The broad market has returned to the high-end of the trading range for the fifth time this year, up 7% since hitting a 10-week low of 870 on July 10. If this morning’s jobless claims data indicates the prior week’s move below 600K was the beginning of a trend rather than a function of the holiday-shortened week of July 4 and seasonal adjustments due to auto plant shutdowns we may have a shot at putting in a higher end to this ambit.
Technology, basic material, energy and industrials led the rally. All 10 major industry groups in fact participated in the move; health-care was the laggard managing a mere 0.8% increase.
Yesterday’s move higher was on the best volume in six sessions, yet still 9% below the year-to-date average on the NYSE Composite. Advancers torched decliners by a 17-to-1 margin.
Market Activity for July 15, 2009
Mortgage ApplicationsThe Mortgage Bankers Association reported that their mortgage apps index rose for a second-straight week, as refinancings remained strong – up 17.7% for the week ended July 10 after a 15.2% increase in the prior week.
Borrowers were attracted to a 30-year mortgage rate that fell back to hover around the 5.00% level. Further, the Obama administration’s decision to allow Fannie and Freddie to refinance mortgages with up to a 125% loan-to-value ratio certainly didn’t hurt this activity. Looking beyond the next six hours, no one can tell me that this is healthy. If home values do not begin to rise I’m going to guess that many of these loans will eventually turn into foreclosures and hence you are just delaying the inevitable, and thus delaying the recovery. But hey, who knows. We’ve got hope, right?
Purchases fell in the week ended July 10, down 9.4% after increasing 6.7% in the previous week. The rate on the 30-year fixed rate mortgage fell to 5.05%, down meaningfully from 5.50% in mid June.
Consumer Price Index (CPI)The Labor Department reported the CPI rose a bit more than expected in June, up 0.7% vs. the 0.6% estimate. The gain was driven by higher energy prices (a recurring story as this was the case with Tuesday’s PPI reading), which accounted for 70% of the monthly gain. This will not be the case next month as energy prices have declined substantially. The core rate, which takes out the volatile food and energy components, rose 0.2% last month (also more than expected) but up only 1.7% year-over year.
The headline number remains negative on a 12-month basis and this may remain the case until the comparisons become easier by November; these year-over-year numbers are still being compared to last summer’s commodity price spike that pushed CPI up to 5.6%.
Outside of energy (and transportation, which is impossible to hold back when gasoline is up 17% for the month) all other component’s prices remain very tame. Food was flat; housing flat (no surprise there); apparel was up 0.7% for the month, but this followed three months of decline; medical care up just 0.2%.
I do see some concern though within the commodities component of CPI. This segment was up 1.8% in June, again largely due to energy prices. However, when you take out food and energy commodities were up 0.3% last month and 4.1% at an annual rate over the past three months. This is the base we’ve been talking about. While inflation outside energy remains very low, this core commodity reading is starting from a pretty high base considering the weakness of economic activity. Once activity bounces, I believe there is real potential for the inflation gauges to spike. This remains a very early call, but if correct it will be a really tough thing for the economy to deal with as it will be another catalyst for higher interest rates.
Industrial Production
Industrial production fell 0.4% in June, marking the 17th decline in 18 months. This contraction in production is the deepest both in term if degree and duration since the wind down from WWII. Yet the fact that this latest reading marked the slowest rate of decline in eight months (actually, since the figure posted its only positive number over the past 18 months back in October) it led many to believe the worst of the recession is over.
I don’t think this idea that the worst is over is a novel thought as we will soon see a statistical recovery (a boost in GDP simply based on the low levels we’re coming from and the inventory rebuilding that will ensure after the largest inventory liquidation since records began in 1947). I’ve got to say though that the manufacturing component within this data is not showing we’re quite there yet – particularly the machinery data, which posted another large decline of 1.9% in June – down 25.5% year-over-year. If machinery can’t yet muster a rebound as China engages in robust infrastructure-building projects and the U.S. spending begins to get underway, I think that says something.And in terms of the industry components, manufacturing activity declined 0.6% in May (the eighth month of decline) and is down 15.5% year-over-year. And the woeful situation within the auto sector can’t be blamed for all of this as ex-motor vehicles/parts manufacturing production is down 14% year-over-year. Utility output rose in May for the first time since January, up 0.8% -- it is down 4% yoy. Mining activity dropped 0.5% last month (the seventh month of decline), down 10.4% yoy.
