Federated predicts GDP rebound for the US
Phil Orlando, chief equity strategist at Federated comments on the implications of the first quarter decline in the US economy and argues that a macroeconomic rebound can be expected.
The Commerce Department flashed its weather-impaired, first-quarter GDP at much weaker-than-expected growth of only 0.1%, and then revised it down sharply to a de-cline of 1.0%. The final revision will be released Wednesday, June 25. The Bloomberg consensus is calling for another downward revision to a decline of 1.8%-versus 2.6% in last year’s fourth quarter-which would make it the single-worst quarter in the cur-rent recovery from the Great Recession, surpassing the dreadful 1.3% contraction of the third quarter of 2011.
With the difficult winter now behind us, several key economic metrics, such as employment, a good Easter retail sales season, manufacturing and auto sales, have re-bounded stronger than expected. As a result, we are raising our second-quarter 2014 GDP estimate from 3.6% to 4.0% (close to the robust 4.1% growth of the third quarter of 2013), while the Blue Chip consensus is also raising its estimate from 3.0% to 3.4% (within a range of 2.4% to 3.7%).
Some of the economy’s enormous pent-up demand may be pulled forward into the second quarter, but inventory liquidation may soon shift back towards restocking, along with a potentially solid Back-to-School (BTS) season. So we’re trimming our third-quarter GDP estimate from 3.7% to 3.5%, while the consensus is leaving un-changed it’s 3.0% estimate (within a range of 2.4% to 3.6%).
We’re also trimming our fourth-quarter estimate from 3.7% to 3.5%, and the consen-sus estimate remains unchanged at 3.1% (within a range of 2.3% to 3.8%). The Commerce Department’s significant downward revision for the first quarter of 2014 into negative territory forces us to revise our full-year 2014 GDP estimate down from 3.2% to 2.3%, while the Blue Chip consensus also guts its full-year estimate from 2.7% down to 2.1% (within a new 1.9% to 2.4% range). Federated is establishing a preliminary full-year GDP estimate for calendar 2015 at 3.3%, compared with the Blue Chip consensus at 3.0% (within a range of 2.6% to 3.4%).
Federated’s Macro Policy Committee also made the following investment observations: Core inflation, which strips out the nominal increase from volatile food and energy prices, has risen in recent months. On a year-over-year basis through May, the wholesale Producer Price Index (PPI) is running at a core level of 2.0% (up from a gain of 1.1% in February), and the retail Consumer Price Index (CPI) is at 2.0% through May (versus an increase of 1.6% in February).
The core Personal Consumption Expenditure (PCE) in-dex-the Federal Reserve’s preferred measure of inflation-is now at a 1.4% year-over-year level through April (versus a tepid gain of 1.1% in both January and February). This figure lies in the middle of the Fed’s 1.0% to 2.0% target range, and is still below its 2.0% inflation trigger to reverse its current Zero Interest-Rate Policy (ZIRP).
Benchmark 10-year Treasury yields, which peaked at 3.03% at year-end 2013, fell to 2.40% by the end of May. They have seemingly bottomed at this level, and have risen to 2.66% over the past three weeks. We continue to believe that yields could grind higher to nearly 3.50% over the course of 2014, particularly if the bond vigilantes’ inflation concerns spark a repeat of calendar 2013 when bond yields spiked from 1.60% in May to 3.00% in September. Crude (WTI) oil has risen by 10% over the past two months to nearly $108 per 42-gallon barrel due to heightened geopolitical risk in Iraq.
The Federal Reserve’s original $85 billion monthly Quantitative Easing (QE) program has tapered five times since December, and it is now down to a monthly pace of $35 billion. Fed Chair Janet Yellen will likely remain on this unwinding path until she’s wound QE down to zero by year end (at either the October or December Federal Open Market Committee meetings). We do not expect the Fed to begin to raise the federal funds rate from its current zero- to 25-basis-point range until this time next year.
While the difficult winter clearly hurt December and January results, the labour market has bounced back convincingly over the past four months. Nonfarm payrolls rose by an average of 231,000 new jobs over the past four months through May (versus 84,000 jobs in December and 144,000 in January). This marks the first time in 14 years that jobs added have exceeded 200,000 per month for four consecutive months, a trend that we expect will continue in June. While the ADP report (an important leading indicator of private payroll growth) of 179,000 jobs in May was weaker than expected, the internal mix had 80% of those jobs coming from small- and mid-sized companies, which is positive. Initial weekly jobless claims at 312,000 for the June survey week are still running at roughly a 7-year low, which is another positive from an important leading indicator.
After posting the weakest 3-month Christmas retail season since 2009, Easter sales were quite good. March and April combined rose by 4.3% in a robust year-over-year beat. Consumer spending accounts for 70% of GDP, so positive “control” results (which feed directly into GDP) in February, March and April may have set the table for a solid Back-to-School season in July, August and September.
From a consumer confidence standpoint, the Michigan consumer sentiment index rebounded from 73.2 in October 2013 to a 9-month high of 84.1 in April, before slipping to 81.9 in May. The Conference Board’s consumer confidence index bounced from 72.0 in November 2013 to a 6-year high of 83.9 in March before easing back to 83.0 in May.
The Leading Economic Indicators (LEI) have risen for four consecutive months through May to a monthly gain of 0.5%, led by labour, interest-rate and credit components. Last year, the national ISM manufacturing index troughed at a “contraction” reading of 49.0 in May 2013, but it has since rebounded sharply to 55.4 in May. With the difficult winter now behind us, factory orders have rebounded nicely in February, March and April after negative readings in December and January.
Wholesale inventories have enjoyed a strong 1.1% month-over-month bounce in March and April, from a tepid 0.2% increase in January, while business inventories have been very steady throughout the cycle. Industrial production (IP) rose by 0.6% in May, reversing a 0.3% decline in April, to get back on track with healthy February and March levels. Capacity utilization (CU) rebounded to 79.1 in May (just off its 6-year cycle high of 79.3 in March), up from a revised 78.9 in April.
Finally, durable and cap goods orders and shipments were revised sharply higher in March to their strongest levels since last November. While April results were sequentially weaker-largely due to consolidation from the robust March-they were still well above consensus expecta-tions, suggesting that manufacturing is strengthening post the difficult winter.
The auto industry finally shrugged off the effects from the brutal winter weather, with sales soaring to a 7-year high of 16.7 million annualized units in May from 15.16 million in a weather-impaired January when severe winter weather clearly hurt dealer traffic. Autos remain one of the economy’s true bright spots, with overall sales now up by 86% from the cycle trough of 9.0 million total units in February 2009.
But after a solid two-year run, we have not, as yet, begun to see the spring housing bounce that we had expected. Certainly the difficult winter weather held back building activity, as did rising prices and mortgage rates, lower inventories, tighter bank credit, student-loan debt and the impact on high-end affordability due to the fiscal cliff tax-law changes.
We’re starting to see some improvement, however, with a 5-month high to 49 in the housing-market index combined with April upticks in both new and existing home sales and continued decline in delinquencies and foreclosures.