BAM Third Quarter 2017 Economics Update

The Economy

Real gross domestic product (GDP) increased at an annual rate of 3.0% in the third quarter of 2017, according to BEA’s “advance” estimate. In the second quarter, real GDP increased by 3.1%. The increase in real GDP in the third quarter reflected positive contributions from personal consumption expenditures (PCE), private inventory investment, nonresidential fixed investment, exports, and federal government spending. These increases were partly offset by negative contributions from residential fixed investment and state and local government spending. Imports, which are a subtraction in the calculation of GDP, decreased. The Commerce department said that the hurricanes’ impact on GDP can’t be estimated but disaster losses on fixed assets both private and public totaled about $131.4 billion.

The last time the economy had two consecutive quarters of at least 3% growth was mid-2014. It is too early to tell if this growth rate can be sustained. The economy has hit 3% growth in a quarter numerous times over the past 8 year expansion, only to fall back to the 2% trend. The latest forecasts for the fourth quarter of 2017 are 2.5% from GDPNow as of Oct 26 (Atlanta FED) and 2.95% from Nowcast as of Oct 27 (NY FED).

The third quarter of 2017 ended with a September unemployment rate of 4.2%, which was a 0.2% decrease from the prior month, a 0.7% decrease from September 2016, and the lowest level since February 2001. Total nonfarm payroll employment showed a small decline of -33,000 jobs. The Bureau of Labor Statistics stated, “A sharp employment decline in food services and drinking places and below-trend growth in some other industries likely reflected the impact of Hurricanes Irma and Harvey.” The number of long-term unemployed (those jobless for 27 weeks or more) was unchanged in September. The number of persons employed part time for economic reasons was also little changed. In September, average hourly earnings on private nonfarm payrolls rose by 12 cents to $26.55. Over the last 12 months, average hourly earnings have increased by 74 cents, or 2.9%. As employers struggle to find qualified workers, earnings are expected to continue increasing. This increase could give a boost to inflation which remains sluggish.

According to the National Association of Realtors (NAR), “Following three consecutive months of declines, existing-home sales ticked up in September from the previous month—but ongoing inventory shortages, coupled with recent hurricanes, muted any annual gains.” In addition the NAR noted, “Total existing-home sales, which include single-family homes, townhomes, condos, and co-ops, increased 0.7 percent to a seasonally adjusted annual rate of 5.39 million in September, 1.5 percent below a year ago. September also marks the second slowest month for sales in more than a year, behind August.” The median existing-home price for all housing types in September was $245,100, up 4.2% from September 2016 and, making September 2017 the 67^th straight month of year-over-year gains. First-time buyers were 29% of sales in September, which is down from 31% in August and 34% from year-ago levels. 48% of homes sold in September were on the market for less than one month. Check out Bowen Asset’s report “Housing and the Economy” where we discuss why first-time home buyers may be having a hard time. http://bowenasset.com/sg_userfiles/Bam_Housing_Market_May_2017_with_header.pdf)

According to NAR chief economist Lawrence Yun, “Home sales in recent months remain at their lowest level of the year and are unable to break through, despite considerable buyer interest in most parts of the country. Realtors this fall continue to say the primary impediments stifling sales growth are the same as they have been all year: not enough listings – especially at the lower end of the market – and fast-rising prices that are straining the budgets of prospective buyers.”

According to Freddie Mac, the average 30-year mortgage rate for September 2017 decreased to 3.81% from 3.88% in August. However, the September 2017 rate was 35 basis points higher than the rate one year ago, but 34 basis points lower than the January 2017 rate of 4.15%. The rate for all of 2016 was 3.65%.

According to The Conference Board, “The Consumer Confidence Index^®, “that had improved marginally in August, declined slightly in September.” The Index now stands at 119.8 (1985=100), down from 120.4 in August.” Consumers’ appraisal of the labor market was also somewhat less upbeat from the more favorable outlook in August. The Conference Board noted, “Confidence in Texas and Florida, however, decreased considerably, as these two states were the most severely impacted by Hurricanes Harvey and Irma. Despite the slight downtick in confidence, consumers’ assessment of current conditions remains quite favorable and their expectations for the short-term suggest the economy will continue expanding at its current pace.”

In September, as anticipated, the FED chose to keep the Fed Funds rate target range at 1.00 to 1.25%. Commenting on this decision the FED noted “The labor market has continued to strengthen and that economic activity has been rising moderately so far this year. Job gains have remained solid in recent months, and the unemployment rate has stayed low. Household spending has been expanding at a moderate rate, and growth in business fixed investment has picked up in recent quarters.” They also stated, “Hurricanes Harvey, Irma, and Maria have devastated many communities, inflicting severe hardship. Storm-related disruptions and rebuilding will affect economic activity in the near term, but past experience suggests that the storms are unlikely to materially alter the course of the national economy over the medium term.” While maintaining the current range for the Fed Funds rate, the FED stated that “In October, the Committee will initiate the balance sheet normalization program described in the June 2017 Addendum to the Committee’s Policy Normalization Principles and Plans.”

