Recap of US Markets
Fed Chairman Alan Greenspan testified before Congress in his semi-annual monetary policy report. Market players were hoping he would explain the difference in wording between "patient" and "considerable period". Needless to say, he didn't quite explain the difference but the discussion on the economy and labor markets led financial market players to believe that rates would not be changed in the near term.
He discussed the federal budget deficit as well as the current account deficit. While he suggested that both were problems that needed to be fixed, he didn't indicate that taxes should be raised, a view that would go against the Bush administration. Rather, he recommended spending cuts, primarily on entitlement programs. On Wednesday he conceded that large budget deficits have led to large current account deficits that require foreign purchases of our Treasury securities, but he didn't think that foreign dumping of Treasury securities would be very disruptive. On Thursday, he amended his statement to claim that interest rates would rise if foreigners were less interested in our securities.
Greenspan spent a lot of time discussing employment and productivity, claiming that strong productivity growth is the primary reason employment growth is so anemic. He predicted that productivity growth would moderate in the upcoming year or two. He later stressed that the establishment survey was superior to the household survey, which he warned may be skewed by low population estimates. He also indicated that the population estimates were likely causing productivity growth to be overestimated. This combination of assumptions is inconsistent. If productivity growth is overestimated because of inaccurate population estimates, then productivity growth may not be the primary factor behind sluggish employment growth. However, Greenspan stressed that it isn't a lack of demand that has prevented employment gains. Later in Thursday's Q&A session with the Senate, he suggested that education problems in the U.S. have led companies to prefer better trained foreign workers.
All in all, his monetary report was not particularly surprising. The positive sentiment in the financial markets, at least equities and bonds since the dollar plunged on Wednesday, probably echoes some relief that monetary policy will remain on hold for a while longer. Our view is that Greenspan was not particularly strident about the problems associated with large and long term budget deficits, nor was he particularly aghast at the current account deficit. His political colors were showing.
STOCKS
Is the Nasdaq losing steam' January was all about the Nasdaq composite index which was up 3 percent, against a meager 0.3 percent gain for the Dow Jones industrials. In the first two weeks of February, the Nasdaq declined on as many days as it rose (5 each for the first 10 trading days). In contrast, the Dow managed to post one extra up day. As a result, the Dow gained 1.3 percent in the first two weeks of February, while the Nasdaq slipped 0.6 percent. Since the end of last year, the Dow is up 1.7 percent and the Nasdaq is 2.5 percent higher, still surpassing the Dow. But the differences are narrowing.
The Dow and Nasdaq get the most press attention, but three other key indexes are performing much better than either: the Russell 2000 followed by the Wilshire 5000 and the S&P 500. The Russell is an index of small cap stocks and thus limited in scope. However, the Wilshire 5000 encompasses the broad market.
BONDS
Primary dealers in the Treasury market had to take care of a quarterly refunding, involving 3-year, 5-year and 10-year notes this week, in the middle of Greenspan's semi-annual monetary policy testimony before Congress. Luckily, Greenspan's remarks were not out of line with expectations and major economic indicators weren't scheduled until Thursday and Friday. As a result, the auctions went off pretty well as the awarded yields on each of the auctions were at least 1 or 2 basis points below the when-issued (WI) trading yields. (WI trading involves trading the upcoming notes that have yet to be auctioned.) With an early close scheduled on Friday in advance of Presidents' Day on Monday, Treasury dealers were able to finish the week with slightly lower yields on the 2-year & 5-year notes and unchanged yields on the 10-year note.
Markets at a Glance
Weekly percent change column reflects percent changes for all components except interest rates. Interest rate changes are reflected in simple differences.
The Economy
January retail sales ex-autos higher than expected
Retail sales fell 0.3 percent in January after a 0.2 percent rise in December. Sales at motor vehicle dealers plunged 3.9 percent for the month and this led total retail sales to decline more than expected. However, the non-auto component rose 0.9 percent in January, nearly twice as much as expected by economists and market players. While furniture sales and building materials sales declined, sales at clothing and accessories stores, food & beverage stores as well as restaurants, general merchandise stores and gas stations all posted healthy gains. We often discount the gas station sales when they are related to gasoline price hikes, but even after excluding gas station sales, nonauto retail sales rose 0.8 percent, the biggest gain since August and four times as much as the meager 0.2 percent gain posted in December.
While the durable goods portion of the report was weak (furniture and building materials), the nondurable goods portion of the report was quite healthy. This gets the quarter off to a good start.
Consumer confidence sinks
Consumer confidence had appeared to start the year on a high note with an 11.2 percentage point hike in the University of Michigan's survey for January. But preliminary figures for February show a hefty 10.7 percentage point drop. Perhaps frigid temperatures in January made for homebound and happy consumers! Taking a broader perspective, one can see that the February level is a tick higher than the December level and that January optimism was off the scale. It means consumers aren't really worse off than they've been in the past three or four months (excluding January).
International trade deficit all time high
The international trade deficit widened sharply in December, rising to $42.5 billion after a reported shortfall of $38.4 billion in November. Exports edged down 0.2 percent for the month after posting three monthly gains averaging 2.8 percent per month. At the same time, imports jumped 3 percent in December after a 0.6 percent drop in November. Exports of capital goods excluding autos fell 4.5 percent, and it was due entirely to a drop in civilian aircraft shipments. On the import side, gains were in several components including crude oil & petroleum products, automotive, capital goods excluding autos as well as consumer goods excluding autos.
