NEW$ & VIEW$ (9 JUNE 2014)

U.S. EMPLOYMENT GROWTH ACCELERATES

U.S. employers added 217,000 new jobs last month, putting the average for the last three months at 234,000, a step up from average gains of 197,000 over the last twelve months.  The Labor Department revised April payroll gains down to 282,000 from 288,000 and left March’s gains unchanged at 203,000. The unemployment rate held steady at 6.3%, though the participation rate remained stuck near 30-year lows.

May’s job gains were led by the service sector with health and education adding 63,000 jobs and transportation adding just over 16,000. Gains were less broad based than in the previous month. The Labor Department’s diffusion index, which measures the sectors adding jobs, fell to 62.7% from 65.9%.

Data on earnings continued to indicate an absence of wage pressures. Average hourly earnings rose 2.1% to $24.38 from a year earlier. (WSJ)

Note that wages for production and non-supervisory workers are up 2.4% in May and 2.2% annualized since January.

Jobs Return to Peak, But Quality Lags The U.S. finally clawed back all the jobs lost since the recession hit in late 2007, a watershed in a grindingly slow recovery that finds a labor market still in many ways weaker now than before the downturn.

(…) Total U.S. employment hit 138.5 million, just over its previous peak of 138.4 million (from January 2008.) Still, job creation hasn’t kept up with population growth. Employment is still about 7 million positions shy of where it should be if jobs had kept up with the increase in the number of working-age Americans, according to a calculation by the Economic Policy Institute, a Washington think tank.

The number of jobs in manufacturing, construction and government—typically well-paying fields—has shrunk, while lower-wage work grew. The U.S. has 1.6 million fewer manufacturing jobs than when the recession began, but 941,000 more jobs in the accommodation and food-service sector. More than 40% of the jobs added in just the past year have come in generally lower-paying fields such as food service, retail and temporary help. (…)

Part of the problem with construction and manufacturing is the lack of available workers:

Though still a shadow of its former size, construction is experiencing something it has not felt since the housing bubble peaked in 2006: labour shortages. Builders complain that they cannot find enough carpenters, labourers and estimators. It is too soon to call it a seller’s market, but wages are starting to respond. Mr Sireno reckons a commercial drywaller in southern Texas, where his company operates, could expect to earn $15-20 an hour a year ago. Now, that might be $18-25. (…)

Ken Simonson of the Associated General Contractors of America, a trade group for builders, notes that in the past four years the number of jobless construction workers has fallen by 1.1m, but only 40% of this is because jobless workers found jobs in construction. The remainder left for other industries, such as oil and gas, stopped looking, or retired.

Truckers are in short supply, too. The median driver is 47 years old; about 100 retire every day. Many companies would put more trucks on the road if they could find more drivers. Some offer signing bonuses of $1,000 to $3,000.

Besides construction, Nancy Lazar of Cornerstone Macro, an investment advisory firm, notes that wage growth has also accelerated in manufacturing, mining and logging, and transport. All these are industries where business activity is starting to grow faster than the overall economy, and all pay well. Ms Lazar says: “You are now entering a new cycle where higher-paying jobs are going to be a key component of the growth in employment.” (The Economist)

Hourly wages in construction have increased at a 3.2% annualized rate in the past 6 months. Trucking: +6.7%.

U.S.: Full‐time jobs still a year away from their pre‐recession peak

The U.S. hiring cycle appears to have reached “escape velocity”. Net new payroll job creation exceeded 200,000 for the fourth consecutive month in May. As today’s Hot Charts shows, a sequence like this has not been observed in over 14 years. Importantly, this newfound momentum is translating into a rotation from part-time to full-time employment. In May alone, more than 312,000 such jobs were added – bringing the year-to-date gain to 1.4 million. This performance notwithstanding, the level of full-time employment still remains below its pre-recession peak by about 3 million. As shown, the U.S. Federal Reserve has historically shied away from raising its policy rate until after full-time employment had reached a new peak. According to our current forecast, such a development will not occur before H2 2015.

Robots: rise of the machines

(…) Neelie Kroes, vice-president of the European Commission, this week warned robot makers they would have to address public fears that their creations would terminate millions of jobs. One study estimates that 47 per cent of US jobs are at risk from smarter, harder-working robots. Xenophobes everywhere will be waxing nostalgic about immigration before long.

Not only blue-collar jobs are at risk. An algorithm has reportedly been appointed to the board of a venture capital company – complete with voting rights. Given the behaviour of human directors (think Lehman and Enron) there is a lot to be said for one that has processed the relevant information, turns up, and is not swayed by personal loyalty or luxury junkets.