Stock Market

The broader equity markets repeated the second- and third-quarter volatility, but again ended up for the third quarter of 2017. The broader markets again strengthened through the quarter. For the quarter, the S&P 500 underperformed the Dow with gains of 4.0% and 4.9%, respectively. Year-to-date, the S&P 500 was up 12.5% while the Dow was up a greater 13.4%. The NASDAQ Composite however, showed the largest gains, with a third-quarter increase of 5.79% and a year-to-date increase of 20.67%. Of the 10 sectors represented in the S&P, 9 sectors saw positive performance for the quarter, as measured by the SPDR sector ETFs. The best performing sector was Technology (8.36%), followed by Energy (6.89%), and Materials (6.12%). Other gainers for the quarter were Financials (5.17%), Industrials (4.65%), Health Care (3.52%), Utilities (2.87%), Real Estate (0.92%), and Consumer discretionary (0.77%). The only underperforming sector was Consumer staples (-1.14%). Year-to-date, the top performing sectors were Technology (23.68%), followed by Healthcare (19.91%), Materials (15.79%), and Industrials (15.66%). Only Energy underperformed year-to-date with a return of -6.72%.

In Fixed Income, the Barclays U.S. Aggregate Bond Index continued to rally through the first 9 months of 2017, up about 3.11% after finishing up 2.72% for 2016. After bottoming in July 2016, the 10-year note began to rally through the third quarter, and strongly rallied through the fourth quarter, to end 2016 at 2.45%. However, for the first 9 months of 2017, 10-year note fell slightly to end the third quarter at 2.33%. The long end of the yield curve remained relatively flat as the 30-year bond also decreased (18 bps), ending the quarter at 2.86%.

Inflation pressures continued to increase through the third quarter of 2017 but moderated in early September. Gold rallied $107.61 per ounce from June 30th to September 8^th, when the price spiked at 1346.519 per ounce. However gold prices then fell $66.84 to end the third quarter at $1279.75. After bottoming in June 2017 ($42.63 per bbl.), oil prices rallied by $5.65 per bbl. through the third quarter to end the quarter at 51.67 per bbl.

After rallying in 2016, the WSJ Dollar Index (the value of the U.S. dollar relative to a basket of foreign currencies) declined through the first nine months of 2017 by about 6.70 to end the third quarter at 86.30. In early September, the index reached a low of 84.49, the lowest level since January 2015.

Conclusion

After the November election and through the first 3 quarters of this year, the broader markets moved higher based on expectations that the Trump agenda–less regulation, changes to healthcare policy, lower taxes, and increased expenditures on infrastructure–would fuel economic activity. In addition, many companies were reporting quarterly results with earnings growth in the double digits fueled by revenue growth that exceeded the broader economy. However, these impressive results were not broad in nature. While the broader markets remain near record highs, volatility has increased as share prices of many companies remain stretched.

Throughout 2017, there also appears to be evidence of an increase in economic activity along with a steady decrease in the unemployment rate which is already arguably approaching full employment. We are seeing a small increase in average hourly wage earnings which should continue to tighten employment pushed by both economic activity and politically driven immigration reform as the pool of available workers shrink for lower priced jobs. In addition, reconstruction efforts will continue to push short term demand for employees particularly as Houston, South Florida and Puerto Rico rebuild. The housing market should continue to tighten driven by both long term economic improvement and comparatively low and stable mortgage interest rate creep.

Until recently the Trump agenda had appeared to be stalled in Congress with the failure to repeal and replace the ACA. However, with the recent movement by Congress on tax reform, we believe the markets are now beginning to price in some effects reform could have on company results.

Although we continue to see an increase in economic activity, our near term cautiousness is based on a number of things. Firstly the markets appear to be stretched in the near term and markets could dip if movement on legislation is slowed. Other factors which might negatively affect stock prices include upcoming fiscal budget negotiations, failed negotiations on the debt limit and a FED which could tighten more quickly than expected, either through further Fed Funds hikes or decreasing their balance sheet. Other geopolitical factors that could affect stock prices include North Korea and terrorist threats.

At Bowen Asset, we believe that uncertainty creates opportunity and we continue to identify buying opportunities created by market corrections. In addition, we believe that during times of volatility, stock picking becomes more important to achieving investor goals. We continue to search for asset managers who can outperform the broader markets over the long term.

Disclaimer:

While this article may concern an area of investing or investment strategy in which we supply advice to clients, this document is not intended to constitute a complete description of our investment services and is for informational purposes only. It is in no way a solicitation or an offer to sell securities or investment advisory services. Any statements regarding market or other financial information is obtained from sources which we and/or our suppliers believe to be reliable, but we do not warrant or guarantee the timeliness or accuracy of this information.

Past performance should not be taken as an indicator or guarantee of future performance, and no representation or warranty, express or implied, is made regarding future performance. As with any investment strategy or portion thereof, there is potential for profit as well as the possibility of loss. The price, value of and income from investments mentioned in this report (if any) can fall as well as rise. To the extent that any financial projections are contained herein, such projections are dependent on the occurrence of future events, which cannot be predicted or assumed; therefore, the actual results achieved during the projection period, if applicable, may vary materially from the projections.

Sources for reference only

http://www.bea.gov/newsreleases/national/gdp/gdpnewsrelease.htm

https://www3.troweprice.com/usis/personal-investing/planning-and-research/t-rowe-price-insights/markets/quarterly-market-review.html

https://www.conference-board.org/data/consumerconfidence.cfm

http://www.usatoday.com/story/money/2016/12/27/consumer-confidence-surges-december/95870396/

http://www.freddiemac.com/pmms/pmms30.htm

https://www.bloomberg.com/quote/XAUUSD:CUR

http://performance.morningstar.com/Performance/index-c/performance-return.action?t=XIUSA000MC

https://fred.stlouisfed.org/series/DCOILWTICO/downloaddata

http://quotes.wsj.com/index/XX/BUXX

https://www.bls.gov/news.release/pdf/laus.pdf

https://www.bls.gov/news.release/pdf/empsit.pdf