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Your Weekly Update

U.S. Stocks Trim Monthly Gain as Data Raise Concern on Economy
(Bloomberg) -- U.S. stocks declined, with equities paring their best monthly gains since February, as May economic data raised concern over the strength of the economy after a first- quarter contraction.

Bloomberg's teaser for Friday's market wrap-up tells us all we need to know about why stocks turned a bit sour last week. Right? Wrong! I don't buy it.

In my view, the headline should read: U.S. Stocks Trim Monthly Gain as Data Raise Concern over the Probability of Higher Interest Rates Ahead.

The following represent last week's good (better than expected) data (see the notes below for the detail that goes with each heading):

DURABLE GOODS ORDERS

THE FHFA HOUSE PRICE INDEX

MARKIT'S FLASH SERVICES PMI

NEW HOME SALES

THE CONFERENCE BOARD'S CONSUMER CONFIDENCE SURVEY

NEW PURCHASE MORTGAGE APPS

ICSC CHAIN STORE SALES

THE DALLAS FED'S TEXAS SERVICE SECTOR OUTLOOK SURVEY

WEEKLY  JOBLESS CLAIMS

PENDING HOME SALES

UNIVERSITY OF MICHIGAN'S CONSUMER SENTIMENT INDEX

Here's the bad (below consensus estimates):

THE RICHMOND FED MANUFACTURING INDEX

THE DALLAS FED MANUFACTURING INDEX

THE JOHNSON REDBOOK RETAIL SALES REPORT

THE BLOOMBERG CONSUMER COMFORT INDEX

THE SECOND REVISION OF Q1 GDP

CHICAGO PMI

I can't stress enough the simple fact that the U.S. economy is a service---not a manufacturing---driven economy. Not that the manufacturing data don't matter, they indeed do. But when the service sector data continue to show signs of optimism, which are finding confirmation in the jobs data, you should feel very good about the economy's prospects going forward.

Clearly, in my view, short-term traders are becoming spooked by the GOOD data---and the recent commentary from Fed officials suggesting that a Fed funds rate increase is all but decided sometime during the remainder of 2015.

While many experts disagree, I think the traders are justified in their expectation of a stock market hiccup come tightening time. The question for the market timer isn't if the hiccup will occur, it's when, by how much, and for how long.

As for us investors, hiccups---or let's call them 10-20% corrections---aren't our concern. We look past the inevitable rough patches and maintain proper diversification with an emphasis toward sectors and regions that represent value and cyclical timeliness. We know that market-timing (jumping entirely in and out of the market to catch, or avoid, a short-term trend) is a fools game that can prove utterly disastrous, so we don't go there. 

So what sectors and regions would I emphasize? Here's what I especially like going forward and why:   Click charts to enlarge...

In the U.S.:

Housing:

The 25 to 30 year-old---the average age of the first-time home buyer---is probably the most important demographic when it comes to housing. The 50 to 59 year-old---the average age of the vacation home buyer---ranks #2. Check out the population growth of those two groups between now and the end of 2018:



When your kid moves out he forms his own household. While he's likely a renter to begin with, he's taken his first step toward home ownership. Take a look at the recent growth in household formations (also a bullish economic sign):



Most folks need to borrow to buy a house. Notice the recent growth in mortgage purchase applications (have risen further thus far in Q2):



400 U.S. homebuilders get a call each month from their national association. When they're feeling good about their prospects their answers to the survey questions push the NAHB Housing Index above 50. Here's the history (the component that measures their 6-month outlook shot up to 64 last month):



 

Here's from Friday's CNBC article titled It's a Very Strong Sellers Market:

Pending sales of existing homes for April rose 3.4 percent from March, to the highest level in nine years, according to figures released Thursday by the National Association of Realtors. Pending sales are now up 14 percent from a year ago.

New home sales are also on the rise, jumping 6.8 percent in April to a seasonally adjusted annual rate of 517,000 units, the Commerce Department said Tuesday. That spike was higher than analysts had expected.

Meanwhile, the closely-watched S&P/Case-Shiller Index showed housing prices in 20 cities climbed 5 percent year-over-year in March.

Supply is still tight, and buyers are flooding into the market trying to beat mortgage rate increases, Kelman noted. Many market watchers expect the Federal Reserve to begin raising interest rates in September, which will push up mortgage rates.

"Most of the buyers we talk to are really frustrated because they're getting into bidding wars, not just with two or three other buyers but with 5, 10 ,15 buyers," he said.

"Some of our markets are saying this is crazier than we ever saw in 2007, 2006 so really we're going to see stronger price increases over the next two or three months than we saw previously," Kelman added.

Despite soaring prices, most economists are not yet convinced the housing market is in bubble territory. That's most likely because they're starting from such a low base: in the wake of the 2008 crisis, housing fell into depression territory, as prices swooned by more than 30 percent from peak to trough.

Here's why, in my view, we're a long way from bubble territory (inventories of existing and new homes, plus housing starts). I circled what a bubble looks like:



Financials:

When rates creep up amid a growing economy, more borrowers come to market and banks' net interest margins (profits) expand. Plus, their stocks are relatively inexpensive these days.

Transportation:

Getting utterly killed lately as a major airline announced that it's about to expand capacity. The market fears that this lately-profitable sector is about to risk future margins at an inopportune time. Prior to airlines taking their hit, railroads were feeling the pinch as municipalities opted for cheap natural gas (rather than railcar loads of coal), the energy sector stopped sending equipment to new production sites and Mexicans found U.S. stuff too expensive as the dollar spiked in value. Per the below (white line is total rail traffic, green is freight carloads, yellow is intermodal [those big containers they take off of boats and stick on trains]), things are looking a bit better for rails of late:



And here's a year-to-date look at the Cass Freight Index, which includes all domestic freight modes and is derived from $26 billion in freight transactions processed by Cass annually on behalf of its client base of hundreds of large shippers. These companies represent a broad sampling of industries including consumer packaged goods, food, automotive, chemical, OEM, retail and heavy equipment.