Robots’ reach is expanding beyond the shop floor to healthcare, customer services and even agriculture. (…) Last year the number of industrial robots sold globally hit a record high at 179,000, up from just over 80,000 a decade ago, according to the International Federation of Robotics. Some 95,000 professional service robots, valued at about $17.1bn, are expected to be installed between 2013 and 2015, and the global market for automated labour is forecast to hit close to $82bn by 2020. China, trying to cope with rising labour costs and rapidly growing demand, is installing robots at a record pace. (…)

Meanwhile, back at the ranch:

Sticker Shock in the Beef Market

(…) Consumers already are feeling the impact of higher cattle prices. Average retail fresh beef prices climbed to a record $5.496 a pound in April, up 13% from a year earlier, according to the U.S. Department of Agriculture. The recent gains in feeder-cattle prices are likely to translate into higher prices for hamburgers and steaks in the years ahead as feedlots, meatpackers and retailers pass along the increased costs.

Rebuilding the nation’s cattle herd can be a slow process, as a cow’s nine-month gestation period normally produces just one calf a year. That calf is typically kept on the farm to graze pasture grasses by its mother’s side for at least an additional eight months before entering feedyards.

The USDA last month projected that retail beef prices will rise as much as 6.5% this year, compared with 2% last year. (…)

To be sure, some livestock traders warn that the rally could collapse if U.S. consumer demand for beef slows, creating pressure across the cattle industry. Prices for live, slaughter-ready cattle have fallen about 8% from a record $1.5195 a pound on the CME in February. If live-cattle prices fall significantly in the months ahead, margins for feed-yard operators could be squeezed. (…)

MONEY VELOCITY ON THE RISE?

• Credit-Card Use Surges In April American consumers threw caution to the wind in April and ran up their credit-card balances at the fastest pace in almost 13 years.

The amount of outstanding revolving credit — a figure that’s mostly credit-card debt — rose at a seasonally adjusted annual rate of 12.3% to $870.44 billion in April, according to a Federal Reserve report released Friday. That was the fastest rate of increase since November 2001, when annual growth was 12.33%.

Overall consumer credit, including student and car loans but excluding real-estate loans like mortgages, increased by $20.85 billion, or at a 10.23% annual rate.

The surge in credit-card usage marks a new sign of rising consumer confidence as well as increased willingness by banks to open up their credit spigots. (…)

The Federal Reserve’s latest quarterly survey of bank loan officers, released last month, showed that most respondents reported easing standards for this type of lending in the first three months of this year and that customer demand had improved. Respondents forecast growth in credit-card lending would reach prerecession levels of around 6% by 2016. It grew by less than 1% last year. (Chart from Haver Analytics)

• Economists At U.S. Banks See Growing Interest from Businesses for Loans

Economists from big U.S. banks said Friday they’re seeing increased demand for both commercial and industrial loans and commercial real estate loans, a development that could signal a rise in business spending in the coming months. (…)

The Commerce Department estimated that fixed nonresidential investment declined at a 1.6% pace in the first quarter. The ABA committee, which includes more than a dozen economists from U.S. banks, predicted that metric of business spending will rebound to a 5.7% growth rate in the second quarter and rise at a 6% pace in the third and fourth quarters of 2014. (…)

FT Alphaville has a post from Credit Suisse which gives more ammo to my friend Pat who is arguing that U.S. companies have underinvested in recent years:

The obvious contrast is with the US, where the consumer has been driving growth since the post-dotcom recession ended, and where business investment has remained mysteriously stagnant for years. That trend has also held very recently, with consumption remaining steady in the first quarter while investment growth turned negative.

Interestingly, corporate underinvestment seems to be a global phenomenon.

China’s Export Gains to Cushion Growth as Imports Slump China’s exports rose more than analysts estimated in May, helping to cushion the world’s second-biggest economy from a deeper slowdown as an unexpected slump in imports highlighted risks to growth.

Overseas shipments gained 7 percent from a year earlier, the customs administration said yesterday in Beijing, exceeding the 6.7 percent median forecast in a Bloomberg News survey. Imports fell 1.6 percent, leaving a $35.92 billion trade surplus, the biggest in five years according to Bloomberg data.

China Home Prices to Fall 5% on Supply Pressures, S&P Forecasts

Home prices will fall 5 percent this year compared with an 11.5 percent gain in 2013, the New York-based ratings company said in an e-mailed report today. Sales volume will improve in the second half of the year and rise 10 percent for the full year, boosted by price cuts, according to the report. (…)

Home prices fell 0.3 percent in May from April, the first monthly drop since June 2012, according to SouFun Holdings Ltd., China’s biggest real estate website owner.

Developers set a target 20 percent higher than their average 2013 sales and achieved only 27 percent of it in the first four months, according to S&P, which tracks 27 developers.

