needs to do something. The most recent data show that euro-zone money supply is barely growing while the pace at which credit to the private sector is contracting seems to be accelerating.

One possible step is to do another round of bank funding, but making it contingent on banks’ extending loans to households and firms, similar to the Bank of England’s Funding for Lending scheme.

The ECB won’t have failed to notice that the U.K. economy has picked up to the point where the Bank of England yesterday said it would stop making further FLS funds available for mortgage lending from January. That might work if the stumbling block in Europe is lenders’ unwillingness to extend credit. But if it’s a question of reluctant borrowers because they can’t see where income growth is going to come from to pay back from loans, the ECB is stuck.

Hollande boosted by fall in unemployment

(…) Figures from the ministry showed the number of people without work seeking iobs fell in October by 20,500, although the total stood at 3.27m, still close to a record high. (…)

Unemployment, on internationally comparable measures, still stands at just under 11 per cent of the workforce. Most economists predict it will not peak until next year. (…)

But critics have pointed out that much, if not all, of the improved figures on unemployment is due to state-sponsored, make-work schemes aimed chiefly at those under 25 years of age. Tens of thousands of jobs are being created this way.

Economic growth remains well below levels needed to generate significant numbers of private-sector jobs. (…)

Upgrade Lifts Spanish Shares

Spanish shares and bonds were lifted by an upgrade to the country’s credit outlook by Standard & Poor’s, while wider European stocks and the single currency took a pause from their recent rally.

European Banks Could Take Their Hits Early

European banks could face a torrid fourth quarter as they face up to next year’s asset review by the European Central Bank.

That’s not the banks’ only problem. They also need to comply with minimum capital requirements under Basel III regulations; and ensure they meet leverage ratio rules designed to make them less reliant on borrowed funds. In sum, European banks could need to plug a €280 billion ($380.21 billion) capital gap, according to a report by PwC. Technical adjustments could reduce the gap by around €100 billion. But banks could still have to raise €180 billion from new capital raising or restructuring, PwC reckons.

Rather than wait for the ECB, banks could try to get ahead. Already this year European banks have issued €60 billion of new equity, according to Thomson Reuters data, up from €30 billion in the whole of 2012. Banks like Barclays and Deutsche Bank have undergone sizable rights issues.

But the process is far from complete. One implication is that banks could use upcoming fourth-quarter results to clear the decks, so that their balance sheets anticipate as far as possible the rules they expect the ECB to apply in its asset quality review. The European Banking Authority last month issued standards for defining nonperforming loans, aimed at stemming divergent practices across the euro zone. Banks could apply them as soon as the current quarter, according to senior executive at a major European bank—with the aim of getting their balance sheets in shape before the ECB’s inspectors come to town.

That could make the coming earnings season something of a bloodbath. Already, reserves against bad loans look short in some countries. Italian banks’ reserves covered only 41% of their bad loans at the end of September, according to Morgan Stanley.  If they were to raise that ratio to 65%, say, Italian banks would need an extra €11.3 billion of capital to meet a minimum core tier one equity ratio of 8%.

Banks in other countries have made progress earlier. Spain’s central bank this year forced its banks to clean up their mortgage lending books. That’s one reason why Spanish banks on average trade at close to their tangible book value, compared with Italian banks that trade at around 0.6 times tangible book, according to Berenberg Bank: Investors simply trust Spanish banks’ accounts more right now.

Bridging the credibility gap is becoming a matter of urgency for Europe’s banks.

Mind the WTI-Brent spread!

The WTI-Brent spread is at a record wide of almost $20 per barrel. This isn’t, of course, what was supposed to happen.

As JBC Energy wrote on Thursday:

January crude futures moved in opposite directions with ICE Brent posting a moderate gain of 43 cents per barrel to settle at $111.31 even as Nymex WTI took a heavy hit, settling at $92.30 per barrel, down $1.38 on the day. Brent prices found further support in ongoing chaos in Libya. Plenty of excitement also came on yesterday’s release of both weekly and monthly EIA data. US crude production for the week ending 22 November surpassed the 8 million b/d level for the first time since 1989 and crude stocks appear to be zeroing in on the record levels seen in May, despite higher utilisation. This is all the more remarkable considering that this is the time of the year when stocks tend to remain flat before heading south due to less maintenance and tax considerations. It is therefore hardly surprising that the market reacted to this strong counter-seasonal trend by widening the WTI/Brent discount by another $1.80 to $19.01 per barrel.

Lacking a legal way to export crude, Saudi America was supposed to find a way to export shale surpluses by way of product markets. Turns out, however, there’s only so much the US system can export in this way. Not because it doesn’t want to, but rather because there’s a fresh bottleneck impeding such exports.

Most product exports come out of Padd III, the Gulf coast, but the area has a finite capacity. Currently, refiners and product sellers can’t load the product quickly enough onto ships to take advantage of the spread that can be captured. This means Padd III stocks are rising, turning the Gulf Coast into something like the new Cushing. This is particularly apparent during the non-US driving season, when refiners are forced to rely more on export markets.

Here’s a chart illustrating the phenomenon from Stephen Schork last week:

Product cracks are arguably the best clue we have to how quickly these bottlenecks are being overcome. So, whilst they are currently weak, if the US really was having the sort of export binge that could correct the WTI-Brent spread, they’d probably be much, much weaker.

If and when product spreads begin to collapse, one can consequently expect the WTI-Brent spread to turn begin diminishing.

