Why is the Employment Situation Dragging? It's the Economy Stupid...

Bloomberg outlines the latest employment news coming from ADP ahead of this Friday's official details:

Companies added 170,000 workers in January, reflecting job gains in services and at small businesses, according to a private report based on payrolls.

The increase was less than forecast and followed a revised 292,000 rise the prior month that was smaller than previously reported, the report from the Roseland, New Jersey-based ADP Employer Services showed today. The median estimate in a Bloomberg News survey of economists called for an advance of 182,000.

Better than nothing? No doubt. But, what do we need for jobs to really bounce back? Easy.... economic growth (the question lies in whether jobs need to precede economic growth to spur consumption or growth itself will cause firms to hire).

The below charts outline the relationship / importance.

The first chart below shows (in yellow) the ratio of the change in number of those employed over a five year period over the change in real GDP over that same five year time frame. If the yellow line is over 1, that means more people were hired over that time than the increase in the population (very rare). Over the past 60 or so years, the ratio has been a bit more than 0.60 (i.e. 60%), which is basically another way of saying the employment-population ratio has been roughly 60% (we can clearly see how bad the latest recession was).

The next chart shows the same data, but makes the relationship even clearer. You want to add jobs at the "normal" 0.60 rate? Grow the economy consistently by more than 3%. You want to grow the economy by more than 3%? We need people to work.

Source: BLS / BEA

Manufacturing Expands in January

ISM Outlines:

WHAT RESPONDENTS ARE SAYING ...

• "Still seeing raw materials pricing moving down in general, but expect inflation later in the quarter." (Chemical Products)
• "Year starting a little slow, but customers are positive about increased business in 2012." (Machinery)
• "Once again, business continues to be strong." (Paper Products)
• "Pricing remains in check with the demand we are seeing. Supplier deliveries are on time or early." (Food, Beverage & Tobacco Products)
• "The economy seems to be slowly improving." (Fabricated Metal Products)
• "Business lost to offshore is coming back." (Computer & Electronic Products)
• "Business remains strong. Order intake is great — more than 20 percent above budget." (Primary Metals)
• "Indications are that 2012 business environment will improve over 2011." (Transportation Equipment)
• "Market conditions appear to be improving, with the outlook for 2012 better yet." (Wood Products)

Source: ISM

One-Two Punch.... Equities and Bonds Rip It in January

The Dow and S&P 500 posted their best January returns since 1997, while Emerging Market equities had their best start since 2001 (expect to hear a lot about this the next day or two). What likely won't be in the news as much is the remarkable run bonds had during the month (i.e. in other words, it was hard to lose money this past month).

Speaking of a one-two punch (my apologies for the horrendous transition, but I REALLY wanted to show these dunks), perhaps the best two dunks of the past 12 months happened within a day of one another. The Reformed Broker pointed readers to Lebron James literally jumping over John Lucas III on an alley-oop.

But, this dunk was somehow outdone just one day later by perhaps the biggest "posterization" in years by Blake Griffin on Kendrick Perkins.

Update:

Three times a charm... a reader sent in the following dunk by Paul George in last night's Pacers / Nets game. George goes DOMINIQUE!

Source: Barclays Capital

Checking in on Personal Consumption

Reuters details

U.S. consumer spending was flat in December as households put the largest rise in income in nine months into their savings, potentially signaling slower consumption early in 2012. It was the weakest reading on spending since June, the Commerce Department said on Monday, and it followed two tepid gains in October and November.

The slow fourth quarter pushed the year over year real per capita spending (i.e. the amount of actual spending per person adjusted for inflation) down to 0.7%, the lowest reading since the crisis and the lowest reading since the early 1990's recession excluding the crisis.

Source: BEA

EconomPics of the Week (1/27/12)

Your EconomPic links for the past two weeks...

Economic Data

• GDP Print Okay, Composition Disappointing
• Durable Goods Grip It and Rip It in December
• The New (and Improved) Leading Economic Indicators
• European Manufacturing Feeling the Downturn
• CPI Steady in December
• Do Initial Claims Matter?
• China's Growth in Perspective
• Checking In on Capacity Utilization

Asset Classes

• S&P 500 / VIX Matrix
• The Treasury Rally that Keeps on Trucking
• China Still Buying Treasuries
• The Impact of Low Rates Through 2014
• Apples Numbers Were B-A-N-A-N-A-S
• Existing Home Sales Rise

And your video of the week... a song I can't get out of my head. Gotye with 'Somebody That I Used to Know' (found it from this viral video cover of the song)

GDP Print Okay, Composition Disappointing

Peter Boockvar (via The Big Picture) details this quarter's GDP print (slightly edited / reformatted):

After three quarters (in a row) that averaged just 1.2%, fourth quarter GDP grew 2.8%, a touch below expectations of 3.0%, but Nominal GDP grew well below forecasts. Because the price deflator was up just 0.4% vs the estimate of 1.9%, Nominal GDP was up 3.2% vs the estimate of 4.9%.

• Personal Consumption rose 2.0% vs the forecast of 2.4%.
• Fixed Investment rose 3.3% (helped by a 5.2% increase in equipment and software spending and residential construction rose by 10.9%).
• Trade was a slight drag on GDP growth and government spending was as well, led by a 12.5% decline on national defense spending.
• State and local government spending fell by 2.6%.
• Inventories added almost 2% to growth and, taking out this influence, Real Final Sales rise just 0.8% vs 3.2% in Q3.

Thus, inventories were a large swing factor in the Q4 rebound. Bottom line, Real GDP was near estimates, but nominal GDP was the weakest since Q3 ’09 and Real Final Sales were the 2nd softest since Q1 ’10.

Details below... we can see the HUGE impact of inventory rebuild (potential is there for this to be a HUGE drag in Q1 '12) and the continued drag of local government (i.e. austerity measures).



The below chart shows the longer term breakdown of GDP, showing the importance of consumption on growth. We can see the huge shift in consumption from goods (i.e. things) to services (i.e. outsourcing of "actions" to make out lives easier). Of note, for all the chatter about how large government has become, the Federal government (excluding defense) has not really become a larger as a component of GDP.

Source: BEA

Durable Goods Grip It and Rip It in December

Reuters details:

New orders for U.S. manufactured goods rose in December and a gauge of future business investment rebounded, showing the U.S. economy ended the year with more momentum than previously thought.

Commerce Department data showed orders for durable goods climbed 3.0 percent last month. That was likely boosted by a surge in orders at aircraft builders like Boeing. Economists had forecast orders rising 2.0 percent.

Strong month, but note that excluding the highly volatile nondefense aircraft component, the index would have been up a (still healthy, yet not as impressive) 1.6%.

Source: Census

The New (and Improved) Leading Economic Indicator Shows Expansion

Bloomberg details:

The Conference Board’s gauge of the outlook for the next three to six months increased 0.4 percent after climbing 0.2 percent in November, the New York-based group said today. The median forecast of 44 economists surveyed by Bloomberg News called for a gain of 0.7 percent.

The article also outlines a change in a major component of the index (the first change in the index since 1996):

Changes in the components of the leading index were announced earlier this month. Instead of the inflation-adjusted money supply, the Conference Board used its own Leading Credit Index, which aggregates measures of the yield curve, interest- rate swaps and the Fed’s senior loan officer survey. The Institute for Supply Management’s supplier deliveries gauge was replaced by the group’s index of new orders.

The change from money supply to credit index is a major change, removing a component that was directly in the hands of the Fed (money supply), with one that is only partially in the hands of the Fed (credit index). Note that in past months, EconomPic has removed the money supply component, as well as stock and interest rate components, for an index excluding Fed involvement.

A comparison of the new (revised) index, the old index, and the "EconomPic" index that excluded Fed control is shown below. What we see is the new index is much more aligned with one excluding the Fed's control and shows the index likely overstated underlying economic strength over the summer.

Source: Conference Board

The Impact of Low Rates Through 2014

Bloomberg details the latest from the Fed:

Chairman Ben S. Bernanke said the Federal Reserve is considering additional asset purchases to boost growth after extending its pledge to keep interest rates low through at least late 2014.

Policy makers are “prepared to provide further monetary accommodation if employment is not making sufficient progress towards our assessment of its maximum level, or if inflation shows signs of moving further below its mandate-consistent rate."

The immediate market reaction was a risk asset rally, a huge rally in gold (per Calculated Risk: Bernanke made it clear that even if inflation moved above the target - and unemployment was still very high - the Fed would only slowly pursue policies to reduce the inflation rate), and a rally at the belly of the yield curve (the yield curve flattened out to five years... shorter rates couldn't fall as they are already at or near zero). Why? The "late 2014" date is much later than the June 2013 date previously projected by Bernanke last summer.

The impact of this announcement (and the previous projected rates) can be seen in the chart below that shows the Fed Funds rate curve (implied by EuroDollar futures) for March 2013 through December 2014, as of various dates over the past year.

What do we see? We see an initial drop between March and June of last year as Bernanke indicated low yields for the foreseeable future, then a huge drop (mid-summer) after Bernanke stated rates would remain zero through June 2013. Today's announcement really did nothing through June 2013 (that was already projected), but was felt further out along the curve.

The key question is what is the Fed trying to accomplish?

In "normal" times, low yields = cheap financing = increased consumption (it creates an incentive for individuals to borrow and banks to lend), but in today's zero-bound world the impact is minimal. Increased consumption is limited as individuals are trying to rebuild their own balance sheets and those that might benefit most from borrowing, don't necessarily have the credit to qualify for a loan. In terms of impact on unemployment, GYSC (of Economic Disconnect fame) states:

Unemployment is a structural problem, not a cyclical one, but the FED is still stuck in the past.

In addition, there are some theories that consumption may actually be negatively impacted by zero bound rates. As I outlined over the summer, I think it is possible that negative real interest rates may actually cause individuals to save more, while Kid Dynamite outlined yesterday that low rates forecasted may cause individuals to hold off from making a loan fueled purchase:

Let me explain: right now, one appealing factor of home buying/selling decisions is that interest rates are very low – you can afford to buy more house. If I think that interest rates are going to remain low for a long period of time, I will be in no hurry to lock in this low rate on the debt I’m borrowing – I will be in no hurry to go out and buy a house.

So what is it then? Corporations!

There is one sector that I think will be positively impacted by the latest announcement.... corporations. Don't let their record profits as a percent of GDP (while personal income is at record lows) fool you into thinking they don't need help at the populations expense. Seriously though... my initial reaction upon hearing that rates would be held down near zero through 2014... buy credit... WITH duration out to around ten years (the secondary impact is positive for equities, as explained below).

While Treasury yields are at all-time lows, corporate spreads remain at elevated levels (when yields fell during the summer when we had to deal with the US downgrade and Europe, spreads widened significantly).

In "normal" times, when markets calm these spreads would be expected to narrow, which I still believe is the case. One would also "normally" expect Treasury yields to rise as investors shift out of Treasuries, causing the hard interest rate component of corporate yields (rate + spread = yield) to rise, but this risk has been removed for the foreseeable future out to around ten years. The result is that corporate bonds seem like a very safe investment. This decreased risk should mean even cheaper financing for longer dated maturity corporate bond issuance.

So will this finally set off a round of corporate fueled expansion? If they don't see aggregate demand improving, then I don't see how this will impact the underlying economy. But, with the cost of equity high (i.e. what I perceive as fair to cheap equity valuations) and cost of debt low (i.e. these lower yielding corporate bonds), we may see significant change in capital structures (perhaps via private equity).

Source: Barclays Capital

European Manufacturing Feeling the Downturn

Marketwatch details:

Industrial orders in the 17-nation euro zone fell 1.3% in November after a 1.5% rise in October, the European Union statistics agency Eurostat reported Tuesday. Compared to November 2010, orders fell 2.7%, the agency said. Economists had forecast a 2.3% monthly decline and a 2.8% year-on-year fall.

Since the European crisis re-emerged in mid-summer, the European core has seen a rather sharp drop off in new industrial orders, while Emerging Europe (and the UK / Ireland) have shown strength (note that Greece didn't release data for November, but was down 5% from July through October).

Source: Eurostat

Apples Numbers Were B-A-N-A-N-A-S

Before jumping on the Apple bandwagon, I'll turn it over to Tadas of Abnormal Returns fame who summarized Apple's blow out earnings with the following powerful statement:

Apple’s results highlight this simple fact: no one knows nothing. The most followed (and analyzed) company in the world was able to exceed even the most bullish analysts’ estimates by a wide margin. If this can happen, then it should remind us that anything, good or bad, can happen in the markets. Any one telling you they know something will happen for certain, just remind them about Apple 2012 Q1 results.

Now to the blow out earnings.... just a part of the exponential growth the firm has seen over the past eight or so years.

Data shown is from quarterly financial statements

Billions of this size is hard to grasp, so the following chart attempts to put it in perspective. Apple's sales over the last twelve months are equal to almost 1.2% of all U.S. personal consumption over that time (yes, I know Apple has sales outside of the U.S., but think about how much stuff 1.2% of everything U.S. citizens consume is) and around 2% of last quarter's consumption.

Data shown is rolling twelve month

Source: BEA / EDGAR