The U.S. bilateral deficit with most major countries widened in 2003 versus 2002. Oddly enough, our bilateral deficit with Japan narrowed by $4 billion in 2003, while the bilateral deficit with NICs narrowed by $1.2 billion. So much for the good news. The bilateral deficit with Canada widened by $6.2 billion; the deficit with Mexico widened by $3.5 billion; the deficit with Western Europe widened by $12.4 billion; and the deficit with China widened by $20.9 billion. The trade deficit widened sharply in 2003 despite severe dollar depreciation against the euro and other major currencies.
Typically, a lag exists between dollar depreciation, export growth and import moderation. It wouldn't be surprising to see a narrowing of the trade deficit in 2004 versus 2003. Keep in mind, though, that the U.S. propensity to import is much stronger than many other countries, so it will be necessary to see improved economic growth overseas in order for U.S. export demand to strengthen at a robust pace.
The Bottom Line
On the whole, retail sales were somewhat better than expected in January making for a good start to the year. While mid-month figures for February reveal a decline in consumer sentiment, it is possible that the January figures were out-of-whack. After all, sentiment is about on par with the past three months.
Fed Chairman Alan Greenspan dominated the news this week with comments on the economic outlook as well as the federal budget deficit and the current account deficit. His testimony suggests that the Fed is not ready to raise rates anytime soon. He noted his preference for spending cuts over tax increases in terms of reducing the budget deficit. On the whole, his comments on fiscal policy had political overtones that were probably intended not to jar the administration.
Looking Ahead: Week of February 16 to February 20
Tuesday
The New York Empire State manufacturing index rose three points in January to 39.2. This was the highest level for this index since the survey began in 2002. Market players like to follow this index because it often comes out a day or two before the Philly Fed index and both do a decent job in predicting the direction of industrial production which is reported with a one-month lag.
Empire State index Consensus Forecast for Feb 04: 39
Range: 32 to 45.7
The index of industrial production inched up 0.1 percent in December, a meager gain after a healthy 1 percent rise in November. Manufacturing activity rose 0.3 percent in December, but a 1.3 percent drop in utilities production put a damper on total industrial output for the month. A 0.7 percent increase in the factory workweek in January points to sharp improvement for industrial production.
Industrial production Consensus Forecast for Jan 04: 0.7 percent
Range: 0.2 to 1.1 percent
Capacity utilization rate Consensus Forecast for Jan 04: 76.3 percent
Range: 75.9 to 76.6 percent
Wednesday
Housing starts increased 1.7 percent in December to a 2.088 million unit rate, entirely due to an 11.6 percent spurt in multi-family construction. Single family starts fell 0.6 percent for the month. While low interest rates should continue to keep housing activity afloat, more frigid-than-normal weather conditions across the country may have held down housing construction in January.
Housing starts Consensus Forecast for Jan 04: 1.98 million unit rate
Range: 1.90 to 2.10 million unit rate
Thursday
New jobless claims rose 6,000 in the week ended February 7 to 363,000. This was the second straight weekly rise and it pushed up the 4-week average to 350,500. Claims for the first week in February are roughly 16,000 over the January average. Labor Department officials claim that the gains in the past two weeks are due to inclement weather and not a deteriorating labor market. We'll see.
Jobless Claims Consensus Forecast for 2/14/04: 348,000 (-15,000)
Range: 340,000 to 365,000
The producer price index rose 0.3 percent in December reversing the previous month's drop. Energy prices rose 1.8 percent for the month, contributing to the rise. Excluding food and energy prices, the PPI edged down 0.1 percent in December for the second month in a row. Not only did capital equipment prices dip 0.1 percent, but so did nonfood, nonenergy consumer goods prices.
PPI Consensus Forecast for Jan 04: 0.4 percent
Range: 0.0 to 0.8 percent
PPI excluding food & energy Consensus Forecast for Jan 04: 0.1 percent
Range: 0.0 to 0.3 percent
The index of leading indicators rose 0.2 percent in November and December. The outlook for January is rosier. Several components of the index have already been reported and are decidedly positive: factory workweek is higher, new jobless claims are lower, consumer expectations are higher, stock prices are higher, and building permits are up. Among the available indicators, only the spread between the 10-year note and the fed funds rate is negative.
Leading indicators Consensus Forecast for Jan 04: 0.5 percent
Range: 0.2 to 0.5 percent
The Philadelphia Fed's business outlook survey's general conditions index increased more than 8 points in January to reach a level of 38.8, the highest yet in this cycle. This index does a good job of predicting changes in the industrial production index. Recent gains bode well for production down the road.
Philadelphia Fed index Consensus Forecast for Feb 04: 35
Range: 32 to 41.8
Friday
The consumer price index rose 0.2 percent in December, reversing the November drop. In December, food prices rose more than energy prices (0.6 vs. 0.2 percent). Excluding these two volatile components, the CPI inched up 0.1 percent for the month.
CPI Consensus Forecast for Jan 04: 0.3 percent
Range: 0.3 to 0.4 percent
CPI excluding food & energy Consensus Forecast for Jan 04: 0.1 percent
Range: 0.1 to 0.2 percent
Greenspan explains his views