For now, a chart courtesy of the EIA, in which the new ballooning Padd III post-shale product hoarding trend can be clearly observed:

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Sober Look adds:

These changing dynamics in the US energy markets are having two major effects:

1. US refineries are loving this. The government is holding down domestic crude prices by limiting exports, while allowing refiners to sell as much gasoline abroad as they want. Refined products abroad are generally priced based on Brent, allowing the refineries to capture the spread. In effect the US government is subsidizing the refining business at the expense of crude oil producers. And here is how the stock market is reacting to these recent price changes.

(TSO = Tesoro Corporation, a major refiner; XLE = diversified energy index ETF)

2. This is putting pressure on nations who traditionally sell crude to the US. While in the past they were able to sell their crude close to international prices, they now get paid much less due to Louisiana Light Sweet becoming significantly cheaper than Brent.

FT: – Imports to the Gulf Coast tend to be priced off local benchmarks including LLS and the Argus sour crude index, a basket of four heavier Gulf Coast crudes. With Gulf Coast prices falling, exporters such as Saudi Arabia and Venezuela are receiving less revenue for their sales into the US.
The discounts of US crude show no sign of ebbing with oil inventories continuing to rise as production grows, and many refineries remaining closed for maintenance.

Needless to say, these nations are not happy with the US as they now have to find alternate buyers in order to get the full price for their product. And many in the US are quite happy with this outcome.
When Louisiana crude was trading at a premium to Brent, analysts thought that by improving the transport system from Oklahoma to the Gulf will eliminate the Brent-WTI spread. Instead it simply shifted the discount further “downstream”. And with that came other unintended consequences that often result from uneven regulation.

 
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NEW$ & VIEW$ (6 NOVEMBER 2013)

Freight Shipments Down in October

October was a depressed month for freight and the economy in general. The number of shipments and freight expenditures both declined from September, by 3.5 and 2.6 percent respectively. This marks only the second time this year that both indexes declined in the same month. (Shipment volume in April dropped 3.5 percent, but expenditures fell only 1.6 percent.) The 16-day federal government shutdown is partly to blame for the declines, but prior to the shutdown the economy was already exhibiting signs of a cool down.

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The 3.5 percent decline in freight volumes followed two months of strong growth, but is reflective of the weakening state of the overall economy. Shipment volume has already been below corresponding 2012 volumes in six months of this year, and October contributed the seventh month, coming in 2.0 percent below a year ago.

The sharp reduction in the shipment volume in October can be linked to the government shutdown. Although Customs and Homeland Security workers were exempt from the furlough, many freight shipments were delayed because other government agencies were not open to perform necessary inspections or processing.

Railroad carloadings declined again in October, dropping 0.7 percent, while intermodal loadings reversed September’s drop and rose 2.5 percent. Truck tonnage rose in September (the month for which the latest data is available from the American Trucking Association), but spot market load indicators have declined sharply in October.

U.S. manufacturing output was almost flat in September, with even the automotive sector showing definite signs of slowing. With inventories growing and retail sales and business spending flagging, there has been little reason to restock. In addition, export demand began to stall in August and has just begun to rebound.

U.S. planned layoffs rise in October: Challenger

The number of planned layoffs at U.S. firms rose 13.5 percent in October on cuts in the pharmaceutical and financial sectors, a report on Wednesday showed.

Employers announced 45,730 layoffs last month, up from 40,289 in September, according to the report from consultants Challenger, Gray & Christmas, Inc.

But for the first time in five months, the October figure was lower than the year-ago tally, which came in at 47,724. For 2013 so far, employers have announced 433,114 cuts, close to the 433,725 seen in the first ten months of last year.

MBA: Mortgage Applications decrease 7% in Latest Weekly Survey

The Refinance Index decreased 8 percent from the previous week. The seasonally adjusted Purchase Index decreased 5 percent from one week earlier and is at its lowest level since the end of December 2012. …

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Euro zone Sept retail sales fall more than expected

The volume of retail trade fell 0.6 percent on the month after a revised 0.5 percent rise in August, the EU’s statistics office Eurostat said. Analysts polled by Reuters expected only a 0.4 percent decline.

Sales of both food and non-food products fell and the volume of sales of automotive fuels was flat on the month.

Compared with the same period last year, September retail sales were up 0.3 percent, following three straight months of declines, the data showed.

The decline in retail sales was especially significant in the southern Europe, with Portugal recording an all-time low with a 6.2 percent slump on the month and Spain’s 2.5 percent decline was the biggest since April 2012.

Slovenia, now at risk of needing international financial assistance in case it fails to fix its banks and reform the economy, saw a 4.0 percent fall month-on-month in sales in September, the biggest decline since February 2009.

Core sales declined only 0.1% following two consecutive months of +0.4% growth. However, German retail sales are pretty weak, down 0.4% in September down 1.1% during the past four months (-3.4% annualized).

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High five  As a reminder, as posted here on October 31:

The Markit Eurozone Retail PMI remained below neutrality and declined to 47.7, from 48.6, indicating the fastest monthly rate of decline since May. In contrast, the average reading over the third quarter was the highest since Q2 2011 (49.5).

The faster decline in eurozone retail sales mainly reflected a steeper contraction in Italy, which had seen the slowest fall in sales in two years one month previously. Sales fell further in France, albeit at a slower rate, while the rate of growth in Germany was the weakest since May.

German Factory Orders Beat Estimate as Euro-Area Recovers

Orders, adjusted for seasonal swings and inflation, jumped 3.3 percent from August, when they fell 0.3 percent, the Economy Ministry in Berlin said today. Economists forecast a gain of 0.5 percent, according to the median of 37 estimates in a Bloomberg News survey. Orders advanced 7.9 percent from a year ago, when adjusted for the number of working days.