Japan Growth Picks Up More Than Estimated on Investment Japan’s economy grew at a quicker pace than estimated in the first quarter, as business spending increased more than previously reported.

Gross domestic product grew an annualized 6.7 percent in the first three months of the year, the Cabinet Office said in Tokyo today, faster than a preliminary 5.9 percent and the median forecast of 5.6 percent by economists in a Bloomberg News survey. The nation’s current-account surplus narrowed in April from a year earlier, separate data showed. (…)

Business investment rose 7.6 percent from the previous quarter, revised up from a preliminary 4.9 percent increase.

Consumer spending climbed 2.2 percent, more than an initial estimate of a 2.1 percent gain. Separate data today show consumer confidence rose in May for the first time in six months. (…)

ECB Measures Fail to Tame Euro—For Now

The euro on Friday traded at roughly the same level against the dollar it was at before the ECB’s policy announcement Thursday. Against the dollar, the euro is up 0.1% this week and up 0.4% since hitting a three-month low on May 28.

Behind the currency’s resilience: A rush by yield-seeking investors into riskier corners of euro-area markets, such as stocks and high-yield bonds.

Still, many investors are betting that the euro eventually will resume its decline. On the futures markets, bearish wagers outstrip bullish ones by the widest margin in more than 10 months, according to the U.S. Commodity Futures Trading Commission.

Many bearish investors expect that the ECB in the coming months will start an asset-purchase program that would inject money into the economy to further stoke growth, a move that could push the currency lower. At a news conference following Thursday’s meeting, ECB President Mario Draghi left the door open to such purchases. (…)

Yields on Italian and Spanish debt touched all-time lows Friday. (…)

Mexico makes surprise half-point rate cut Central bank catches markets on hop as rates hit record low

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Mexico’s central bank has done it again – catching the market completely on the hop by cutting its benchmark interest rate by half a point to a record low of 3 per cent to try to shore up a flagging economy.

The peso dropped and stocks and bonds surged on the cut, the fourth shock move in just over a year after a hat-trick of cuts in March, September and October 2013.

Banxico said it had been motivated by the prospect of “economic growth in 2014 being weaker than expectations even a couple of weeks ago”, when both it and the government bowed to the inevitable and cut their growth forecasts for Latin America’s second-biggest economy. (…)

The bank, which is expecting between 2.3 and 3.3 per cent growth this year, singled out activity in March as having been “particularly worrying” and said it now appeared that recovery in the second quarter would be “more moderate” than previously expected. (…)

EARNINGS WATCH

Factset: Analysts Not Slashing Earnings Expectations for Q2

The estimated earnings growth rate for the second quarter is 5.4% this week, slightly below the estimated growth rate of 5.6% last week. Downward revisions to EPS estimates for AT&T accounted for most of the drop in the estimated earnings growth rate for the index this week.

The estimated earnings growth rate for Q2 2014 of 5.4% is also below the estimate of 6.9% at the start of the quarter (March 31). Eight of the ten sectors have recorded a decline in expected earnings growth since the start of the quarter due to downward revisions to earnings estimates, led by the Materials, Consumer Discretionary, and Telecom Services sectors. Two sectors have recorded an increase in expected earnings growth over this time due to upward revisions to earnings estimates, led by the Health Care sector.

Although the growth rate for the second quarter has dropped since March 31, analysts have cut earnings estimates over the first two months of the quarter by the lowest amount since Q2 2011. The percentage decline in the Q2 bottom-up EPS estimate) was 1.2% over the first two months of the quarter. This decline in the EPS estimate was lower than the trailing 1- year (-3.1%), 5- year (-1.9%), and 10-year (-3.3%) averages for the first two months of a quarter. In fact, this marked the lowest decline in the bottom-up EPS estimate during the first two months of a quarter since Q2 2011, when the bottom-up EPS estimate actually increased by 1.5%.

At this point in time, 109 companies in the index have issued EPS guidance for the second quarter. Of these 109 companies, 82 have issued negative EPS guidance and 27 have issued positive EPS guidance. Thus, the percentage of companies issuing negative EPS guidance to date for the first quarter is 75%. This percentage is above the 5-year average of 65%, but below the percentage recorded for Q1 2014 (84%) at the same point in time in the quarter.

S&P’s tally shows that Q2 estimates have only been shaved 2 cents to $29.45 in the past 2 weeks.

SHOWTIME!

The Rule of 20 P/E ratio hit 20 last Friday (18x trailing P/E + 2.0% inflation). Will we enter the dark side (higher risk yellow area in chart)? The significance of this is that beyond “20”,  from a valuation standpoint, the arithmetic downside to equities exceeds the upside since “20” is defined as “fair value”. In other words, the risk/reward equation becomes tilted to the higher risk area.

