Economic Gauges Raise Specter of Recession Gut-clenching gyrations in financial markets early in the year helped summon the specter of a new recession. Now, warning signs are coming mostly from the U.S. economy itself.
Hiring is slowing, auto sales are slipping and business investment is dropping. America’s factories remain weak and corporate profits are under pressure. All are classic signs of an economic downturn, and forecasters have certainly noticed. In a Wall Street Journal survey this month, economists pegged the probability of a recession starting within the next year at 21%, up from just 10% a year earlier. Some economists think the risk is even higher. (…)
Signs of trouble extend beyond the job market. J.P. Morgan Chase economists have been gauging the odds of a recession using a model that incorporates an array of economic indicators, from business-sentiment gauges to auto sales.
As of last week, the model signaled a 34% chance of a recession within 12 months. That was down a bit from 36% earlier in the month but up from 21% back in January. Similar increases preceded the past three recessions. (…)
The continuing balance-sheet squeeze is one reason Joshua Shapiro, chief U.S. economist at consultancy MFR Inc., pegs the odds of a recession in the next year at 50%.
“The ongoing decline in profitability and margins is likely to lead to aggressive cost-cutting, which should affect the labor market and consumer spending, which is the only thing keeping the economy afloat,” he said. His forecast assumes a recession in the second half of 2017, but “it could certainly happen sooner,” he said. (…)
A strong case can be made that the expansion is likely to remain on track this time, too.
Job gains may be slowing on their own as the labor market tightens, and May’s dip in hiring could prove to be an outlier. Other labor-market indicators, such as jobless claims, remain at healthy levels.
Consumer spending has been climbing at a solid pace after a winter slowdown, supported by stronger wage growth. Fed Chairwoman Janet Yellen last week cited the rebound in household outlays as a “key factor” underlying the central bank’s expectations for continued economic growth.
Indeed, overall economic growth is poised to accelerate in the current quarter after six sluggish months.
Forecasting firm Macroeconomic Advisers on Friday projected gross domestic product will expand at a 2.7% annual rate in the second quarter. That’s a long way from the two consecutive quarters of negative GDP readings that are the shorthand definition of a recession.
Business leaders aren’t panicking. The Business Roundtable last week said U.S. chief executives have boosted their expectations for capital expenditures, hiring and sales in the coming months. Executives “don’t see an end” to the expansion, Caterpillar Inc. Chief Executive Doug Oberhelman said. “I think, for the most part, people believe that we can stumble along at 2% for a while longer if there’s not some big event from the outside.”
Junk Bonds Regain Fans Some investors in the U.S. are turning again to junk bonds, saying their higher yields make them a good bet at a time when many stocks and government bonds appear richly valued.
Housing starts fell 0.3% during May to 1.164 million units (SAAR) following a 4.9% April rise to 1.167 million units, revised from 1.172 million. Expectations were for 1.150 million starts in the Action Economics Forecast Survey.
Starts of single-family homes improved 0.3% (10.1% y/y) to 764,000 following a 1.5% increase. Multi-family starts, which include apartments & condominiums, declined 1.2% (+8.4% y/y) to 400,000 after an 11.9% rise.
By region, starts were mixed last month. In the Northeast, starts fell by one-third m/m to 82,000, down roughly two-thirds versus the peak last June. Starts in the Midwest fell 2.5% to 199,000, but were one-third higher y/y. Moving up in May, starts in the West gained 14.4% (1.1% y/y) to 270,000. In the South, starts rose 1.5% (20.7% y/y) to 613,000.
Permits to build a new home improved 0.7% last month (-10.1% y/y) following a 4.9% rise. Permits to build single-family homes fell 2.0% (+4.8% y/y), but multi-family permits increased 5.9% (-28.1% y/y).
South and West both rose nicely between 2011 and 2014. West has since been weakening a little. South appears to be peaking. Midwest and Northeast: nobody really cares.
Great chart from Doug Short illustrating the secular change in housing, no longer a major economic driver:
Overseas shipments declined 11.3 percent in May from a year earlier, the Ministry of Finance said on Monday. The median estimate of economists surveyed by Bloomberg was for a 10 percent drop. Imports fell 13.8 percent, leaving a trade deficit of 40.7 billion yen ($389 million). (…)
- Exports to the U.S. fell 10.7 percent in May from a year earlier, while shipments to the EU declined 4 percent.
- Exports to China, Japan’s largest trading partner, dropped 14.9 percent.
New-home prices excluding affordable homes climbed in 60 cities, down from 65 in April, among the 70 tracked by the government, the National Bureau of Statistics said Saturday. They dropped in four places, compared with five a month earlier, and were unchanged in six. (…)
Average new home prices in 70 major cities climbed 6.9 percent last month from a year ago, accelerating from April’s 6.2 percent rise, according to Reuters calculations based on data from the National Statistics Bureau (NBS) on Saturday.
The NBS data showed 50 of the 70 major cities it tracks saw year-on-year price gains, up from 46 in April.
“The average (price) growth of new homes in first-tier cities started to narrow, while it continued to widen in second- and third-tier,” said Liu Jianwei, a senior NBS statistician.