Overseas orders climbed 6.8 percent in September, while those from within the country dropped 1 percent, today’s report showed. Demand from the euro area surged 9.7 percent as investment goods jumped 23.6 percent. Over a two-month period, international demand contracted while domestic orders rose, led by investment goods.

“Foreign demand continues to remain rather weak despite the September increase,” the ministry said in the statement. “The data confirm the picture of an increasingly domestically driven economic recovery.”

This latest comment was aimed at the U.S. Treasury…In any case, this has been a very volatile series, with negative numbers in 4 of the last 6 months, although orders did rise 2.7% during the whole period, assuming the latest +3.3% jumped doesn’t get revised.

WEALTH EFFECT WANING?

Disappointing start to NY auction season
Quarter of paintings are unsold

One-quarter of the high-profile Impressionist and Modern paintings under the hammer at Christie’s went unsold on Tuesday night, signalling a bleak start for the autumn auction season in New York.

Another disappointment was “Mann und Frau (Umarmung)” by Schiele, which did not receive a single bid. The anonymous seller of this piece was widely rumoured to be beleaguered hedge fund billionaire Steve Cohen. Crying face

Earlier this week Mr Cohen’s fund, SAC Capital Advisors, said it would plead guilty to insider trading violations and pay a record $1.2bn fine. Observers at the evening said the combination of sky-high valuations and mixed quality had weighed more heavily on the purchasing decisions of dealers and collectors than in previous stellar years.

EARNINGS WATCH

 

China Drags on Western Profits

Once fuel for Western profits, China has emerged as a weak spot, offsetting optimism that European markets may be turning the corner and promising continued sluggish sales growth.

(…) But the latest set of quarterly earnings results reveal that for many companies, China has been a drag. While some industries did well, the combination of slower economic growth, plus government crackdowns that have put fresh scrutiny on the way companies win new business, hurt sectors from technology to luxury goods to pharmaceuticals. As a result, the sluggish global sales that persisted through much of the recovery aren’t likely to pick up soon. (…)

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Analysts estimate that third-quarter revenue at companies in the S&P 500 index increased just 3.2%, according to Thomson Reuters, following several periods of flat or no growth. Profits are expected to fare better, rising 5.3%, as companies cut costs and buy back stock, which boosts earnings per share.

The picture in Europe is bleaker. Earnings for companies in the Stoxx Europe 600 are expected to decline 14.6% as revenue falls 1.9%. While many European companies have reported improved performance at home, the euro-zone recovery remains shallow. Emerging markets are a particular weak spot, in part because many currencies have weakened against the euro.

 
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NEW$ & VIEW$ (31 OCTOBER 2013)

Fed Opts to Stay Course For Now

Fed officials emerged from a policy meeting with their easy-money program intact and no clear signal about whether they would begin pulling it back at their December meeting or continue it into 2014.

(…) “The housing sector has slowed somewhat in recent months,” the Fed said in its statement. All in all, however, officials stuck to their view that the economy is expanding “at a moderate pace” and exhibits growing underlying strength.

Inflation Stays Tame, Supporting Fed on Easy-Money Strategy

U.S. consumer prices climbed modestly in September, underscoring weak inflation and supporting the Federal Reserve in keeping its bond-buying program intact.

The consumer-price index, which measures what Americans pay for everything from bread to dental care, rose 0.2% from August, the Labor Department said Wednesday. Core prices, which exclude volatile food and energy costs, increased 0.1%.

From a year ago, overall prices were up 1.2% while core prices were up 1.7%.

Wednesday’s report is particularly noteworthy because it’s used to calculate annual cost-of-living increase in Social Security payments for almost 58 million Americans. The Social Security Administration said Wednesday that benefits would increase 1.5% in January.

Pointing up But underlying inflation trends remain above 2.0%:

According to the Federal Reserve Bank of Cleveland, the median Consumer Price Index rose 0.2% (2.1% annualized rate) in September. The 16% trimmed-mean Consumer Price Index also increased 0.2% (2.2% annualized rate) during the month. The median CPI and 16% trimmed-mean CPI are measures of core inflation calculated by the Federal Reserve Bank of Cleveland based on data released in the Bureau of Labor Statistics’ (BLS) monthly CPI report.

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Another Downbeat Payrolls Report

ADP private-sector payrolls rose a lackluster 130,000 in October following a downwardly-revised 146,000 increase in September. While firms are still hiring, there’s no denying the slowing trend. Pronounced weakness among small service-providing businesses suggest the 16-day government shutdown was a special factor this month, and that payrolls will rebound in November…unless business owners fear another shutdown in the New Year. (BMO Capital)

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Money  Rich People’s Views of the Economy Near Pre-Recession Levels

Affluent U.S. households, buoyed by a surging stock market, feel better about the economy this fall than at any time since before the recession began.

A gauge of sentiment about current economic conditions among the wealthiest 10% of Americans jumped 22 points from the spring to a fall reading of 93, a survey by the American Affluence Research Center showed.

It’s the first “neutral” reading after five years mired in “negative” territory. The last time the index found positive sentiment — above 100 — was the fall of 2007, just before the recession began.

(…) “The stock market has made a big recovery…and these people control over 80% of all stocks and securities owned by the general public.”

Despite the optimism, many wealthier Americans said they’re reluctant to open their wallets further.

Of 17 categories tracked by the biannual survey, respondents only expect spending on domestic vacations to increase during the next 12 months.

