FAST FACTS ABOUT TODAY’S ECONOMIC DATA:
* We are all waiting on the Fed and its “dot plot”, as if they know what they are doing.
* If the Fed used artificial intelligence, the odds of a rate CUT would be going up.
* Why? Homebuilder Confidence is tanking, inflation peaked months ago, and China is getting ugly.
* Broad-based slowing reported in NY Fed Manufacturing Index.
* EU Trade balance deteriorated further. We bet Draghi can’t wait to retire.
ACADEMIC INTELLIGENCE – PUNDITS STILL TREAT THE DOT PLOTS AS IF THEY ARE MATHEMATIC LAW:
We find it laughable how the talking heads continue to focus on the Fed’s “dot plot”, as if the Fed has some magical ability to forecast the future of the global economy. Here’s a hint: They can’t. Not only are they unable to predict the future with any reliability, but the Fed has NEVER predicted a downward inflection point in the economy. EVER. The Fed, like most humans, is inherently biased to the upside. Humans are optimistic people, and they are even more optimistic when there are pressures upon them that require their decisions to yield positive results. What Fed Chairperson would ever tell markets that things were about to get worse and that they were in part responsible for it?
We need to recognize that the Fed employs the worst kind of intelligence: academic intelligence. Academics believe that their models and complex regressions can accurately predict changes in human economic behavior. And when they stumble on an equation that they think is applicable for Fed policy (like trying to calculate the current “natural” rate of unemployment for example), the group think surrounds the topic and many papers are written and speeches given.
But as best we can tell, when it comes to the economy, you can’t model for greed and fear, because these emotions turn on and off like a light switch. But taking that even further, you definitely can’t model trust.
Why does trust matter?
Because global market participants and leading trade officials have spent decades opening up China as a major trading partner and now those participants (including the MSCI Index) have to assess whether or not China can truly be trusted with our technology, patents, and capital. And markets are rapidly realizing that they can’t trust China any longer. And with that, the entire global supply chain is on the verge of complete upheaval.
We challenge the young PhD’s at the Fed to model up the coming impact of that disruption. They can’t, because we have no idea what it might look like and nothing like this has ever happened before. And even if some young maverick were to find some way to do it, by hiking up global risk premia and slashing loan growth projections, Fed officials would want to bury the conclusions. The study would be quickly discredited (and the maverick PhD would soon be hired by a hedge fund and make 10x what he was making at the Fed).
We need to replace the academic intelligence at the Fed with another kind of A.I.: Artificial Intelligence. A computer would do a far better job assessing inflection points and would work in a far more dynamic fashion that the Fed can ever achieve. The infrequent ‘group think’ meetings of the Fed could be replaced by a real-time, facts-based equation that would have no bias. The minute inflation heats up, the model could instantly trim liquidity. And when inflation cools (like it did months ago), the model could begin to inject liquidity.
Alas, nobody would need to wait a few months to see if some human dots got moved around (yes, it’s the 21st Century and global investors are going to stare at a bunch of dumb dots this week, as if they carry meaning).
The idea of replacing the Fed with artificial intelligence isn’t our idea, rather, it is an idea brought up by Nobel Prize winning economist, Milton Friedman decades ago. Mr. Friedman said, “We don’t need a Fed. I have, for many years, been in favor of replacing the Fed with a computer. Each year, it would print out a specified number of paper dollars. Same number, month after month, week after week, year after year.”
Just think, if the Fed were a computer, Stan Druckenmiller and Kevin Warsh wouldn’t have had a reason to write an op-ed in the Wall Street Journal. The computer not only wouldn’t read it, but it would have already known the conclusion, having spent the last several weeks adjusting liquidity to reflect recent negative developments in inflation and global markets. Or better yet, maybe it wouldn’t have blown all these asset bubbles up in the first place. Because a computer doesn’t feel the need to make politicians look good.
NY FED MANUFACTURING INDEX SLOWED TO 10.9 IN DECEMBER:
The NY Fed’s Empire State Manufacturing Index plunged -12.4 points to +10.9 in December. This is the lowest level since May 2017; however, it still marks the 26th consecutive month of manufacturing growth in the region. The decline in the month was led by Current New Orders (-5.9 points to 14.5), Shipments (-7.0 to 21.0), Unfilled Orders (-5.1 to -5.1), Inventories (-3.8 to +7.1), and Average Workweek (-1.2 to 8.0). Also, Prices Paid declined -4.8 points to 39.7 and Prices Received declined -0.3 points to 12.8. However, there were improvements in Current Number of Employees (+12.0 to 26.1). Lastly, the Future General Business Index fell -3.0 points to +30.6, with notable declines in Future New Orders, Unfilled Orders, Shipments, Prices, and Delivery Time.