As for the UPSs and Fedexs of the U.S., here are two snippets from recent weekly updates (from the economic notes):

JUST LISTENED TO AN INTERVIEW WITH THE CEO OF INTERNATIONAL PAPER….. who reported that their paper box business did much better in Q1 than anticipated. And, based on what they’re currently seeing, expects the balance of the year to be even better. This is a legitimate indicator of growing economic activity, and bullish for the package delivery business…

...e-commerce as a percentage of total retail sales continues to climb to records, up a strong 4 tenths to 7.0 percent.

While transportation has huge catching up to do, and, thus, may not turn out to be a top 2015 performer, given present valuation levels and an improving economy, I like the sector going forward.

Next week I'll highlight the prospects---good and bad---for other major sectors.

International:

Delving into the non-U.S. environment country-by-country would be more than you'd want to take in in one sitting. Suffice it say that the rest of the developed worlds' markets have some catching up to do (to the U.S.) from a rate of return (over the past couple of years) as well as a valuation standpoint. Same for their economies---which they're aggressively attempting to boost through monetary stimulus.

As for emerging markets, there's where I strongly suspect we'll see the most robust economic growth rates in the years to come. This year's been good (until last week) thus far for that portion of our portfolios. However, it wouldn't surprise me to see a knee-jerk reaction (like last week) to higher U.S. interest rates. Back in 2013, when Ben Bernanke warned the world that QE would have to come to an end, emerging markets tanked as carry trades (traders gaming interest rate differentials and currency exchange rates) unwound and money fled emerging markets in fear of a higher dollar and higher U.S. interest rates. This go round, given the huge recent rally in the dollar and rates trending higher, I don't expect a mass currency exodus. I'm thinking the capital flow to emerging markets of late is more about real investing than it is interest rate arbitrage.

Stay tuned...

The Stock Market:

Non-US markets have measurably outperformed the U.S. (save for the NASDAQ Composite Index) year-to-date. Don’t be surprised if that remains the story throughout most of the year---given many foreign markets' cheaper valuations, early-stage recoveries and, yes, accommodative central banks. That said, there are a number of potential international hot buttons that could easily delay the narrowing of the gap between the valuations of U.S. and non-U.S. securities. That’s why we think long-term and stay diversified!

Here’s a look at the year-to-date results (according to Bloomberg) for the major U.S. indices, non-U.S. indices and U.S. sectors---using index ETFs as our non-U.S. and sector proxies:

Dow Jones Industrials:  +2.14%

S&P 500:  +3.24%

NASDAQ Comp:  +7.68%

EFA (Europe, Australia and Far East):  +9.53%

FEZ (Eurozone):  +6.01%

VWO (Emerging Markets):  +5.98%

Sector ETFs:

Here’s a look at the year-to-date results for a number of U.S. sector ETFs:

IYH (HEATHCARE):  +10.69%

XLY (DISCRETIONARY):  +6.10%

XHB (HOMEBUILDERS):  +5.45%

XLK (TECH):  +5.31%

XLB (MATERIALS):  +4.57%

XLP (CONS STAPLES):  +1.23%

XLF (FINANCIALS):  -0.16%

XLE (ENERGY):  -0.31%

XLI (INDUSTRIALS):  -0.91%

XLU (UTILITIES):  -5.03%

IYT (TRANSP):  -8.83%

The Bond Market:

As I type, the yield on the 10-year treasury bond sits at 2.12%. Which is 9 basis points lower than where it was when I penned last week's update.  

TLT, an ETF that tracks an index of long-dated U.S. treasury bonds, saw its share price rise (as yields fell) 1.92%  last week (down 2.57% over the past month).  Last week's rally flies in the face of my opinion that stocks are spooked by the threat of higher interest rates---you'd think that bonds would sell off at least as hard, were that the case. My best guess is that last week's divergence between bonds and stocks had something to do with---among other potentialities---the proverbial flight to quality (treasuries) as the Greek talks failed to deliver (as of yet)...

Once again, here's the reminder on volatility I posted earlier in the year:

In last weekend’s commentary I attempted to put a rough January into proper perspective by urging you to view the stock market as an “antifragile” (benefits from stress) entity. Again, periodic market downturns are an essential aspect of the long-term investing process. As I stated in our year-end letter, and several commentaries since, I expect financial markets in 2015 to exhibit the kind of volatility that will challenge the resolve of many a short-term investor. Good thing you and I think long-term!

One additional note on volatility: The past couple of weeks I’ve shared with you the very short-term results for markets and sectors. I do this with a bit of hesitation, as I in no way want to give the impression that you, nor I for that matter, should base our long-term investment decisions on short-term movements in markets or their sectors. It can, however, serve as a reference point for how the markets are, or are not, responding to the data (which is why I, as a professional, track the short-term). As you may have noticed, my beginning of the year optimism over non-US and the housing sector (to name two), and pessimism over utilities, appears to be justified by recent results. I need to strongly (very strongly!) emphasize that I was not predicting what we’ve experienced these few short weeks into 2015. My optimism or concerns are based on factors such as valuations, trends, monetary policy and cyclicality—and my comfort in making allocation recommendations rests on the view that our clients are not short-minded investors (it can take awhile, if at all, for the market to reward what I believe to be good fundamental logic) who mistakenly believe that any human being possesses a capacity for market timing. Some people get lucky from time to time, but without exception, market timers are wrong far more often than they are right. The path to long-term investment success is fraught with bumps and potholes. The ones who successfully make the journey take it slow and never over-compensate when steering through and around the inevitable obstacles along  the way.

Here are last week’s U.S. economic highlights:

MAY 26, 2015

DURABLE GOODS ORDERS: Ex-transportation, i.e., the core reading, exceeded expectations, up .5%, following .6% in March. Nondefense capital goods showed strength in business investment which is a very good economic sign going forward. Rising shipments will read well in Q2 GDP... Motor vehicle orders are also showing strength---another positive economic sign.