The affluent said they plan to decrease spending on designer apparel, fine jewelry and camera equipment. They expect to hold steady in most other categories, including entertainment, dining out and home furnishings.

Ghost The rich even said they’ll cut back on holiday shopping.

The survey found affluent households plan to spend an average of $2,175 on holiday gifts, a 2.8% decline from 2012. (…) Last year, the rich spent 7% more than they said they would in the fall 2012 survey, Mr. Kurtz said.

Goldman Shrinking Pay Shows Wall Street Poised for Bonus Gloom

The firm’s average compensation cost per employee fell 5 percent to $319,755 in the first nine months of 2013. At JPMorgan Chase & Co.’s investment bank, it fell 4.8 percent to $165,774. The figure plummeted 16 percent at Zurich-based Credit Suisse Group AG to $204,000.

At the other extreme:

Retailers Brace for Cut in Food Stamps

Retailers and grocers are bracing for another drain on consumer spending when a temporary boost in food-stamp benefits expires Friday.

The change will leave 48 million Americans with an estimated $16 billion less to spend over the next three years and comes just months after the expiration of a payroll tax cut knocked 2% off consumers’ monthly paychecks.

On the business side of the equation, the cuts will fall particularly hard on the grocers, discounters, dollar stores and gas stations that depend heavily on low-income shoppers. Weak spending in that stressed consumer segment has already led retailers including Wal-Mart Stores Inc. and Target Corp. to lower their sales forecasts for the rest of the year ahead of holidays. (…)

Enrollment in food-stamp benefits surged during the recession and in its wake, increasing by 70% from 2007 to 2011 before leveling off. The government’s stimulus program increased Supplemental Nutrition Assistance Program, or SNAP, benefits across the board by 13.6% in 2009.

As that temporary increase expires on Friday, benefits for a family of four receiving a maximum allotment will drop by 5.4%, the equivalent of about $36 a month, or $420 a year, according to the U.S. Department of Agriculture.

The $16 billion, three-year toll of the cuts estimated by the Center on Budget and Policy Priorities pales in comparison with the estimated $120 billion, one-year hit caused by the earlier expiration of the payroll tax cut. But for many retailers the two have a cumulative effect.

Wal-Mart estimates it rakes in about 18% of total U.S. outlays on food stamps. That would mean it pulled in $14 billion of the $80 billion the USDA says was appropriated for food stamps in the year ended in September 2012.

THE EUROZONE IS NOT OUT OF THE WOODS JUST YET

Storm cloud  Eurozone retail sales fall at faster rate in October

Eurozone retail PMI® data from Markit showed a steeper drop in sales at the start of the final quarter of 2013. The Markit Eurozone Retail PMI remained below neutrality and declined to 47.7, from 48.6, indicating the fastest monthly rate of decline since May. In contrast, the average reading over the third quarter was the highest since Q2 2011 (49.5).

The faster decline in eurozone retail sales mainly reflected a steeper contraction in Italy, which had seen the slowest fall in sales in two years one month previously. Sales fell further in France, albeit at a slower rate, while the rate of growth in Germany was the weakest since May.

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France September consumer spending was down 0.1% on the month, having dropped 0.4% in August and was down 0.1% YoY.

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Euro Inflation Slows, as Rate-Cut Pressure Grows

Annual inflation in Germany fell in October to 1.3% from 1.6% the previous month based on common European Union definitions, Germany’s statistics office said. In monthly terms, consumer prices fell 0.2% from September.

Separately, Spain’s statistics institute said annual price growth in the euro zone’s fourth-largest economy fell to 0.1% in October from 0.5% in September.

Belgium also reported low inflation rates this month, with annual consumer price growth of 0.6%, the lowest since January 2010.

Taken together, Wednesday’s reports suggest annual euro-zone inflation, due for release Thursday, will come in as low as 0.9%, economists said. That compares with 1.1% in September and is far below the ECB’s target of just under 2% over the medium term.

The October CPI Flash Estimate rose 0.7% YoY up 1.1% in September.

SENTIMENT WATCH

From Bank of America Merrill Lynch:

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US stock market cap to GDP (Exhibit 2), one of Warren Buffet’s favored valuation metrics, is currently 1.12x, clearly high by the standards of the last 60 years. The measure is at the very least a reminder that growth in 2014, rather than liquidity, is essential to prevent an overshoot of the equity market.

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U.S. Blasts German Policy

The Treasury’s semiannual report says Germany’s export-led growth is creating problems for the euro zone and the global economy.

Employing unusually sharp language, the U.S. on Wednesday openly criticized Germany’s economic policies and blamed the euro-zone powerhouse for dragging down its neighbors and the rest of the global economy.

In its semiannual currency report, the Treasury Department identified Germany’s export-led growth model as a major factor responsible for the 17-nation currency bloc’s weak recovery. The U.S. identified Germany ahead of its traditional target, China, and the most-recent perceived problem country, Japan, in the “key findings” section of the report. (…)

The focus on Germany represents a stark shift in the Obama administration’s economic engagement with one of its most important allies. (…)

Punch  Jacob Kirkegaard, an expert on the euro zone at the Peterson Institute for International Economics, said the timing of the criticism is likely an attempt to influence economic policy in Germany while a new coalition government is being formed and is debating its agenda for the next several years. (…)

Ninja  The currency report comes at a time when officials in Berlin and Washington are already clashing over other issues including allegations about U.S. spying. (…)

THE STATE OF THE UNION

 
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NEW$ & VIEW$ (3 OCTOBER 2013)

U.S. Showdown Bites Manufacturers Layoffs and Production Disruptions Loom at Firms Tied to U.S. Federal Government Shutdown Hits Military Contractors, Suppliers

The partial shutdown of the federal government is leading to layoffs and production disruptions at defense contractors and some manufacturing companies.

