The slew of economic releases over the last couple of days have all had two things in common: 1) the data has been markedly improved which has given a silver lining to the economic storm clouds we have witnessed over the last several months; and 2) the fingerprint of Hurricane Sandy has been very visible. This is not a surprise as we stated at the beginning of November when we stated:
"While the recent impact of Hurricane Sandy is yet to be assessed - the storm could boost economic output in the very short term by roughly 0.5%. This could push a recession in the U.S. out to the 2nd or 3rd quarter of 2013."
The surges in the most recent releases of Personal Income and Spending, Durable Goods Orders and the Chicago Fed National Activity Report all showed very strong rebounds in the data. The question that needs to be addressed, however, is whether these surges are sustainable in the months ahead?
Personal Income and Spending
Personal incomes rose sharply in the most recent reports supported by workers returning to work and a sharp fall in inflation. For the month personal incomes gained 0.6 percent in November, following a 0.1 percent increase in October. This was solidly ahead of even the most optimistic market expectations (consensus was for a 0.3 percent boost) and bodes well for increased spending. Very importantly, the wages & salaries component rebounded 0.6 percent in November after falling 0.3 percent in October. Of course, the cause for the previous decline and the subsequent surge was primarily attributable to the Hurricane Sandy. Also, temporary hiring for the retail shopping season also played an important role in the increase.
The chart below shows annual change in real (inflation adjusted) personal incomes on a monthly basis. The trend has been clearly negative since the beginning of the year and the sharp decline in inflation in November, combined with the effect from Hurricane Sandy, caused real incomes to soar. The issue is that this is likely unsustainable.
However, this sharp surge in incomes came just in the “St. Nick” of time to save the holiday shopping season. Spending surged across the board as the North East got back to work replacing, repairing and upgrading all that was lost to the storm. That replacement boost, combined with holiday shopping, lead to a 0.4 percent spending surge in November after slipping 0.1 percent in October.
The chart shows real spending and incomes. The outsized surge in November incomes boosted consumption markedly higher.
By components for spending, durables rebounded 2.7 percent, following a 1.1 percent decline the prior month. Nondurables fell 1.0 percent, following a 0.1 percent dip in October. Services jumped 0.5 percent, following a 0.1 percent rise in October.
While these economic numbers are welcome bright spots in what has been a continuous series of negatively trending data – it is far too early to determine what these numbers mean by themselves. Over the next couple of months, as more post-Sandy data is accumulated, I will be able to better ascertain whether the data trends have begun to turn more positive.
What is going to be most interesting to watch is whether a repeat of the 2011 economic “soft landing” will occur. As a reminder, in 2011 the economy was slowing sharply in the summer months following the Japanese earthquake and tsunami. However, the economy was able to stabilize as the “Mother Nature effect” took hold. The combined effect of the warmest winter in 65 years, which led to sharply falling utility costs, boosted economic output and consumption. It is still very early; however, if we once again experience a fairly mild winter, combined with the short term boost from Hurricane Sandy, the economy could avoid a recession given the enormous stimulus being induced by the Federal Reserve at the current time. In the next couple of months we will be able to reassess our mid-to-late 2013 recession call as the data continues to mature.
New orders for durables are always very volatile and the monthly changes in the data give little evidence to what is really occurring within the economy. New factory orders for durables in November rose 0.7 percent following a 1.1 percent gain in October. While this was ahead of analysts’ expectations of a 0.5 percent gain the surge was very likely driven by Hurricane Sandy automobile replacement orders. There were healthy gains in the areas that are primarily related to rebuilding: primary metals, machinery, and electrical equipment. Computers & electronics also saw a modest rise.
Core capital goods orders, excluding aircraft, increased 2.7 percent in November, following a 3.2 percent boost the month before. Shipments for this series also posted consecutive increases, rising 1.8 percent and 0.6 percent in November and October, respectively.
However, as the chart above shows, the 3-month average of new orders continues in their broad downtrend, with the latest activity remaining well below the highs seen before both the formal 2007 and 2001 recessions.
Chicago Fed National Activity Index
As with the economic reports we reviewed yesterday the effect of Hurricane Sandy was clearly seen in the most recently CFNAI report. The production related components pulled the CFNAI into the plus column in November rising to a 0.10 reading from a revised -0.64 in October. The CFNAI, which is a composite index of 85 subcomponents, is a broad measure of overall economic activity in the U.S. With the three-month average, and the diffusion index, both remain solidly negative the concerns of economic weakness remain.
With the components for employment and sales/orders/and inventories all moving into negative readings in November, even though the negative pull from consumption and housing components eased, it is likely that lower readings are ahead.
The CFNAI is a component of the Composite Economic Indicator which is a composite index which also includes the ISM composite, several Fed Manufacturing Surveys, and the NFIB Small Business Survey. The chart of the indicator is shown below and is currently at levels that are indicative of economic weakness.
Need To Wait For More Data
While the data most definitely showed signs of improvement, which is a good thing, it will take another couple of months to determine if there has been a change in the trend of the overall economic data. The Federal Reserve’s multi-trillion dollar gamble is that continued injections of stimulus directly into the veins of the financial markets will boost asset prices enough to stimulate organic economic activity. While the Fed has been successful in the past at boosting asset prices and, ultimately, consumer confidence – there is little evidence that such artificial support boosts jobs or real economic activity. The next few months will be critically important as the resolution, or lack thereof, to the “fiscal cliff” and the debt ceiling potentially weigh on the markets and consumer sentiment.
While I have high hopes of a resolution in the near term that will allow some of the negative impacts of the “fiscal cliff” to be deferred until a later date – “hope” is not an investment strategy that I can employ. We remain cautious with portfolios at the current time until the data trends, along with fiscal policy changes, become more visible.
This is my last posting until after the holiday.
I want to wish you and your family a very happy, safe and Merry Christmas.