The southern city of Shenzhen remained the top performer, with prices surging 53.2 percent from a year earlier, slower than the 62.4 percent rise in April.
But on a month-on-month basis, prices were up just 0.5 percent after April’s 2.3 percent rise, evidence that property cooling measures introduced by some big cities recently are starting to bite.
Shenzhen and Shanghai have tightened downpayment requirements for second homes and raised the eligibility bar for non-residents to purchase properties.
Shanghai prices rose 27.7 percent on-year, easing from 28 percent in April. The monthly gain cooled to 1.9 percent from 3.1 percent. (…)
(…) On monetary policy, while interest rates have not been cut, there was a significant increase in monetary growth early in the new year, which is normally a reliable signal of monetary stimulus in China. The stance of fiscal policy remains opaque, but it has been relaxed, and will be expansionary by around 0.5 per cent of GDP this year, according to forensic investigation by JP Morgan.
The pace of factory closures in the manufacturing sector has clearly been increased, following the emphasis placed on rebalancing at the National People’s Congress this year. For the first time, there has been a shift in real resources away from manufacturing and investment, towards new sectors. Previously, there had been deflation in manufactured goods prices, but no shift in employment or real factory output.
As a result of all of these measures, the economy has once again stepped back from the brink of a hard landing, and is now growing, on the official figures, above the 6.5 per cent target for 2016.
On the less good news side of the equation, however, there are three key concerns.
First, the benign policy mix that has emerged in recent months does not seem to have been the result of a joined-up series of agreements between the various actors in the policy-making process within the Chinese government. In fact, a remarkable intervention by a so-called “authoritative person” in the People’s Daily in early May has been widely taken to have been a direct warning about the dangers of the recent economic stance from sources close to the office of President Xi Jinping himself.
This intervention directly criticised virtually all aspects of the recent easing in macro demand policy, arguing that it would delay the inevitable rebalancing of the economy and inject further leverage into an over-leveraged economy. Opinions differ about whether this was intended to be a direct personal attack on the policies of Premier Li Keqiang but it clearly raises serious doubts about how the policy mix might develop in future.
Second, the IMF has recently warned very strongly that the problem of excessive corporate debt needs to be tackled much more decisively than has happened so far. David Lipton spelled this out in a very clear speech last week, calling for debt work-outs, corporate restructuring and improved governance, and recapitalisation of the banking system on an urgent timescale.
He said that the corporate debt write-downs might amount to “at least” 7 per cent of GDP, which is a surprisingly low estimate. More likely, the write-downs will prove to be much larger, and will take many years to complete. They are clearly proving very difficult from a political and practical point of view, as they usually do in emerging markets at this stage of development. And dangerous stress in the corporate debt market is becoming far more visible.
Third, there is the continuing mystery over the PBOC’s exchange rate strategy. In January, the central bank appeared to “clarify” that it would be seeking to stabilise the renminbi against a basket of currencies, while allowing greater flexibility than before against the dollar. Since then, however, the Chinese currency has embarked on a continuous path of depreciation versus the basket, at a rate of around 12 per cent per annum. This has happened both when the dollar has been rising and when it has been falling.
While the RMB decline is in the right direction, the communication of the policy has once again been highly confusing, and there are signs that capital outflows from China might be starting again, as doubts creep in about a clandestine devaluation.
In the past few years, China risk has waxed and waned, without ever quite going away. The very slow-burning “crisis” is still rumbling along, without any clear signs of an early resolution in either direction.
It’s not only the write-downs that may cause a slowdown. Simply managing the debt down to more palatable levels could hurt the economy as NBF writes:
(…) There are serious doubts about China’s ability to manage the transition to a services-oriented economy. Softer growth in the world’s second largest economy has hurt profitability and made it more difficult for debt-burdened Chinese firms to stay afloat. However, that hasn’t stopped them from issuing more debt. As today’s Hot Chart shows, corporate debt issuance soared to a record 2.6 trillion yuan last year. So much so that corporate debt now accounts for a massive 145% of China’s GDP according to the IMF ─ state owned enterprises account for 55% of that debt despite accounting for just 22% of the economy. For the median
Chinese firm, gross debt relative to EBITDA (earnings before interest, taxes, depreciation and amortization) has more than doubled in the last five years. So, defaults are likely to increase. The only question is whether or not Beijing will be successful in managing the fallout to prevent a financial crisis which eventually spills over to the real economy.
One of the ways out is protectionism:
A Beijing patent ruling against Apple Inc. may send a shudder through Western companies doing business in China. Regulators said the exterior design of Apple Inc.’s iPhone 6 models had infringed the patent of little-known Shenzhen Baili, and barred Apple from selling its phones in the country. The ruling is under legal challenge, but the decisions signals the growing challenges that Western companies are likely to face in China in coming years on multiple fronts, the WSJ’s Eva Dou and Daisuke Wakabayashi report. The potential impact stretches across the supply chain. The case is the latest regulatory ruling that casts a cloud over Apple’s expansion plans in China. And it’s a reminder to logistics and freight operators eyeing China’s enormous market that there are big hurdles when Chinese companies are looking at the same market. (WSJ)
Hawkish Bullard turns ultra-dove on rates St Louis Fed chief forecasts a single increase in interest rates
(…) On Friday James Bullard, the president of the St Louis Federal Reserve, revealed that he was the rate-setter behind that unexpectedly low dot on the Fed’s “dot plot” of rate forecasts, as he executes a big shift in his views of the economy that puts him at odds with other rate-setters who see a gradual series of increases.
The former hawk said in a statement that he expects rates will remain unchanged in 2017 and 2018 following a single rate rise, in a leap towards an ultra-dovish outlook. (…)
Mr Bullard has until recently been seen as one of the more hawkish policymakers. Last year he spoke of the economy as heading into “boom-time” levels of unemployment, adding that higher borrowing costs would be needed to ward off the threat of asset bubbles. (…)
In terms of estimate revisions for companies in the S&P 500, analysts have made smaller cuts than average to earnings estimates for Q2 2016 to date. On a per-share basis, estimated earnings for the second quarter have fallen by 2.1%. This percentage decline is smaller than the trailing 5-year average (-4.4%) and trailing 10-year average (-5.5%) for a quarter.
As a result of the downward revisions to earnings estimates, the estimated year-over-year earnings decline for Q2 2016 is -5.1% today, which is larger than the expected earnings decline of -2.8% at the start of the quarter (March 31) and -4.9% last week. If the Energy sector is excluded, the estimated earnings decline for the S&P 500 would improve to -1.6% from -5.1%.
Eight of the ten sectors have recorded a decline in expected earnings growth since the beginning of the quarter due to downward revisions to earnings estimates, led by the Information Technology sector. Two sectors have recorded an increase in expected earnings growth since the start of the quarter due to upward revisions to earnings estimates: Industrials and Energy
Four sectors are predicted to report year-over-year earnings growth, led by the Telecom Services and Consumer Discretionary sectors. Six sectors are projected to report a year-over-year decline in earnings, led by the Energy, Materials, and Information Technology sectors.
As a result of downward revisions to sales estimates, the estimated sales decline for Q2 2016 is -0.8%, which is larger than the estimated sales decline of -0.5% at the start of the quarter. If the Energy sector is excluded, the estimated revenue decline for the S&P 500 would improve to 2.3% from -0.8%.
Thomson Reuters’ rally shows EPS down 3.7% in Q2, worse than the –2.2% expected on April 1 and the –3.5% of one week ago.
Interestingly, corporate pre-announcements on Q2 are not bad with 33 positive, up nicely from 21 at the same time last year and 25 at the same time in Q1’16. Negative pre-announcements are also better at 81 vs 95 and 91 respectively.
Factset data show that pre-announcements vs Q1 are worse for Consumer Discretionary companies, somewhat better for IT but substantially better for Health Care.
U.S. Gasoline Demand Likely to Slide Electric cars are poised to reduce U.S. gasoline demand by 5% over the next two decades—and could cut it by as much as 20%—according to a new report being released by energy consulting firm Wood Mackenzie.
The U.S., which currently uses more than nine million barrels of gasoline a day, could see that demand drop by as much as two million barrels a day if electric cars gain more than 35% market share by 2035, according to the report. (…)
A more likely scenario is a 5% drop in U.S. gasoline demand as electric cars build to more than 10% of the U.S. vehicle fleet by 2035, he said. (…)
Spencer Dale, the chief economist of energy company BP PLC, said last week in Houston that while he expects electric cars to start gaining traction, the internal-combustion engine still has significant advantages over electric alternatives and widespread adoption won’t happen in the next two decades.
The U.S. market today remains tiny, with pure electric cars amounting to less than 1% of total sales so far this year. But Tesla’s decision to build cars with sizable batteries that can run for more than 200 miles before recharging has led a number of competitors to double down on their own electric-car designs.
Nissan Motor Co., Hyundai Motor Co. and Volkswagen AG are working on their own long-range electric vehicles. Ford Motor Co. has said it would invest $4.5 billion over the next four years to develop 12 new electric cars and hybrids, and Volvo has set a goal of producing one million electric vehicles by 2025. (…)
If electric vehicles gain a foothold in the U.S., the impact won’t be all bad for fossil-fuel companies, the report concluded.
While petroleum demand would fall, natural-gas demand would likely go up, because utilities would need to generate more electricity and more of it would increasingly come from natural-gas-burning power plants as well as renewable-energy sources, the report said.
Starting July 1, cars registered before October 1997 and motorcycles registered before June 1999 will be barred from the city’s streets on week days, effectively removing vehicles that contribute about 5 percent of polluting elements linked to cancers, heart disease and respiratory problems such as asthma.
Paris, among the European Union’s laggards on air-quality control, is introducing rules that’ll leave only zero-emission and petrol-fueled cars registered after January 2011 on its streets on weekdays by 2020. Hidalgo faces a two-pronged battle: while car owners are up in arms over her rules, the EU is pushing France to comply with pollution limits or face sanctions. Her task is made even more challenging by the fact that peers like London, which started its air-quality fight more than a decade ago in 2003, are still grappling with health-threatening levels.