Retailers Weigh Into U.S. Shutdown Debate

The National Retail Federation, an industry trade group, came out with its annual holiday forecast Thursday, predicting sales will grow by a middling 3.9% from the year before to $602.1 billion. Early forecasts are sometimes off the mark, and the industry group warned the results could be worse if Washington doesn’t resolve debates over the budget and raising the debt ceiling.

Holiday sales rose by 3.5% in 2012, falling short of NRF’s initial forecast of 4.1% growth.

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 Fingers crossed Price of Gasoline Drops For 30th Straight Day

 

 

U.S. planned layoffs fall 20 pct in September: Challenger

Employers announced 40,289 layoffs last month, down from 50,462 in August, according to the report from consultants Challenger, Gray & Christmas, Inc.

High five  Still, the September job cuts were up 19 percent from the same month last year. For 2013 so far, employers have announced 387,384 losses, close to the 386,000 seen in the first nine months of last year.

The healthcare sector saw the biggest layoffs, with plans to cut 8,128 employees as health companies faced lower government payments, up from 3,163 in August.

The financial sector saw the next largest number of planned job cuts, with 6,932 in September compared with 3,096 a month earlier.

 China Services Index Increases in Sign of Sustained Rebound

The non-manufacturing purchasing managers’ index rose to 55.4 in September from 53.9 in August, the Beijing-based National Bureau of Statistics and Federation of Logistics and Purchasing said today.

The federation said a gauge of new orders jumped, retail spending grew strongly and a logistics industry index rose.

 Italy’s Letta Survives but Battle Looms

Italian Prime Minister Enrico Letta won the fight to keep his government alive Wednesday. But the bigger battle will be to revive a sclerotic economy that is emerging as a major threat to the euro-zone recovery.

After days of political chaos, Mr. Letta won confidence votes in both houses of parliament when conservative leader Silvio Berlusconi at the last minute abandoned his bid to topple the government. But the near-death of the coalition, just five months after its formation, illustrates the challenges of pursuing an ambitious economic overhaul amid a fragmented and quarrelsome political scene. (…)

“The Italian political system is preoccupied with itself, it has no time for the country,” says a senior European policy maker. (…)

But don’t worry, Mario Draghi will do “whatever it takes” whatever mess they make!

The stakes are high. Italy’s sheer size, dysfunctional politics and faltering economy are a bigger headache for Europe’s crisis managers than even Greece, which represents only 2% of the euro-zone economy, compared with Italy’s 16%.

And the country’s €2 trillion ($2.7 trillion) public debt makes it too big for Europe’s bailout funds to rescue, should Italy ever lose access to bond markets. (…)

Italian GDP is now 9% smaller than at its precrisis peak in late 2007—a worse performance than Spain or Portugal, and second only to Greece for lost economic output.

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Large chunks of Italy’s manufacturing base—the second-largest in Europe after Germany—are in distress. Many of Italy’s signature industries, such as steel, white-goods manufacturing and textiles, are in deep distress. (…)

Italian labor costs today are 30% higher than in Spain, while productivity is 6% lower. So car companies such as Renault and Ford are moving production to Spain. In Greece, costs have fallen so sharply that Unilever has begun producing a new line of low-cost products there for the Greek market. (…)

Over the last five years, Italy attracted an average of just $12 billion of foreign investment a year, compared with $37 billion for France and $66 billion for the U.K.

Euro-Zone Retail Sales Rise

The European Union’s official statistics agency Thursday said sales volumes rose by 0.7% from July, although they were still 0.3% lower than in August 2012.

The figures for July were also revised higher, with Eurostat now estimating that sales volumes rose by 0.5%, having previously calculated they increased by 0.1%.

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High five  The details are not as positive. Core sales volume rose 0.6% MoM in August after dropping 0.1% and 0.8% in the previous two months, leaving core volume down 0.3% between June and August, much weaker than during the March-May period when core sales rose 1.1%. image

To repeat Markit’s Eurozone Retail PMI for September:

Retail PMI® data from Markit showed a renewed decline in eurozone retail sales in September. The Markit Eurozone Retail PMI eased below neutrality to 48.6, having signalled the first increase in sales in nearly two years in August.

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Malls Are Recovering From the Downturn

Large enclosed malls are recovering from the downturn faster than strip shopping centers, a sign that malls are being hurt less by online retailing.

The vacancy rate of U.S. malls in the third quarter declined to 8.2% from 8.3% in the second quarter, according to new statistics released by Reis Inc., a real-estate data firm. Mall vacancy was 8.7% in the third quarter of 2012, said Reis, which tracks the top 77 markets in the U.S.

But the improvement hasn’t been as strong with shopping centers—typically open-air retail strips that face parking lots. The average national vacancy rate for neighborhood and community shopping centers held steady in the third quarter at 10.5% from the previous quarter, down from 10.8% in the third quarter of last year.

The national average asking rent at shopping centers was $19.25 per square foot, up just 1.5% from the recession low of $18.97 in 2011. The average asking rent for malls in the largest 77 U.S. markets rose to $39.77 per square foot in the third quarter, up 1.4% from the same quarter last year, according to Reis Inc.