NAHB/WELLS FARGO U.S. HOUSING MARKET INDEX AT LOWEST LEVEL SINCE 2015:
The NAHB Housing Market Index fell -4 points to 56 in the month of December. In fact, this is the lowest level since May 2015. Nonetheless, the index has now been above 50 for 54 consecutive months! In the month, Current sales fell -6 points to 61, Future Sales fell -4 points to 61, and Traffic flows fell -2 points to 43. Geographically, there were declines across the U.S.: Northeast fell -15 points to 37, the Midwest fell -2 points to 52, the South fell -4 points to 61, and the West was unchanged at 65. “We are hearing from builders that consumer demand exists, but that customers are hesitating to make a purchase because of rising home costs,” said NAHB Chairman Randy Noel, a custom home builder from LaPlace, La.
EUROZONE TRADE BALANCE WORSENED DESPITE REBOUND IN EXPORTS IN OCTOBER:
According to Eurostat, the Eurozone Trade Balance with Non-EU countries worsened -€0.5 billion to €12.486 billion in the month of October (seasonally adjusted). In the month, exports rebounded +€4.052 billion M/M to €194.42 billion; however, imports increased +€4.553 billion to €181.934 billion. Also, on an unadjusted basis, the Eurozone Trade Balance increased +€1.12 billion to €13.952 billion. On a Y/Y basis, exports rebounded +11.36% Y/Y (-0.79% Y/Y prior) and imports increased +14.80% Y/Y (+6.79% Y/Y prior). Note that at the end of October, the Euro declined -2.52% M/M and -2.87% Y/Y to 1.1312 versus the US Dollar.
U.S. GDP: Our GDP model sees 3%+ Real GDP growth through Q1 2019, but slower growth thereafter (downshifting to 2%). Our model doesn’t factor in the stimulus from the recent tax cut, so the growth reversal in 2019 could be more pronounced than our model appreciates (it is presumed that 2018 will be better than our model due to the tax cut, whereas the delta for 2019 would be worse than our model predicts).
U.S. Inflation: U.S. inflation appears to have hit a peak three months ago and with oil prices down and the dollar index up, we believe inflation has peaked (for now).
U.S. Federal Reserve: With signs that both inflation and growth are moderating a touch, there is no need for the Fed to hike rates this week. If anything, the odds of a cut should be going up instead.
U.S. Treasuries: The trade war and recent movement toward a Fed Pause have pushed longer-term rates lower. But we still believe economic fundamentals support a 10-year yield of approximately 3%. We would expect that rates will only drift higher once the Fed pauses, as that ultimately would lead to a weakening in the U.S. Dollar.
Although recent inflation data has been cooling, the job market remains tight and Real GDP trending is still trending well above +3.0%. With that in mind, we still believe the yield on the 10-year U.S. Treasury will trend higher (but it’s getting harder to reach 3.50% as inflation and growth slow).
U.S. Equities and Earnings: S&P 500 operating earnings are still rising, but the market seems to be repricing forward earnings. Our SPX target was for an 18.5x P/E on 2019 forward earnings of $165, bringing our 2018 SPX target to 3,050. With the China trade war heating up, we are not setting a target for 2020 at this time.
Argentina: The macro looks abysmal in Argentina, and they have IMF involvement, but there is a silver lining here in that Q2 GDP was so bad that it might be hard for Q3 to be negative! Overall, Argentina’s economic condition appears to have weakened in 2018. Inflation is at a lofty 47%, Industrial Production is down -6.8% Y/Y, Consumer Confidence has deteriorated since January, imports are down -18% Y/Y, and Unemployment jumped to 9.6% in Q2 (7.2% in Q4 2017).
Brazil: Following Brazil’s election, Consumer Confidence has turned higher and PMI’s have indicated a return to growth. We are encouraged by recent developments, but with the Bovespa near its record high, we need to see more follow-through with macro data. Currently, GDP is up just 1.3% Y/Y, Industrial Production is up just +1.1% Y/Y, Retail Sales are up +1.9% Y/Y, and Unemployment continues to be elevated (11.7% in October, which is an improvement).
Canada: Canada’s housing market has been weak and Permits fell in October. Note that monthly GDP turned negative in September (-0.1% M/M). We have concerns for Canada’s outlook given declining oil prices and we wonder how long Canada’s employment market can remain so resilient.
Mexico: Mexico’s macro data is mixed. Manufacturing PMI’s are hovering at or below the “50” level and Industrial Production slowed to +1.0% Y/Y; however, retail sales accelerated to a 4.1% Y/Y rate, Confidence is strong, and GDP is up 2.5% Y/Y. Note that Unemployment improved to 3.2% in October, which had been trending up slightly since May.
Venezuela: Remains uninvestable.
United Kingdom: BREXIT is a mess. Industrial Production is negative. GDP is slowing. The U.K. has officially botched this.