THE FHFA HOUSE PRICE INDEX: rose .3% in March, which was below expectations. While not as robust as Case Shiller's reading, the index is yet another sign that the housing market is alive and well in the U.S.

MARKIT'S FLASH SERVICES PMI continues to show real optimism in the services sector, 56.4 for May. However the reading is a bit off last month's 57.8. Growth in orders slowed, and did the backlog build. The employment component continues to show strength, up for the 5th consecutive month---denoting strong confidence in the future. The year ahead outlook component showed its best reading since last November. Note that while output prices were tame, input costs were up sharply.

NEW HOME SALES: came in strong in April, up 6.8% to an annual rate of 517,000. Inventories ticked up slightly to 205,000, but supply relative to sales fell to 4.8 months... Low supply and rising prices should fix the low inventory problem in the coming months.

THE CONFERENCE BOARD'S CONSUMER CONFIDENCE SURVEY: offers a stable reading in May, at 95.4 vs 95.2 in April. Income expectations are up slightly and buying plans for autos,  homes and appliances were all higher. This is good news for the economy going forward...

THE RICHMOND FED MANUFACTURING INDEX confirms all the soft reads coming from virtually every manufacturing survey... Come in at 1 for May, off of April's -3. Weak exports (higher dollar) and contraction in the energy sector are clearing doing a number on manufacturing...

THE STATE STREET INVESTOR CONFIDENCE INDEX shows confidence growth among institutional investors, at 120.8 vs April's 113.8.

THE DALLAS FED MANUFACTURING INDEX reflects real weakness in that state's energy complex. Coming in a -20.8 vs April's -16.0...

MAY 27, 2015

NEW PURCHASE MORTGAGE APPS rose by a modest 1% last week. Year-over-year they're up an impressive 14%. Higher rates are suppressing demand for refis, down 4% last week. Average 30 yr rate is 4.07%.

THE JOHNSON REDBOOK RETAIL REPORT continues to show weak week-over-week readings, up 1.6% year-over-year last week.

ICSC CHAIN STORE SALES shows better results than Redbook's, up 3% year-over-year last week.

THE DALLAS FED'S TEXAS SERVICE SECTOR OUTLOOK SURVEY shows continued optimism, despite a deceleration in some components. Here's the release:

Texas service sector activity continued to reflect expansion in May but at a slower pace than in April, according to business executives responding to the Texas Service Sector Outlook Survey. The revenue index, a key measure of state service sector conditions, dropped from 14.6 to 3.8, its lowest reading in almost three years.

Labor market indicators reflected faster employment growth and slightly longer workweeks. The employment index ticked up a point to 8.9 in May. The hours worked index remained positive but fell slightly from 4.7 to 1.9 this month.

Perceptions of broader economic conditions improved in May. The general business activity index turned positive and came in at 1.1 after two consecutive months in negative territory. The company outlook index edged up from 4.5 to 6.9 this month. About 19 percent of respondents reported that their outlook improved from last month while 12 percent noted that it worsened.

Price and wage pressures were unchanged this month. The selling prices index was similar to last month at 3.6, indicating prices increased at the same pace as in April. The wages and benefits index held steady at 16.1, although the great majority of firms continued to note no change in compensation costs.

Respondents’ expectations regarding future business conditions reflected more optimism in May. The index of futuregeneral business activity rose from 6.2 to 10.6. The index of future company outlook moved up from 10.2 to 15. Indexes of future service sector activity, such as future revenue and employment, also reflected more optimism.

MAY 28, 2015

WEEKLY  JOBLESS CLAIMS, while above expectations last week, continue to come in very favorably below 300k. 282k last week. Continuing claims were up 11k at a still very low 2.22 million. The 4-week average fell 9k to 2.221k. The unemployment rate for insured workers rose 1/10th to 1.7 percent, up from the long-term low 1.6%.

THE BLOOMBERG CONSUMER COMFORT INDEX conflicts with Tuesday's Consumer Confidence Survey from the Conference Board. While CB's survey says the consumer is feeling good about the present buying climate, the Bloomberg survey suggests otherwise. Here's the release:

Consumer Comfort in U.S. Slumps on Views of Buying Climate

By Nina Glinski

(Bloomberg) -- Consumer confidence in the U.S. fell for a seventh consecutive week and attitudes about whether it was a good time to spend slumped by the most since 2011.

The Bloomberg Consumer Comfort Index decreased to 40.9 in the period ended May 24, the lowest level since late November, from 42.4 the prior week. The decline in Americans’ assessments of the buying climate was accompanied by the biggest drop in sentiment among women in more than seven years.

“A stellar Q4 last year has turned into a mixed 2015 for consumer sentiment, with highs in late January and early April followed by sharp corrections,” Gary Langer, president of Langer Research Associates LLC in New York, which produces the data for Bloomberg, said in a statement. “The latest drop has taken back about half of the CCI’s late-September to mid-January gain.”

The series of declines from an almost eight-year high in April is the longest since May 2008, and puts the index below the 41.7 long-term average that dates back to December 1985. It’s still above last year’s 36.7 average, which was the best since 2007.

The measure of the buying climate dropped to 35.5 last week, the lowest since the end of November, from 38.1 in the prior period. The 2.6 point decrease was the biggest since December 2011.

Personal Finances

Other components of the Consumer Comfort Index also declined. Sentiment about personal finances decreased to 54.9, the lowest since early March, from 56.3. The measure of views on the economy cooled to to 32.3, the weakest since the first week of December, from 32.8.

Thursday’s report stands in contrast to the Conference Board’s May index, which suggested that American households are growing more sanguine about the economy and planning to make major purchases. That confidence  gauge advanced to 95.4 from an April reading of 94.3, the New York-based private research group said Tuesday.

Women’s attitudes as measured by the Bloomberg index plunged for a second consecutive week. The 3.8 point decrease was the biggest since November 2007 and followed a 3.2 point drop the week before. Combined, it marked the largest two-week slump since records began in 1990. Sentiment among men increased.

