Funemployment and sacrifice
A strong consumer and robust labor market aren't so fun for the Fed.
Lots of beautiful scenery this week, with travel to Minneapolis and Chicago. First meeting on Lake Street in Wayzata, the “Rodeo Drive” of Minneapolis. It was referenced in the 1984 iconic movie, “Purple Rain” starring Prince—“purify yourselves in Lake Minnetonka.” Ferraris and Teslas are a “dime a dozen” here. Glorious view, as advisors complained, “You just missed the snow,” and “I’m calling it summer, gosh darn it!” (or something along those lines). In Chicago, I stayed along the Chicago River, with a direct view of Marina City. The original high-rise apartment buildings that opened in the ’60s and were featured in the opening credits of “The Bob Newhart Show” are reminiscent of rural Illinois corncobs. With the Trump building towering above all others, the evening view was mesmerizing. I delivered three speeches to women groups this week, my favorite audiences, and throughout my travels, advisors reported “a lot of calls on the debt ceiling.” Still no deal at this writing. If/when it comes, the uncertainty won’t end (more below). Even so, outside of Treasury bills that mature around June 1, markets have been yawning. The VIX is near 1-year lows, equities are near YTD highs and the hard data (more below) reflect an economy that continues to expand. The Atlanta Fed is tracking Q2 GDP growth at 1.9%, well above Q1’s 1.3% that was upwardly revised on stronger consumer spending that accelerated again in April.
The term “funemployment” was coined during the Great Recession to mark a period when laid-off individuals decided to enjoy their free time before finding a new job. With job openings running well ahead of the number of unemployed, the term funemployment has no business in the current lexicon, yet here it is. Much has been made of credit card balances rising above their pre-pandemic trend in mid-January. But in real terms, BCA Research notes these balances haven’t grown at all since 2019. And monthly delinquency data from TransUnion indicate households are having no trouble servicing their debt. In fact, the share of household disposable income going to debt service is lower than it had ever been pre-Covid, with credit limit usage more than one standard deviation below its historical mean. Chalk it up to fiscal and monetary largesse. Federal outlays are still running $1.5 trillion, or 30%, above pre-pandemic levels, and M2 is $3 trillion, or 20%, above the norm. That’s a lot of firepower. The Fed’s 500 basis points of rate hikes in just over a year, the fastest pace ever, eventually should slow things down. But it’s all about the starting points, Piper Sandler says. Compared to tightening cycles in ’94, ’99, ’04 and ’16, inflation was much higher at liftoff in March ’22 and remains further from target vs. past campaigns (more below). At the same time, anticipated 1-year-ahead unemployment was the lowest at liftoff relative to past cycles, and the labor market remains rather robust. “Fast” may be a good thing in terms of the tradeoff between disinflation on the one hand and required lower output and employment on the other—the so-called “sacrifice ratio”—as faster cycles tend to have more favorable tradeoffs. This tightening cycle has not. At least not yet. Hard to have a recession without a rollover in payrolls and jump in claims, which have dipped again to near historical lows, with the 4-week average unchanged.
The strength of the labor market was evident in the Twin Cities, where there are still staff shortages throughout the region. I was told that even in the huge Mall of America, a large men’s apparel store was closed mid-afternoon for lack of help. Who wants to be stuck in a mall working when it’s finally nice weather in Minnesota? Funemployment anyone? Meanwhile, the market environment remains perplexing for investors. Citi strategists see the potential for a market breakout to the upside, only with tech leadership fading and cyclicals taking the lead. Short interest on S&P 500 cyclicals is near a 20-year high, a strong contrarian positive. The market’s push higher has not been accompanied with any meaningful broadening under the surface; just half of S&P issues are above their 200-day moving average. Hardly a vote of confidence though historically, a lack of breadth isn’t necessarily a negative. In the meantime, with growing hints of a debt-ceiling deal and indications of a Fed that may/may not raise rates in June, fun (vacay) and sacrifice (Memorial Day) are on my mind. My father, a millworker, Navy veteran and my hero, took a second job so his children could go to fine universities. He used to write the word “sacrifice” on our chalkboard at home as we grew up to teach us the work ethic. That was the mentality of the greatest generation.
- Consumers reign supreme Their spending jumped 0.8% m/m in April, double consensus and the biggest increase in three months, and was revised up for March too. The broad-based increases extended to services (finance, health care and professional) and goods (autos & parts and pharmaceuticals). The report offset concerns about Q1 GDP changes that downwardly revised wage and salary income, as April personal income posted its highest gain in three months on salary and wage increases. Final Michigan sentiment for May was revised higher but remained at a 6-month low.
- Good PMI Preliminary reports for May show services activity accelerating above consensus in the U.S., slowing less than expected to a still elevated 55.9 in the eurozone and remaining above the 50 boom-bust line in Japan, the U.K. and Australia.
- Time to call a bottom on housing? April new home sales jumped to their highest levels in a year, up 12% y/y. The activity appeared to reflect a shift by buyers to cheaper homes as the median price fell for the first time since August 2020. New home sales tend to have a generous multiplier effect as buyers tend to fill them up with new furniture and supplies. As for slumping existing homes, a shortage of inventory continues to be a drag as pending sales were flat in April after plunging in March.
- Inflation is sticky Both headline and core PCE accelerated in April and continue to run well ahead of Fed targets, raising odds that policymakers may hike another quarter point when they meet in June. Futures at this writing are pricing odds of such above 50-50. At the least, the data supports no Fed rate cuts for the balance of the year.
- Bad PMI Preliminary manufacturing activity in May declined in most major developed-market economies, including the U.S., where it fell below 50, and in the U.K. and eurozone, where it fell deeper into contraction. Asian trade data suggest the global factory slump is likely to continue as South Korean exports collapsed 16.1% y/y the first 20 days in May, with sales to China particularly weak, while Taiwanese export orders plunged 18.1% y/y.
- A disappointing China is a disappointment everywhere China’s recovery is losing steam, particularly in its industrial segments. This represents an issue for S&P large caps with record exposure to the country, particularly Tech (and especially semiconductors), as well as autos, pharma and household products, says Piper Sandler. Beijing’s heavy hand represents a growing risk, too.
A debt-ceiling deal is just the start What may be underappreciated is that reaching it is the relatively easy part—there isn’t much on the policy menu to negotiate, Cowen & Co. observes. The much harder part will be winning majority approval in the House, where polar opposites—the GOP Freedom Caucus and progressive Dems—are likely to find little to like from their perspectives. In 2011, S&P didn’t downgrade U.S. debt until 5 days after a deal was struck. Most of the S&P’s decline was afterward, too.
The last word on Q1 earnings season FactSet data showed an average stock price increase of 0.5% among companies that reported positive earnings surprises in Q1, half the 5-year average of 1%. The market response to earnings disappointments was much harsher, with an average price decline of 3.8% vs. the 5-year average of -2.2% for companies that reported negative surprises.
If wishes were horses, beggars would ride If the fuel cost for cars decreased at the same rate as semiconductor chips (they’re 60k times cheaper than the first processor ever made), gasoline would only cost 4 cents a gallon.