Capacity utilization fell to make another record low (since records began in 1967), down to 68.0% from the 68.2% hit in May. This record low capacity util. reading will cause the economic world to believe inflation cannot rise to troublesome levels – too much slack in employment and thus no wage-related inflation as they say. But our Keynesian world needs to be very careful here for Phillips Curve/NAIRUist models have gotten us in trouble in the past – inflation is more a function of too much money chasing too few goods than a function of wages. And whenever it is that credit begins to flow a bit, and all of that money the Fed has pumped in is no longer fallow, the productive capability will not be there to create the goods in order to absorb all of this money – that’s when inflation hits and teaches us, again, that Keynesian models are quite flawed.
FOMC MinutesThe Federal Open Market Committee (the policy-setting group of the Federal Reserve System) released its minutes (notes) from their June 23-24 meeting. We don’t always report on this news as it pertains to what the Fed saw in the six weeks leading up to that meeting and data we’ve already discussed on a daily basis. However, people were watching this release in particular looking to see what the members said about their quantitative easing (QE) campaign (bond purchases) for clues related to the direction of those actions.
First though, most members “saw the economy as quite weak and vulnerable to further adverse shocks.” Although market conditions had improved, “credit remained tight in many sectors.” They also correctly worried that consumer spending will resume its decline once temporary benefits to household income subsides as the fiscal stimulus subsides. (This is the point we’ve made when explaining that the past two months in which personal income rose was completely a function of government transfer payments – payments that accounted for 97% of the income gain in May.)
The members found conflict with respect to inflation as a few expressed concern the rate could “temporarily rise above levels consistent with their mandate” to keep prices stable. They also raised their 2010 forecasts for both GDP and the unemployment rate.
Uh, someone will have to explain that one to me. It is certainly true that the unemployment rate always continues to rise even as the economy bounces back. However, in a consumer-led and credit contraction, coupled with a plunge in stock and real estate prices, the jobs data should be seen as a more coincident indicator – consumers will not see their optimism increase until they see the job market turn simply because they have less access to credit and stock and house prices have been smashed. I don’t see how you increase your GDP forecast when you believe the jobless rate will get worse than previously expected.
On QE, the Fed appeared to lean toward leaving their program to buy $1.25 trillion in mortgage-backed and $300 billion in Treasury securities unchanged. They stated, “[al]though an expansion of such purchases might provide additional support to the economy, the effects of further assets purchases, especially purchases of Treasury securities, on the economy and on inflation expectations were uncertain.” They are questioning how much this program can boost the economy, while acknowledging the downside of the bond purchases – the actions may have the opposite of the desired effect. Instead of pushing rates lower, the bond market may sell off if it fears this money printing will spark a harmful inflationary event, which means rates will rise.
Futures
Stock-index futures were down big earlier this morning on news the talks to rescue CIT Group have collapsed, but have now reversed course after JP Morgan reported earnings that destroyed estimates.
The bank reported operating profit of 28 cents per diluted share for the quarter, the estimate was for a lowly 4 cents. While the market would certainly not cheer a 28-cent quarterly profit for a firm that made 50 cents in the same quarter during the previous recession, they easily jumped the estimate – a hurdle that was about the height of a speed bump -- as investment banking fees were boosted by big debt issuance and a massive amount of financial-industry stock issuance as the group needed to raise capital. The consumer side of their business continued to deteriorate. Home-equity charge-offs continued to rise and credit card charge-offs rose to 10.03% from 7.72% in the previous quarter and 4.98% a year ago.
Have a great day!
Brent Vondera
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