Among income groups, those earning more than $100,000 saw optimism sag to 59 last week, an almost six-month low, from 61.4 in the prior period. Sentiment also fell to the lowest since November among homeowners, married adults and the unemployed.

Regionally, confidence in the U.S. South was the lowest since mid-October, while Midwestern households were alone in reporting a pickup.

The Bloomberg Comfort Index, presented on a scale of zero to 100, is a four-week rolling average and based on a national sample of 1,000 adults. The report’s gauges have a margin of error of plus or minus 3.5 points.

PENDING HOME SALES are sending strong positive signals for the housing sector. April's pending home sales index grew for the 4th consecutive month, jumping 3.4%. Year-over-year pending home sales are up an impressive 14%. This speaks markedly to the optimism for housing I've expressed all year...

CRUDE OIL INVENTORIES declined for the 4th straight week, which doesn't support my pessimism over the sustainability of the recent rally in the price per barrel. Refineries have been very busy of late, raising output of both gasoline and distillates. Oil inventories were down 2.8 mbs, GASOLINE was down 3.3 mbs and distillates rose 1.1 mbs.

NAT GAS INVENTORIES 112 bcf last week.

FARM PRICES rose 2% in May after rising 3% in April. Year-over-year prices are down 9.6%...

THE FED BALANCE SHEET fell by $16.4 billion last week after dropping $20.8 billion the week prior. To a total of $4.46 trillion. RESERVE BANK CREDIT decreased $5 billion after increasing $4 billion the prior week.

M2 MONEY SUPPLY rose last week by $27 billion after increasing the prior week by $22.8 billion...

MAY 29, 2015

THE SECOND REVISION OF Q1 GDP brought the number down to -0.7% vs a consensus estimate of -.08%. The stronger dollar, resulting in a larger trade deficit, gets the blame. Underneath the headline, however, there was some good news: residential fixed investment rose to 5%, from 1.3%, and the capex drag lessened to -2.8%, from -3.4%. Here's Econoday:

First-quarter GDP was revised down about as expected, to minus 0.7 percent vs expectations for minus 0.8 and compared with an initial reading of plus 0.2 percent. Updated source data made for a bigger negative contribution from net exports as imports spiked 5.6 percent from an initial gain of 1.8 percent. The change here is tied to the port strike and the sudden unloading of imports in March. A lower estimate for inventory growth was also a negative. Turning to demand, final sales were revised downward to minus 1.1 percent from minus 0.5 percent.

On the positive side, the contribution from residential fixed investment rose to 5.0 percent from 1.3 percent while the negative contribution from business spending improved 6 tenths to minus 2.8 percent.

The first quarter was definitely weak, showing the first contraction since first-quarter 2014 when GDP fell 2.1 percent in another winter quarter affected by unusually severe weather. The Fed itself has been noting the risk that the pattern of first quarter weakness could reflect how the numbers are crunched by government statisticians to account for seasonal variations. This process may have exaggerated the underlying weakness in the quarter. 

Where is GDP currently tracking? Early estimates were in the 3.0 percent range but, due to weak consumer spending, have been slipping to the 2.0 percent range.  

CHICAGO PMI shows a shocking decline in confidence. Here's Econoday:

Chicago's PMI sample reports surprising and inexplicable contraction this month, at an index of 46.2 which is far below the Econoday low estimate for 51.0 and April's reading of 52.3. The index's five components all came in under 50 including very sharp contraction for new orders, production and also employment which is at its lowest level since April 2013. No longer in contraction, however, are raw material prices where higher fuel costs are a likely suspect.

Conclusions based on this report can sometimes be uncertain given its very volatile history. But this report is a red flag of sorts, coming at a time when expectations are looking for significant economic strength, not weakness. This report tracks all sectors of the Chicago economy.  

THE UNIVERSITY OF MICHIGAN'S CONSUMER SENTIMENT INDEX shows the consumer feeling relatively good about his/her prospects. Here's Econoday:

Consumer sentiment has bounced back the last two weeks, lifting the final reading to 90.7 vs the mid-month flash of 88.6. The implied reading for the last two weeks is about 93 which, though down from April's 95.9 and January's peak over 98, is still very solid.

Still, there is month-to-month weakness which doesn't point to strength for consumer spending in May. The current conditions component ends May at 100.8 vs April's 107.0 in weakness that also hints at trouble for May's jobs market. A decline in the expectations component, to 84.2 from 88.8 in April, points to less confidence in the longer-term jobs outlook.

Gas prices are on the rise, up more than 5 percent from April, and are pressuring inflation expectations. One-year expectations are up 2 tenths from April to 2.8 percent as are 5-year expectations which show the same readings.

This report, like consumer confidence earlier in the week, is pointing to stability in consumer spirits, spirits that peaked earlier in the year and are now leveling.

 

Your Weekly Update

While we'll no doubt get back to the topics of the dollar, oil, earnings and the like, central banks remain the topic du jour. Here's a brief rundown on the what the majors are up to:

U.S. Fed Chair Janet Yellen expects that the U.S. economy will exhibit enough strength as the year unfolds to warrant an increase in the Fed funds rate. I agree. And, all else equal, the stock market---given present valuations---may not like it one bit.

For the first Fed hike not to be a market correction-inducing event, earnings will have to accelerate and/or Yellen and company will have to effectively sugarcoat it with promises that it's merely a sign that things are improving measurably and the best is yet to come---and that they stand ready to reverse course at the first sign of weakness. You and I will stick with the earnings story...

The European Central Bank promises all the QE (money printing) necessary to goose the Eurozone economy into sustainable growth mode. While I remain a cynic when it comes to the notion that prosperity can come by way of printing, there is indeed an historic correlation between such action and the price of your average share of stock. Thus, amid reasonable valuations and improving economies (yes, they're showing signs), we'll maintain our recently-increased Eurozone exposure.

The Bank of Japan, while standing pat at the last meeting, remains willing to do whatever it takes to achieve its inflation goal. I.e., they'll print, etc., till the cows come home---or until the price of cows is rising by at least 2% per year. Despite delivering impressive gains thus far this year, Japanese stocks in the aggregate present attractive relative valuations.