European Union: Although Unemployment continues to trend lower, Industrial Production is now up +1.2% Y/Y, and Retail Sales are now up +1.7% Y/Y, Economic Sentiment is turning lower, and PMI’s are now at multi-year lows, and the political situation has gotten so bad that Merkel isn’t going to run again. The events in Italy foreshadow possible macro risks for Europe, as monetary accommodation is removed. We still believe Europe is uninvestible.
European Central Banks: The ECB is slowly removing accommodation and has reiterated its claim that bond buying is over in December. But Mario Draghi hasn’t given a timeline for raising rates and the recent decline in CPI will give them even further pause for doing so.
Eastern Europe: Ukraine situation aside, we saw earlier in the year with Italy, nations with high debt levels can rapidly become front-burner macro items. The same can be said for Eastern Europe, given high Debt/GDP levels, most notably Cyprus (104%), Croatia (88%, up from 66% at the end of 2013), and Slovenia (81%). We also have the EU Article 7 issues against Hungary and Poland to watch as well. The world is turning farther right, and pressure from unelected EU leaders will only push these nations further right.
South Africa: We remain negative on South Africa, but we have noticed recent efforts by the ANF to walk back some of the rhetoric and GDP recently rebounded. The ANF is now trying to reengage with foreign capital and wants to liberalize some of the rules around mining investment. In our view, the mere risk of having assets appropriated will grind foreign capital commitments and new business investment to a screeching halt, and more time is going to need to pass in order for foreign investors to feel any degree of confidence. Our best guess is that more downside exists for South Africa’s economy and we believe the currency and equity market will suffer as a result.
Turkey: Remains uninvestable.
ASIA / PACIFIC:
Australia: The Australian data remain mixed but we have serious concerns about China exposures and weakness in housing markets. With that in mind, we have a short view on Australian equities. So far, the macro remains OK as the Unemployment Rate appears to be ticking lower (to +5.0% in October), Real GDP increased +2.8% Y/Y in Q3, Exports are up +20% Y/Y, Wages are up +2.3% Y/Y, Retail Sales are up +3.6% Y/Y, and Consumer Sentiment has ticked slightly higher recently. However, consumer credit remains elevated and the value and number of home loan approvals and permits have turned negative, which is a bad sign as home prices have turned negative as well.
China: Now that the market has digested the Fake Truce, we now have to digest the Fake Data. Last week we mentioned how China has actually stopped reporting bad news (see here: https://is.gd/UByeiJ). In fact, they are censoring their news media and not allowing the news to report layoffs. Given the censorship, assume the worst.
As for the fake data, China’s economic data continue to deteriorate, as Retail Sales slowed to +8.1% Y/Y, Industrial Production slowed to +5.4% Y/Y, and PMI’s are now bouncing around the ‘50’ level. We don’t think 6% growth is still in the cards for China … maybe not even 5%, or 4% or 3%……
India: Indian economic activity appears strong, which runs counter to worries about shadow banking issues. Commercial Credit accelerated to +14.6% Y/Y in October, Industrial production has been strong, M3 money growth has been steady at 10%, and PMI’s improved in November.
Indonesia: Indonesia had gone four years without raising rates, but now rates have been hiked +125bps since Mid-April. Indonesia’s GDP and Private Consumption Expenditures are up over +5% Y/Y, Consumer Confidence has been stable, Manufacturing PMI had been stable in the 49-51 range for a year and slowed to 50.4 in October, Industrial Production rebounded +9.0% Y/Y, and Retail Sales are up +3.4% Y/Y. However, Exports are now down -3.3%.
Japan: Overall, the economic data have been mixed but we are encouraged by Prime Minister Abe’s promise to fix social security, immigration, and workforce participation. We are slowly becoming positively biased, but recent data haven’t given us enough rationale.
Russia: Russia just can’t help itself. The sanctions are beginning to have an impact on Russia and Russia is up to its antics again with Ukraine. We find Russia uninvestible at this time.
South Korea: The Bank of Korea raised rates +25 basis points to 1.75% (first hike in a year. Overall, the economic data have been mixed. While the world looks forward to peace on the Korean Peninsula, we are keeping an eye on trade data into China, which increased +17.7% Y/Y in October. Also, GDP increased +2.0% Y/Y in Q3, Income is up +4.2% Y/Y, Industrial Production increased +0.9% Y/Y, the Unemployment Rate improved to 3.8% in November, and Retail Sales accelerated to +7.4% Y/Y.
MACRO TRADE IDEAS:
GLOBAL CENTRAL BANK SCORECARD:
WEEK IN REVIEW – BEST & WORST PERFORMERS:
S&P 500 SECTOR PERFORMANCE:
BEST/WORST PERFORMING WORLD BOND MARKETS:
BEST/WORST PERFORMING GLOBAL STOCK MARKETS:
COMMODITIES MARKET PERFORMANCE:
MAJOR GLOBAL STOCK MARKETS:
MAJOR GLOBAL BOND MARKETS: