Note: I am travelling this month. Posting will be sporadic and shorter due to limited time and equipment.
RENT RANT #4
I love Ed Yardeni, even when he has me rant on rent again…
Here he is discussing what many see as the most important data to watch these days:
Most economists, including Debbie and me, believe that if the data don’t support our forecasts, then there must be something wrong with the data and that they will be revised to show we were right after all. Most economists, including yours truly, also often dismiss components of headline indicators that don’t support our story and look to the remaining “core” indicators for conformity to our outlook and therefore confirmation of it. (…)
Another major economic indicator that is invariably sliced and diced by the brotherhood and sisterhood of economists is the CPI. September’s number was released along with all its components last week on Thursday. Some economists (such as us) claimed that it confirmed that inflation is still moderating and is turning out to be relatively transitory. Others looked at the report and concluded that inflation is stalling at a pace well above the Fed’s 2.0% inflation target. A few economists found evidence that inflation may be accelerating again, so it remains a persistent problem.
So who is right? We all are right all the time because there’s plenty of data to support all of our stories. Nonconforming data are dismissed as preliminary estimates that undoubtedly will be revised or simply are flawed. Future revisions no doubt will show that we are on the right track after all; if not, different data do so. We may not all be Keynesians or monetarists, but we are all prescient based on the data we choose to support our outlook!
Now let’s slice and dice the latest CPI and see what’s left: (…)
Before we go any further, here’s our punch line: The headline and core CPI inflation rates excluding shelter were both 2.0% y/y during September (Fig. 3 below). So to the question of when we’re going to get to the Fed’s inflation target, the answer is that we’re there now excluding shelter, at least based on the CPI measure!
Rent of shelter accounts for a whopping 34.7% and 43.6% of the headline and core CPI measures. Its inflation rate jumped from a low of 1.5% during February 2021 to a peak of 8.2% during March 2023 (Fig. 4). It was down in September but only to 7.2%.
In his speech, Powell observed: “Because leases turn over slowly, it takes time for a decline in market rent growth to work its way into the overall inflation measure. The market rent slowdown has only recently begun to show through to that measure. The slowing growth in rents for new leases over roughly the past year can be thought of as ‘in the pipeline’ and will affect measured housing services inflation over the coming year.”
Also, Powell acknowledged in his speech that “market rent” inflation (i.e., for new leases) has declined “steadily” this year. The Zillow rent index was down to 3.2% y/y during September. Using that reading rather than the CPI’s rent of shelter reading of 7.2%, Debbie found that the headline CPI is up just 2.3% versus 3.7% for the actual headline CPI!
Based on our analysis so far, the latest bout of inflation is turning out to be transitory rather than persistent after all, in our opinion. The Fed might achieve its 2.0% target for the core PCED inflation rate well ahead of schedule, i.e., in 2024 rather than 2025.
The chart below plots the Zillow Rent Index with CPI-Rent, both indexed at Jan. 2017=100 (Zillow data starts in 2015).
The series diverge starting in 2021 when Zillow rent (“market rent” per Powell and Yardeni) takes off reflecting the pandemic effect on new leases, while the BLS more gradual method takes time to reflect how all leases, including renewals which typically account for 90%+ of all leases, adjust to the “market”.
True, Zillow data show that new leases have flatlined since spring …
…but
- they are still rising MoM and are up 2.2% annualized this year (this is the seasonally adjusted data) and
- importantly, Zillow’s “market rent” remains 9.2% above CPI-Rent, suggesting that the BLS data needs to rise further, for a while, before it truly reflects the “reality”.
Ed is thus unknowingly right writing:
- “the data don’t support the forecasts”
- rentflation “remains a persistent problem”
BTW, in today’s WSJ: There’s Never Been a Worse Time to Buy Instead of Rent It is now 52% more expensive to buy a home than to rent one because of climbing mortgage rates.
And because of climbing house prices, all boosting rental demand:
Why would rents deflate in such an environment?
Then on to this other “problem”:
Supercore inflation is persistent.
In his speech, Powell said: To understand the factors that will likely drive further progress [on lowering inflation], it is useful to separately examine the three broad components of core PCE inflation—inflation for goods, for housing services, and for all other services, sometimes referred to as nonhousing services.” That last category has also come to be known as the “supercore” inflation rate. It has been sticky, having been stuck around 4.5%-5.0% since October 2021. However, the CPI services less housing inflation rate was down to 2.8% in September from last year’s peak of 8.2%.
You can slice and dice the CPI as much as you want but, in reality, Powell’s “supercore index” behaves almost exactly like the larger CPI-Services. There was a slight transitory delinking due to the housing crisis and the GFC but services prices are naturally highly sensitive to wage and energy costs.
This time, the pandemic helped boost wages which are now dragging services prices upward.
Hourly wages are still rising 4.3% YoY but slowed to a 2.4% annualized rate in the last 2 months. Hopefully, that will shortly influence services prices which shot up 5.8% a.r. in the same months. More wishful thinking?
But the economy remains strong (the Atlanta Fed GDP Now is at 5.3% for Q3) and so is the labor market:
- Job postings on Indeed are pretty steady through mid-October
- Unemployment claims dropped 14% in the 3 weeks to October 14. At 9-month low!
US crude oil production has risen substantially in recent weeks.
Who saw that coming? That’s 1M additional bbl/d, just like that!
Source: The Daily Shot
Cracks Emerge in Manufacturing Spending Boom Factories may be built with stone but the commitments to build them tend to be written in pencil, with plenty of wiggle room for delays.
(…) There is indeed a spending surge: Since the beginning of 2021, companies have announced $650 billion worth of megaprojects — defined as an investment greater than $1 billion — according to tabulations by Melius Research. These were not just grand ideas and suggestions; factories, hospitals and airports are getting built. Melius calculates that more than 50% of the megaprojects it’s tracking have already broken ground. Construction spending on manufacturing has doubled to an annualized rate of nearly $200 billion as of August, up from about $82 billion in the same period in 2019, according to Census Bureau data.
The problem is that markets that were recently booming are now looking less robust. Rising interest rates, inflation and a shortage of skilled workers have also made many projects materially more expensive than even just a few months ago. Factories may be built with stone but the commitments to build them tend to be written in pencil, with plenty of wiggle room for delays or for companies to change their minds entirely. As I’ve written before, the reality of reshoring is much more nebulous and nuanced than the narrative, and the timeline is subject to a high degree of variability.
Just this week, Tesla Inc. Chief Executive Officer Elon Musk said the company isn’t ready to go “full tilt” on construction of a vehicle factory in Monterrey, Mexico, and needs to first get a better sense of where the economy is headed and the impact of higher interest rates on car purchases.
That the factory was announced only in March shows just how quickly the economic winds can change — even for products that are considered high-growth government priorities. (…)
A significant percentage of the prominent and high-dollar US factory announcements post-pandemic is tied to electric vehicles. The capital spending plans for this industry factor heavily into bullish investor sentiment on electrical infrastructure and automation equipment manufacturers. So it’s concerning to see even incremental signs of a pullback. The knock-on effects could be painful for industrial companies with rich valuations, such as Eaton Corp. and nVent Electric Plc.
In inflation-adjusted terms, overall investment in structures in the US is trending 20% below pre-pandemic levels and manufacturing is the only category seeing higher levels of spending, according to a June report from Deloitte citing data from the US Bureau of Economic Analysis. Real investment in power plants, mining exploration and commercial office buildings has yet to recover. Weaker structure spending elsewhere in the economy counteracts much of the manufacturing boom, as Bloomberg Opinion’s Karl W. Smith writes.
To that end, elevator and escalator maker Schindler Holding AG this week lowered its outlook for new installations in the Americas in 2023 to a decline of more than 10% amid a “recent softening across all major construction sector indicators.” Overall orders grew 3.8% on a local currency basis in the most recent quarter, roughly half the pace of the previous period. Shares of crane and aerial lift-maker Terex Corp. fell by the most since 2020 after the company’s updated earnings guidance fell short of analysts’ estimates, fueling fears of a peak in demand.
Meanwhile, ABB Ltd. said orders declined 27% in its robotics and discrete automation business in the third quarter amid weak demand in China and a pullback in bookings from machine builders as they work through inventory accumulated during the post-pandemic supply chain disruptions. Discrete manufacturing deals with distinct, countable items such appliances or cars on a factory assembly line. These pressures are expected to persist for “the next couple of quarters,” Chief Financial Officer Timo Ihamuotila said on the company’s earnings call this week.
It’s not that demand is falling off a cliff, but slumping orders and shrinking backlogs don’t fit with the super-cycle narrative, and companies grappling with such a dynamic don’t tend to command particularly rich valuations. “While there is undoubtedly some resilience from project related activity (as these tend to involve a backlog, rather than just ‘book and ship’ activity), we caution that this clearly does not guarantee a strong share price performance, particularly in the context of a high degree of ‘crowding’ of the investment community consensus,” Barclays Plc analyst Julian Mitchell wrote in a note this month.
Reshoring, nearshoring, friendshoring have become investment themes and there is no doubt that this cycle is different, although new orders have flatlined recently:
Interestingly, the surge in manufacturing construction spending did not boost productive capacity anywhere close to previous peaks, at least just yet:
And capacity utilization rates have not improved.
TECHNICALS WATCH
From Longview Economics
(…) a wide variety of equity indices are now sitting at/close to key levels: The S&P500 is at the lower end of its uptrend channel (which has been in place since October last year). It’s also sitting on its 200-day moving average (4,255 – see chart); the NDX100 is below its 50-day moving average, and on multi month technical support; a broad European index is on its lows from earlier this month (and those from the March banking crisis).
Added to which, from a technical perspective, it looks like it’s entered into a downtrend (as does the DAX). Elsewhere in the US, the small and mid-cap indices (Russell 2000 and S&P600) are similarly sitting on major technical lows; while the Philly SOX is on its 200-day moving average.
Geopolitics are complicating an already complicated environment. Danger zone ahead! The S&P 500 equal weight index flashed negative on Oct. 2.