The People's Bank of China is in aggressive easing mode. China, while implementing reforms to move to a consumer-driven economy, is committed to delivering 7% growth in 2015---and is pulling out all the monetary policy stops to try and get there.

The U.S. Economy:

As I've been reporting each week, the American economy of late is indeed growing, but not---according to the data---at a threatening pace at this juncture. As I suggested above, the Fed sees the economy gaining momentum as the year unfolds. And while I'm making no prediction, I can't help but agree based on what I see in the data.

Yesterday I chastised a few prognosticators for their habit of, well, prognosticating. One cannot know when the next bear market will come growling. One, however, can guess, and if lucky, may parlay that guess into book royalties and public appearances. But it's been my observation that reputations built on market/economic prognostications wither rather quickly as subsequent guesses prove utterly fruitless.

So what's a chap like me, an investment advice giver, to do? Well, I study, I make charts, I update charts, I discover that what worked yesterday sometimes works today, and sometimes doesn't. I calculate valuations, I see the U.S. market through sectors and I make recommendations based on valuations, trends and cyclicality.

In terms of the economy, I maintain numerous charts on data that have historically exhibited some predictive value.  I count 16 charts that I've assembled for the purpose of assessing whether or not the doomsayers some of my clients listen to are onto something. Well, if we're talking a major U.S. recession occurring in the near-future, I can't presently join their camp. Here's a sampling (click charts to enlarge):

The Index of Leading Economic Indicators is comprised of the average weekly hours worked by manufacturing workers, the average number of initial applications for unemployment insurance, the amount of manufacturers’ new orders for consumer goods and materials, the speed of delivery of new merchandise to vendors from suppliers, the amount of new orders for capital goods unrelated to defense, the amount of new building permits for residential buildings, the S&P 500 stock index, the inflation-adjusted monetary supply (M2), the spread between long and short interest rates, and consumer sentiment.

The red outlined areas represent every U.S. recession back to the early 70s:

 

The St. Louis Fed Financial Stress Index measures the degree of financial stress in the markets and is constructed from 18 weekly data series: seven interest rate series, six yield spreads and five other indicators. Each of these variables captures some aspect of financial stress. The average value for the index is zero (beginning in 1993), which represents normal financial market stress. A move in the index below zero denotes below-average stress, while a move above zero denotes above-average financial market stress.




The Chicago Fed National Financial Conditions Index measures over one hundred individual indicators for risk, liquidity and leverage in money markets, debt and equity markets and in the traditional and “shadow” banking systems.

 

Not a single post-war recession has occurred without the treasury yield curve first turning upside down (referred to as an inverted yield curve). Meaning, short term interest have risen to a point higher than long-term interest rates.  

An inverted yield curve means that investors have so little confidence in the economy that they would rather buy a 10-year Treasury note, and tie up their money for ten years. Of course normally investors expect more of a return from a long-term investment. The reason an investor might go to longer-dated maturities even when they're paying lower yields is because he/she believes the economy is heading for a fall and the Fed will aggressively take short-term rates with it. I.e., if an investor bought the short-end of the curve he/she'd soon be holding cash (when that short-term bill matures) and looking to reinvest at a dramatically lower yield. He/she instead buys the longer-dated bond expecting its price (his/her principal) to rise dramatically once rates start plummeting.

The white arrows point to past inversions. As you can see, the yield curve is presently nowhere near inversion territory:

 

 

The Stock Market:

Non-US markets have measurably outperformed the U.S. year-to-date. Don’t be surprised if that remains the story throughout most of the year---given many foreign markets' cheaper valuations, early-stage recoveries and, yes, accommodative central banks. That said, there are a number of potential international hot buttons that could easily delay the narrowing of the gap between the valuations of U.S. and non-U.S. securities. That’s why we think long-term and stay diversified!

Here’s a look at the year-to-date results (according to Bloomberg) for the major U.S. indices, non-U.S. indices and U.S. sectors---using index ETFs as our non-U.S. and sector proxies:

Dow Jones Industrials:  +3.33%

S&P 500:  +4.10%

NASDAQ Comp:  +8.07%

EFA (Europe, Australia and Far East):  +11.74%

FEZ (Eurozone):  +9.37%

VWO (Emerging Markets):  +10.04%

Sector ETFs:

IYH (HEATHCARE):  +10.57%

XLY (DISCRETIONARY):  +6.99%

XHB (HOMEBUILDERS):  +6.22%

XLK (TECH):  +5.87%

XLB (MATERIALS):  +5.62%

XLP (CONS STAPLES):  +2.18%

XLE (ENERGY):  +1.99%

XLI (INDUSTRIALS):  +1.02%

XLF (FINANCIALS):  +.89%

XLU (UTILITIES):  -4.88%

IYT (TRANSP):  -6.96%

The Bond Market:

As I type, the yield on the 10-year treasury bond sits at 2.21%. Which is another 7 basis points higher than where it was when I penned last week's update.  

TLT, an ETF that tracks an index of long-dated U.S. treasury bonds, saw its share price decline 0.98%  last week (off 6.14% over the past month).  As I keep repeating, I see bonds in general sporting a risk/return trade-off that makes going out on the yield curve not worth the risk.

Once again, here's the reminder on volatility I posted earlier in the year:

In last weekend’s commentary I attempted to put a rough January into proper perspective by urging you to view the stock market as an “antifragile” (benefits from stress) entity. Again, periodic market downturns are an essential aspect of the long-term investing process. As I stated in our year-end letter, and several commentaries since, I expect financial markets in 2015 to exhibit the kind of volatility that will challenge the resolve of many a short-term investor. Good thing you and I think long-term!

One additional note on volatility: The past couple of weeks I’ve shared with you the very short-term results for markets and sectors. I do this with a bit of hesitation, as I in no way want to give the impression that you, nor I for that matter, should base our long-term investment decisions on short-term movements in markets or their sectors. It can, however, serve as a reference point for how the markets are, or are not, responding to the data (which is why I, as a professional, track the short-term). As you may have noticed, my beginning of the year optimism over non-US and the housing sector (to name two), and pessimism over utilities, appears to be justified by recent results. I need to strongly (very strongly!) emphasize that I was not predicting what we’ve experienced these few short weeks into 2015. My optimism or concerns are based on factors such as valuations, trends, monetary policy and cyclicality—and my comfort in making allocation recommendations rests on the view that our clients are not short-minded investors (it can take awhile, if at all, for the market to reward what I believe to be good fundamental logic) who mistakenly believe that any human being possesses a capacity for market timing. Some people get lucky from time to time, but without exception, market timers are wrong far more often than they are right. The path to long-term investment success is fraught with bumps and potholes. The ones who successfully make the journey take it slow and never over-compensate when steering through and around the inevitable obstacles along  the way.

Here are last week’s U.S. economic highlights:

MAY 18, 2005

THE NAHB HOUSING MARKET INDEX showing slowing momentum at 54 in April, down from March's 56. However, above 50 denotes optimism among homebuilders. The most positive note in the report was the component measuring future demand, which rose 1 point to 64, the highest read this year. I remain bullish on the sector going forward for a number of reasons. One of the deepest would be that the two age categories that matter most for housing are on a steep growth trajectory (in number of individuals) over the next 3 years; the 25-30 year-old first-time homebuyer group (which currently account for about half of their normal share of new purchases. I.e., much room for growth going forward), and the second/vacation-home buying 50-59 year-olds...

MAY 19, 2015

HOUSING STARTS absolutely soared in April... up 20.2% to 1.135 million, and permits were up 10.1% to 1.143 million. These results are substantially better than what economists expected and speaks strongly to my present optimism on the housing market. Here's Econoday's commentary (note that multi-family activity remains big):

There were hardly any indications before today, but the spring housing surge is here. Today's housing starts & permits report is one of the very strongest on record and with starts soaring 20.2 percent in April to a much higher-than-expected annual rate of 1.135 million and with permits up 10.1 percent to a much higher-than-expected 1.143 million. Both readings easily top the Econoday high-end forecast of 1.120 million for each. The gain for starts is the best in 7-1/2 years with the gain in permits the best in 7 years.


Strength in starts is split between single-family, up 16.7 percent to 0.733 million, and multi-family, up 27.2 percent to 0.402 million. Single-family starts are up a very convincing 14.7 percent year-on-year with multi-family up only 0.5 percent.

Strength in permits is centered in multi-family units, up 20.5 percent to a 0.477 million rate and underscoring the importance of renters in the housing sector. Permits for single-family homes rose a less spectacular but still very solid 3.7 percent to 0.666 million. Year-on-year, single-family permits still lead at plus 7.1 percent vs plus 5.5 percent for multi-family permits.

Regional data show special strength for starts and permits in the Northeast followed by the West. Readings on the Midwest and South, though a bit mixed, are also strong.

Today's report is an eye-opener and will re-establish expectations for building strength in housing, a sector held down badly in the first quarter by severe weather. Note that today's report includes annual revisions including a net 10,000 upward revision to March and February (now 0.944 million and 0.900 million).

THE JOHNSON REDBOOK RETAIL REPORT continues to show lackluster results. Up 1.8% year-on-year last week. Your typical expansion range for retail sales is 3% to 3.5% annually. I should note, per last week's e-commerce report, that online retail activity has been strong of late

MAY 20, 2015

NEW PURCHASE MORTGAGE APPS declined last week by 4% from the prior week. To reverse the recent trend, refinances increased by .3%. On a year-over-year basis, however, purchase activity is strong, up 11%... The average 30-year mortgage rate increased to 4.04%. That's a measureable increase versus where we were just a few weeks ago. I expect higher rates to weigh more on refis going forward than it does new purchases. I can present a case where, with the ever-tightening rental market, that fear over increasing mortgage rates may bring buyers to market sooner than they otherwise may have shown up... time will tell...

CRUDE OIL INVENTORIES declined for the 3rd straight week, by 2.7 million barrels to 482.2 million (which remains near an 80-year record)... GASOLINE INVENTORIES declined 2.8 mbs and DISTILLATES declined .5 million mbs.

FOMC APRIL MEETING MINUTES showed that the majority of members remain near-term hesitant to raise interest rates. That said, I'm positive they're at this point anxious to get that first hike done. I also believe they'll sugarcoat it big time in an attempt to calm markets in the process... I'm betting the first one comes in September, based on my general optimism over the U.S. economy going forward...

JUST LISTENED TO AN INTERVIEW WITH THE CEO OF INTERNATIONAL PAPER..... who reported that their paper box business did much better in Q1 than anticipated. And, based on what they're currently seeing, expects the balance of the year to be even better. This is a legitimate indicator of growing economic activity...

MAY 21, 2015

WEEKLY JOBLESS CLAIMS continue to paint a very optimistic portrait of the present state of the U.S. economy, 274k last week.  Claims are currently, on a trend basis, the lowest they've been since the year 2000. The 4-week average is down for the 4th straight week to 266.5k. Continuing claims were down 12k to 2.211 million. Continuing claims' 4-week average are down 20k to 2.23 million. The unemployment rate for insured workers notched lower to 1.6%.

THE CHICAGO FED NATIONAL ACTIVITY INDEX paints a pessimistic portrait of the present state of the U.S. economy. Here's Econoday's commentary:

 

April was not the month that anybody hoped for, failing to show much bounce at all from a very weak March. The national activity index is in the negative column for the month, at minus 0.15 to indicate sub-par economic growth. This is below the Econoday consensus for plus 0.10 and comes despite an easy comparison with a revised minus 0.36 for March. Production was the weakest component in April signaled all through the month by weakness in regional Fed surveys. Production in this report was unchanged at minus 0.16. Personal consumption & housing, the component where consumer activity is measured, is the 2nd weakest component at minus 0.06. The component for sales/orders/inventories came in at zero with the only plus being employment, at plus 0.08 vs March's minus 0.08. Was the first-quarter a one-time slowdown hit by special factors or was it simply another quarter of slowing for an economy that's losing momentum? The 3-month average points, at least right now, to the latter, at a deeply negative minus 0.23 and not much better than March's minus 0.27.

Recent History Of This Indicator The Chicago Fed activity index will offer a summation of all the economic data during April, a month that was surprisingly slow coming off the even slower months of the first quarter.

 

MARKIT'S FLASH MANUFACTURING PMI remains in expansion territory, at 53.8, however it lost a little momentum in May (off from April's 54.2). Reduced spending from the energy sector and the stronger dollar get the blame. Employment, however, showed strength in the report...

THE BLOOMBERG CONSUMER COMFORT INDEX has been showing confidence on the retreat of late. It'll be interesting to see how the improved employment (and housing) picture translates to this, and other, sentiment surveys going forward. Here's Bloomberg's release:

Consumers’ Expectations for U.S. Economy Drop Most Since 2013

By Michelle Jamrisko

(Bloomberg) -- Americans’ expectations for the economy slumped in May by the most since October 2013, casting doubt on consumers’ ability to revive growth.

A measure tracking the economic outlook fell by 6 points to 44 this month, data from the Bloomberg Consumer

Comfort Index showed Thursday. Thirty-nine percent said the U.S. economy is getting worse, the largest share since the federal government shutdown 19 months ago.

“The increase in negative expectations occurred among a disparate collection of groups, indicating a generalized retrenchment,” Gary Langer, president of Langer Research Associates LLC in New York, which produces the data for Bloomberg, said in a statement.

The weekly sentiment index dropped to 42.4 in the period ended May 17, the lowest since mid-December, from 43.5 as fewer consumers said now was a good time to spend. Such angst, particularly among lower-income households, probably has its roots in steadily climbing prices at the gas pump and limited wage gains.

“Despite positive employment and housing reports, consumer concerns may reflect still-stagnant wages as well as sharp divisions between higher- and lower-income groups in economic views,” Langer said. “The latest stumble makes clear that economic travails continue for many Americans.”

The U.S. economy has largely disappointed this year, with weaker-than-expected retail sales data last week capping a recent run of reports showing scant momentum. Consumer spending, which accounts for almost 70 percent of gross domestic product, climbed at a 1.9 percent annualized rate in the first quarter, the slowest in a year and less than half the 4.4 percent advance in the final three months of 2014.

Economy Views

Two of three components in Bloomberg’s weekly comfort index deteriorated last week. Americans’ current views of the economy soured to 32.8, also the lowest since mid-December, from 34.5 in the prior period

The Bloomberg Economic Surprise Index has been hovering near its lowest level of the expansion, indicating economic data have been persistently disappointing.

Retail purchases barely budged in April, defying estimates for a small increase, Commerce Department data showed last week. The figures followed a 0.2 percent drop in January through March that marked the first quarterly decline in almost three years.

Spending may be slow to pick up. The Bloomberg measure of the buying climate -- showing whether this is a good time to purchase goods and services -- declined to 38.1 from 40.4, the largest decrease in a year. The measure of personal finances increased to a five-week high of 56.3 from 55.7.

By Group

Sentiment among respondents who were unemployed decreased to the weakest level since the beginning of the year. Confidence also was the lowest since at least the start of 2015 among college graduates, homeowners, married couples, women and Southerners. Those making less than $50,000 a year were the least upbeat in five months.

While the weekly Bloomberg confidence measure has dropped six straight weeks, the longest such stretch since 2013, it’s still above last year’s average of 36.7 that was the best since 2007.

A brightening employment picture may help underpin Americans’ sentiment. Payrolls rebounded in April, with employers adding 223,000 jobs after an 85,000 gain the prior month that was the smallest since June 2012. The unemployment rate dropped to 5.4 percent, the lowest since May 2008.

The housing market also has shown signs of life after a weather-depressed first quarter. Builders broke ground on 1.14 million homes at an annualized rate last month, the most since November 2007 and up 20.2 percent from March, figures from the Commerce Department showed Tuesday. It was the single-biggest monthly surge since 1991.

THE PHILADELPHIA FED BUSINESS OUTLOOK SURVEY shows decent go-forward prospects for that region. The respondents' report on inflation is somewhat perplexing given recent developments. Here's Econoday's summary:

 

Activity in the Mid-Atlantic manufacturing sector is slow but stabilizing, based on the Philly Fed's general conditions index which came in at 6.7 for May, down slightly from 7.5 in April and against Econoday expectations for 8.0. 

The best news in the report is a slight uptick in new orders, to 4.0 from 0.7. This isn't searing but is at least in the plus column as are shipments, at 1.0 from minus 1.8. Employment, at 6.7, is also in the plus column.

Manufacturers in the region are reporting significant price contraction, especially in costs which is a surprise given the rise underway in oil prices. Manufacturers are also reporting declining prices for finished goods as well. These inflation readings, if repeated in subsequent reports, will give the edge to the doves at the Federal Reserve.

A plus in the report is a healthy reading of 33.9 for the 6-month outlook, down only slightly from April's 35.5 and up from 32.0 in March. The manufacturing sector, hit by weak exports and trouble in the energy sector, has yet to find its footing this year but this report, which is very closely watched, points to stability that in turn hints at a rebound in the months ahead.

 

EXISTING HOME SALES came in soft in April. Although, year-over-year, sales are up a respectable 6.1%. Inventory rose a bit, which is a good thing given the overall low supply of late, and the median price is up 8.9% year-over-year. As I've stated recently, rising prices are the answer to low inventories...