(…) Mall vacancy rates are now falling partly because there has been little to no new mall development since 2006, Mr. Calanog said. (…)

Reis: Office Vacancy Rate declines slightly in Q3 to 16.9%

Reis reported that the office vacancy rate declined to 16.9% in Q3 from 17.0% in Q2.  This is down from 17.2% in Q3 2012, and down from the cycle peak of 17.6%.
From Reis Senior Economist Ryan Severino:

Vacancies declined by 10 basis points during the third quarter to 16.9%. This is a marginal improvement after last quarter when the vacancy rate did not change. However, since the market began to recover in mid‐2011, the vacancy rate has been unable to decline by more than 10 basis points in any given quarter. While this is technically an improvement versus last quarter, it is nonetheless a weak result. On a year‐over‐year basis, the vacancy rate fell by just 30 basis points, in line with last quarter’s year‐over‐year decline.

On new construction:

Occupied stock increased by 6.652 million SF in the third quarter. … On the construction side, this quarter 4.099 million SF were completed, down from last quarter’s mini‐spike of 8.049 million SF. While last quarter’s bump in construction activity appears to be an aberration, construction activity for office has been slowly if inconsistently trending upward. Year‐to‐date, the market has developed 15.161 million SF. This is almost double the 8.820 million SF that were constructed through the third quarter of last year.

On rents:

Asking and effective rents both grew by 0.3% during the third quarter. This marks the third consecutive quarter in a row with slowing asking and effective rent growth. Though in reality, rental growth rates are so low that the quarter‐to‐quarter differences are rather minor and could simply be idiosyncratic. Nonetheless, asking and effective rents have now risen for twelve consecutive quarters. Yet, the simple truth is that with vacancy remaining elevated at 16.9%, it is far too high to be conducive to much rent growth. At that level of vacancy, landlords have little leverage to either increase face level asking rents or to remove concessions from leases. A meaningful acceleration in rent growth will not be possible until vacancy falls to pre‐recessionary levels.

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U.S. Rises to No. 1 Energy Producer

The U.S. is overtaking Russia as the world’s largest producer of oil and natural gas, a startling shift that is reshaping markets and eroding the clout of traditional energy-rich nations.

[image]The U.S. produced the equivalent of about 22 million barrels a day of oil, natural gas and related fuels in July, according to figures from the EIA and the International Energy Agency. Neither agency has data for Russia’s gas output this year, but Moscow’s forecast for 2013 oil-and-gas production works out to about 21.8 million barrels a day.

U.S. imports of natural gas and crude oil have fallen 32% and 15%, respectively, in the past five years, narrowing the U.S. trade deficit. (…)

The U.S. last year tapped more natural gas than Russia for the first time since 1982, according to data from the International Energy Agency. Russia produced an average of 10.8 million barrels of oil and related fuel a day in the first half of this year. That was about 900,000 barrels a day more than the U.S.—but down from a gap of three million barrels a day a few years ago, according to the IEA. (…)

Saudi Arabia remains the world’s largest supplier of crude oil and related liquids. As of July, Saudi Arabia was pumping 11.7 million barrels a day, according to the IEA. Russia was second, at 10.8 million barrels, while the U.S. was third, at 10.3 million. (…)

U.S. energy producers also are drilling more efficiently and cutting costs in other ways. Some companies have said that the amount of oil and gas produced by shale wells isn’t dropping as fast as predicted.

Ken Hersh, chief executive of NGP Energy Capital Management LLC, a private-equity fund with $13 billion under management, said the immense amounts of oil and gas uncovered in recent years indicate that the U.S. energy boom could last a long time.

“It is not a supply question anymore,” he said. “It is about demand and the cost of production. Those are the two drivers.” (Chart from Ed Yardeni)

SENTIMENT WATCH

One factor S&P Dow Jones indices uses in their stock classifications is an Earnings and Dividend Quality Ranking measurement. The basis for this measurement is to provide investors with a ranking that S&P evaluates based on a company’s stability of earnings and dividend over time. The highest ranking is A and the lowest is D (a company in reorganization).

With this as background S&P has constructed indices based on these rankings. The S&P 500 High Quality Rankings Index consists of stocks with a ranking of A and better. The S&P 500 Low Quality Rankings Index consists of stocks with a ranking of B or lower. The high quality index has a larger weighting in sectors like consumer staples that tend to hold up better in a more defensive or “risk off” market. As the below table shows, this year, the low quality index has outperformed the high quality index by a wide margin.


This pattern of the “risk on” and more cyclical stocks outperforming has continued in the the second half of September, in spite of a down equity market.

(From The Blog of HORAN Capital Advisors)

(…) One characteristic of lower quality stocks is many of them do not pay a dividend. True to form, through the end of the third quarter, the non dividend paying stocks in the S&P 500 Index are outperforming the payers by a wide margin. The return comparison is detailed in the below table.

Nerd smile  Hmmm…Remember, the cream always ends up at the top.

(…) In recent weeks, both Warren Buffett and Carl Icahn warned stocks aren’t cheap. Others are urging investors to move cautiously.

“The opportunity sets aren’t as robust and the margins of safety are smaller,” said David Perkins, who oversees the $1 billion Weitz Value fund at Weitz Investment Management, an Omaha, Neb., value-oriented fund manager that oversees $5 billion.

Mr. Perkins says the firm’s internal readings on the stocks they follow are at their most expensive levels since 2006. He is holding more cash as a result.

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  • It’s right here, sir!

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Hmmm…

GOOD READS

“Character” (Jeffrey Saut, Chief Investment Strategist, Raymond James)

“The true prophet is not he who predicts the future, but he who reads history and reveals the present.”

… Eric Hoffer, American moral and social philosopher

I could almost hear my history teacher espousing Eric Hoffer’s words last week as I was asked by a particularly prescient media type if trust and character would really command a “premium” price/earnings multiple for the stock market? My response was “of course,” and as an example I referred him to a quote from John Pierpont Morgan, who built his family’s fortunes into a colossal financial empire. The referenced verbal exchange took place when an aging J.P. Morgan testified before a House of Representatives’ committee investigating the financial interests of the “House of Morgan.” A tough lawyer named Samuel Untermyer queried him. The conversation went like this:

Untermyer: “Is not commercial credit based primarily upon money or property?”

Morgan: “No sir, the first thing is character.”

Untermyer: “Before money or property?”

Morgan: “Before money or property or anything else. Money cannot buy it … because a man I do not trust could not get money from me on all the bonds in Christendom.”

While Morgan’s language is from an era gone by, the essential insight is as clear today as it was decades ago. I recalled the Morgan/Untermyer exchange as I read Friday’s Wall Street Journal, in particular, “Robbery at J.P Morgan.” The article began, “Government lawyers are backing up the truck again at J.P Morgan Chase (JPM/$52.24/Strong Buy) to extract another haul from the country’s largest bank.” Recall that JPM is one bank that did not need taxpayer assistance during the financial fiasco of 2008, or ever since.

To me that speaks volumes about the character of JPM’s CEO, Jamie Dimon. This lack of government dependence, combined with Mr. Dimon’s remarks about how the Dodd-Frank financial reform act is hurting the economy, is likely what put Mr. Dimon in the government’s crosshairs. This also explains why the government is beating up on JPM again over the “London Whale’s” $6 billion trading loss, even though there were NO public costs.

The irony is that Jamie Dimon is one of the few bank CEOs who avoided the credit excesses. He also, at the pleading of the government, rescued Bear Stearns and Washington Mutual (WaMu). Then-FDIC Chairperson Shelia Bair said, “[The WaMu situation] could have posed significant challenges without a ready buyer. … Some are coming to Washington for help; others are coming to Washington to help.” Now it appears Washington is suing JPM for helping.

I have no doubt about Jamie Dimon’s character. I do, however, doubt the character of some of the folks inside the D.C. Beltway, on both sides of the political equation, who are about to close down the government.

HEALTH SYSTEMS

Compare the US health system to those of the other large high-income countries. The US spends 18 per cent of its gross domestic product on health against 12 per cent in the next highest spender, France. The US public sector spends a higher share of GDP than those of Italy, the UK, Japan and Canada, though many people are left uncovered. US spending per head is almost 100 per cent more than in Canada and 150 per cent more than in the UK. What does the US get in return? Life expectancy at birth is the lowest of these countries, while infant mortality is the highest. Potential years of life lost by people under the age of 70 are also far higher. For males this must be partly due to violent deaths. But it is also true for women. (FT’s Martin Wolf)

Ingram Pinn illustration

 
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NEW$ & VIEW$ (4 SEPTEMBER 2013)

GLOBAL GROWTH?

Rising demand adds to evidence world growth is picking up

Global manufacturing growth edges higher

The growth rate of the global manufacturing sector continued to edge higher in August. Although the overall pace of expansion remained only moderate at best, it was nonetheless the fastest signalled since June 2011.

At 51.7 in August, up from 50.8 in July, the JPMorgan Global Manufacturing PMI™ – a composite index* produced by JPMorgan and Markit in association with ISM and IFPSM – signalled growth for the eighth month running.

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Manufacturing production rose for the tenth successive month, with the rate of growth accelerating to the highest since January. The main drag came from broad-based weakness in a number of emerging markets, with India, Taiwan, South Korea, Indonesia, Vietnam and Brazil were among the countries to report lower output volumes.

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US manufacturers reported a slowdown in production growth to a ten-month low in August, which offset some of the momentum gained through a return to growth in China and faster expansions in Japan and the UK. The rate of increase in UK manufacturing output surged to its highest since 1994 and in Japan hit a two-and-a-half year high. The recovery in the euro area also gained traction.

Pointing up The rate of growth in global manufacturing new orders rose to a 30-month high in August. The acceleration was also firmer than that seen for production, raising the possibility that output may continue to rise in the months ahead. Moreover, the ratio of new orders to stocks of finished goods – which acts as a bellwether for the near-term trend in output – also hit a 30-month high. Holdings of pre- and postproduction inventories both fell over the month.

Manufacturing employment ticked higher in August. The latest data point to a slight increase in payroll numbers, with job creation reported by the US, Japan, the UK, Canada, Mexico, India, Taiwan, Turkey, Vietnam, Poland, Czech Republic and Ireland.

August saw average input prices rise at the fastest pace since January. On a regional basis, rates of increase accelerated in Asia and eased slightly in North America. Cost inflation was recorded for the first time in seven months in the European Union.

Euro-Zone Recovery Broadens

Data provider Markit said its poll of executives in euro-zone services and manufacturing companies showed the highest reading for business activity in over two years. The composite purchasing managers index rose to 51.5 in August from 50.5 in July. (…)

Wednesday’s survey results suggest growth, albeit still modest, is spreading to some of the bloc’s weaker countries, said Chris Williams, Markit’s chief economist.

“The euro-zone recovery is looking increasingly broad-based, with more sectors and more countries emerging from recession,” he said.

What’s Behind Manufacturing’s Rebound?

(…) From all of which, a couple of themes seem to be emerging. One, the euro zone looks to be bottoming out. Two, China and Germany are once again proving to be the engines driving other economies. And three, the U.S. seems to be offering support, but without being a significant driver of global growth.

The question now is how sustainable and strong are these boosts likely to be. There’s every reason to believe that although the euro zone is getting a little better, it’s still a long way from health. Car sales remain weak across major euro-zone markets, with France, Italy and Spain reporting big year-on-year declines in the summer. This squares with data showing household credit continues to contract across the single currency area.

German manufacturers are likely to be sucking in regional manufactured imports–components and the like. But a lot of this is likely to be re-exported. The International Monetary Fund continues to point to strong German current-account surpluses for the coming years. If its euro-zone neighbors aren’t importing because their economies are too weak, this implies exports elsewhere.

China has been a strong source of demand for German manufactured goods. Chinese manufacturers seem to be benefiting from recent government efforts to restimulate their economy, as well as from restocking.

So as long as Chinese stimulus continues, the global economy will look better. (…)

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Volume of retail trade up by 0.1% in euro area

Core retail sales declined 0.4% in July after a 0.6% drop in June and a combined 1.8% gain in April-May which itself followed a 1.4% decline in Feb-March. Very volatile. In total, however, core sales are down 0.6% during the last 6 months.

Confused smile German retail sales declined 1.4% in July after a 0.8% drop in June. German sales are off 2.2% since February. France sales jumped 2.0% in July after a 1.4% decline in June. They are up 2.0% since February. Should we believe these stats?

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Why are German retail sales so soft? The FT may have the answer in this article (Germany’s gold standard jobs record masks hidden flaws).

(…) But the German “jobwunder” has come at a cost – the big increase in low paid, precarious types of employment such as part-time work, temporary contracts, so-called “minijobs” and outsourcing. (…)

The number of temporary workers in Germany has almost trebled in Germany over the past 10 years to about 822,000, according to the Federal Employment Agency.

Meanwhile, more than 7.4m Germans have a ‘minijob’ – a relatively new type of German contract that permits an employee to earn up to €450 a month tax free.

Popular with middle class housewives and students, minijobs have become widespread in service industries such as retail, hotels and restaurants.

However, for the majority of recipients, the minijob is their primary form of employment and hourly wages can be extremely low.

Minijobbers are commonly unable to set aside enough money for retirement and minijobs also have not proved the stepping stone to regular employment that many had hoped. (…)

Rings an American bell?

Weekly chain store sales remain slow in the U.S. indicating a pretty sluggish back-to-school season. The 4-week moving average is up 2.2% as of August 31.

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ISI’s consumer surveys, including homebuilders, continue soft.

Mortgage applications rise first time in four weeks: MBA

The Mortgage Bankers Association said its seasonally adjusted index of mortgage application activity, which includes both refinancing and home purchase demand, rose 1.3 percent in the week ended August 30, after sliding 2.5 percent the prior week. (…)

The refinance index rose 2.4 percent last week. (…)

Pointing up The gauge of loan requests for home purchases, a leading indicator of home sales, fared worse, dipping 0.4 percent. (…)

(CalculatedRisk)

Smile  U.S. small business borrowing rises to six-year high

The Thomson Reuters/PayNet Small Business Lending Index, which measures the volume of financing to small companies, rose 11 percent in July to 117.7, the highest level since August 2007. (…)

Pointing up Historically, PayNet’s lending index has correlated to overall economic growth one or two quarters in the future.

The stronger reading in July, up 12 percent from a year earlier, came as the Federal Reserve signaled it is prepared to begin reducing its massive stimulus program as soon as this month. (…)

Because small companies typically take out loans to buy new tools, factories and equipment, more borrowing could signal more hiring ahead. (…)

Low financial stress at small businesses, with more of them paying back loans on time, could also bode well for future borrowing.

Delinquencies of 31 to 180 days fell in July to an all-time low of 1.48 percent of all loans made, according to the Thomson Reuters/PayNet Small Business Delinquency Index.

Accounts overdue as a percentage of all loans have fallen steadily since rising as high as 4.73 percent in August 2009.

Support for U.S. Strike on Syria Builds

Obama’s drive to build support for an attack against Syria gained significant momentum. Leaders of a Senate committee reached agreement on a resolution authorizing military strikes against Syria that adds restrictions.

SENTIMENT WATCH: CHANGING MARKET NARRATIVES

John Hussman has been a very vocal and much quoted bear all along this bull market. His latest weekly note seems to warn of a possible change in his narrative:

(…) One result of this discipline is that even though I expect that the present cycle will be completed by a market loss on the order of 40-55%, conditions can certainly emerge over the course of this cycle that could warrant a more constructive stance than we have presently, though possibly less extended than we’d like. The most likely constructive opportunity would emerge from a moderate retreat in market valuations, ideally to “oversold” conditions from an intermediate-term perspective, coupled with an early firming in measures of market internals. Though larger cyclical risks here will probably make some line of defense important in any event, our outlook certainly has room to be more constructive as conditions change. We would expect such opportunities regardless of whether bull or bear market outcomes unfold ahead.

Light bulb  “A New Way to Deal With Telemarketing Calls,” (The Freakonomics Blog)http://bit.ly/145XehQ

A man in the U.K. is charging telemarketers for calling him. From BBC News:

A man targeted by marketing companies is making money from cold calls with his own higher-rate phone number.

In November 2011 Lee Beaumont paid £10 plus VAT to set up his personal 0871 line – so to call him now costs 10p, from which he receives 7p.

The Leeds businessman told BBC Radio 4′s You and Yours programme that the line had so far made £300.

Phone Pay Plus, which regulates premium numbers, said it strongly discouraged people from adopting the idea.

 
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