This means that a lot of things must keep going right for equities to keep rising.

• Given Q2 estimates, trailing EPS should advance 2.8% during the summer. If inflation stays at 2.0%, the Rule of 20 fair value will rise to 2015 by August.
• Inflation needs to reach 2.5% to fully offset the expected gain in trailing EPS by August.
• The economy seems to be accelerating. At a minimum, there is no sign of a summer swoon like we had in each of 2010-11-12-13. ISI company surveys so far keep rising.
• Sentiment? see below:

SENTIMENT WATCH

• Stocks hit record on economic optimism

• This will make headlines just about everywhere! S&P 500 nearing the 2K summit

• The S&P 500 rose more than 1% on Friday, a move it has not made in a single session in almost two months. Yet, the CBOE Volatility Index fell below 11 on Friday, for its lowest close since 2007.

• Investors Intelligence’s bullish reading rose to 62.2%, the second-highest on record, notes Peter Boockvar, chief market analyst at the Lindsey Group. That surpasses the 60.8% in August 1987 and 62% in October 2007 — times of major market peaks. The record was 62.9% in December 2004, 1½ years into that bull market, which he expects to be topped in this week’s reading following the ECB’s actions. Bears remain at a “lowly” 17.4%. And a seemingly endangered species.
• Uber value hits $18.2bn on fundraising Latest $1.2bn capital round sees valuation jump $8bn in just weeks. The valuation has soared from about $3.5bn last year, when Google’s VC arm and TPG, the private equity group, led a $258m investment in the company. Early stage talks with investors valued Uber at about $10bn just weeks ago, according to several people familiar with the discussions.

Mommy, is this über exuberance?

However, while markets are rising, Goldman Sachs sees sellers of equities just about everywhere (via Zerohedge):

US equity flows have weakened during the past month with outflows from US equity mutual funds totaling $10 billion since April 30. The outflows have been broad-based with all categories affected other than Equity Income funds. The preference for yield is also evident in continued strong flows into taxable bond funds as well as outperformance by stocks with high dividend yield. Small-cap funds have experienced the largest outflows consistent with Russell 2000 lagging the S&P 500 by 625 bp YTD (5.9% vs. -0.3%).

Flows are also weaker in relative terms as both bond and international equity funds continue to receive inflows. During the past five weeks $12 billion was withdrawn from ICI domestic equity mutual funds. Meanwhile, $7 billion moved into international equity and $11 billion flowed into taxable bond funds. Both hybrid and municipal bond funds also had inflows. Lipper fund flow data shows a similar but less pronounced trend with $8 billion of outflow from domestic funds in May of which $7 billion was small cap funds. (…)

Institutional investors have also reduced exposure to US equities. Net equity futures positions of Institutional and Levered Funds have declined to $68 bn at the end of May from $92 billion at the start of April. The shift has been caused by large growth in the net short exposure of levered funds. Net futures sentiment is below average but has rebounded from very low readings last month. Broad-based short ETF exposure also continues to rise across major indices.

Pension funds have also been selling stocks and buying bonds this year but the pace has outstripped our estimates. Yesterday’s release of the Federal Reserve Flow of Funds report showed pension funds sold $42 billion of equities during 1Q ($168 billion annualized). The outflow is already 7x our initial 2014 annual estimate of $25 billion. Public rather than private pension funds dominated the equity selling. Assets shifted to short-term bonds.

The Tepper about face last week seems to have caught short sellers flatfooted:

Meanwhile, corporations keep investing in themselves:

Finally, the camel of the week:

  SocGen 10-Year Outlook: S&P To 4,000 Or… 500 

From Société Générale (via Zerohedge):

This is the second edition of our 10-year equity outlook. The first was published in July 2009, when the economic consensus was still weighing up deflation fears and valuations were depressed (read: an excellent entry point.). At the time we set an S&P500 target of 1300 under our central scenario (in mid-June 2009 it was 923).

Zerohedge adds, for our benefit:

So in 2009 they forecast the S&P to be at 1300 in 2019… and we are now 50% higher than that already!!

No matter what, SocGen sees US equity performance over the next 10 years as modest at best. They note that US equities face three headwinds: cyclically-adjusted valuations (CAPE, starting date 1881) have returned to very expensive territory, corporate margins stand at historically high levels, and after already five years of growth from the 2009 trough, we estimate that the probability of another recession kicking in is close to 100% within the forecast timeframe (the longest cycle ever was 120 months, or 10 years). While their central case is ‘moderate growth and inflation’, they project a possible high growth surge to 4000 for the S&P 500 and a deflation scenario which would put the S&P 500 at 500 (-12% per annum).

I can’t wait for SoGen’s third edition. BTW: a camel is a horse designed by a committee of economists…