THE CONFERENCE BOARD'S INDEX OF LEADING ECONOMIC INDICATORS FOR APRIL came in stronger than anticipated, up .7% vs consensus estimate of .3% and March's .2%. This week's report showing a surge in building permits helped the index measurably. As did the yield spread, unemployment claims and the report's credit index. I share the forward-looking optimism posed by this index, however, other recent data (particularly from the manufacturing sector) indeed would question, or quell, that optimism. The services sector data, however, has retained a positive trend, which, given the complexion of the U.S. economy, keeps me for now, and on balance, optimistic.

NAT GAS INVENTORIES rose last week by 92 billion cubic feet to 1.989 bcf.

THE KANSAS CITY FED MANUFACTURING INDEX points to real weakness in the sector for the Tenth District. Here's Econoday's commentary:

 

The early indications on May's manufacturing activity have been slightly positive, that is until the Kansas City Fed report where the composite index is in deeply negative ground at minus 13. This is the weakest of the recovery for this reading and follows an already weak minus 7 in April.

New orders this month are deeply negative, at minus 19, as are backlog orders at minus 21. These readings, reflecting contraction for export orders and trouble in the energy sector, point to significant trouble for the region's manufacturing activity in the months ahead.

Shipments are already in contraction, at minus 9, as is employment, at a deeply negative minus 17 that contrasts with mostly positive employment indications in other reports.

Price readings in this report remain in negative ground and, like the Philly Fed report posted earlier this morning, offer support for the doves at the Fed. Watch for the final regional Fed indication on May's manufacturing sector with next week's Richmond Fed report.

THE FED BALANCE SHEET fell last week by $20.8 billion to $4.48 trillion. RESERVE BANK CREDIT increased $4 billion.

M2 MONEY SUPPLY grew by $22.8 billion last week.

MAY 22, 2015                                                                                     

CPI, ex food and energy, came in hot (relative to expectations) at .3% in April. This has to get the attention of those who seem to believe inflation is nowhere in sight. Should energy find life again anytime soon, and translate to the pricing of other goods and services, the Fed may find itself needing to raise rates faster than markets are presently prepared for (assuming they're prepare for at least one hike later this year)...

 

Is the end near? Well..... hmm....

Three clients in one day last week asked for my view on all the doom and gloom predictions they've been hearing of late. While only one could detail the case he was referring to, I got the picture that at least one popular news outlet has been parading the David Stockmans, Peter Schiffs and Marc Fabers of the world. To more or less sum up my view on the antics of these gentlemen, here's a comment I posted on a recent Peter Schiff article:

Reading Schiff and a few of the reader comments I can't help but comment myself on the utter hypocrisy of Schiff calling out folks who sift the data to find only those tidbits that confirm their biases. Schiff is the poster child for that practice.

Ironically, I sympathize passionately with the Austrian ideal. I.e, Schiff often points out quite well the risks inherent on the road policy currently has us on. It's the arrogance of pretending to know how the uncountable factors at play in a global economy will ultimately translate to asset values, etc. that I find to be, well... arrogant.

You'd think that after several years of grossly missing the mark, the man would simply resign to pointing out the risks and dispense with the prognostications. 

As for Stockman, I read his book The Great Deformation. And, like Schiff, he passionately points out the risks inherent to the road we're on. But he continues to abandon all humility and, while pointing out the idiocy of all who don't share his views, predicts a forthcoming financial collapse that the 2008 recession will pale in comparison to.

As for Faber, well, like Schiff, had you taken all you could from his media appearances the past few years, and followed his presumed lead, suffice it to say you'd be one severely disgruntled "investor" right about now.

Here are two pieces in their entirety I'd like you to consider. I'll post the best first. While Don Boudreaux (a truly thoughtful, incredibly insightful and entirely uncorrupted economist) metaphorically points out the impossibility of effectively planning an economy (note the humility in the usage of the words "sometimes" and "potentially" [emphasis mine]), his elegant analogy speaks perfectly to the impossibility of predicting the future as well. The second (please pardon my own lack of humility) is an article I posted back  in 2012, when a popular fund manage pinched one of my nerves:     (I'll be back before Monday with my weekly market/economic update...)

A WING AND A PRAYER, by Don Boudreaux

My eye recently caught on t.v., in passing, an old film clip of someone trying to fly like a bird.  This would-be aviator had wing-like things strapped to his arms.  Of course, no amount of flapping would get this human being to take flight like the birds he sought to imitate.  One important reason, of course, is that we humans – as smart and clever as we are – can observe only a tiny fraction of the details of what enables birds to fly.  We can observe a handful of large details (“bird flaps limbs that extend kinda, sorta from bird’s shoulder”; “bird’s flapping limbs are made of lightweight things that we call ‘feathers’,” and so on).  But the amount of detail that we don’t – can’t – observe with the naked eye (even with a naked eye as careful as that of Leonardo) is overwhelming.  The bird’s musculature; cardiovascular system; weight and position and minuscule maneuverings of its tail – these and countless other relevant details aren’t observed.

The human being observes a bird in flight and then analogizes his – the human’s – limbs and muscle movements to what he supposes, from his observations, are those of the bird.  But the human is too easily misled into thinking that he can easily-enough mimic the bird’s body and movements and, thereby, achieve flight.

Obviously, no human can do so.  Such attempts as there have been by man to strap on wings, flap, and fly invariably failed – sometimes catastrophically for the pretend Icaruses.

….

Attempts to centrally plan economies are very much like attempts to fly by dressing like and flapping like a bird: utterly futile because the most that can be observed of any successful economy are a handful of large details (“assembly lines,” “retail outlets”…..).  The vast majority (99.99999999999…9 percent) of the details that must work reasonably well aren’t observed by the would-be central planner.  What  “knowledge of the particular circumstances of time and place” – knowledge of details spread today across the globe and across billions of different human minds – is not incidental to the successful operation of a modern economy.  Utilizing that knowledge – vast, deep, changing, incredibly fine-grained detailed knowledge – is the very key to a successful market economy.

Central planning is as futile as trying to strap on wings and fly like a bird – and potentially as calamitous.

Of course, few people today advocate full-scale central planning of economies.  But smaller-scale interventions suffer the same problems as do attempts at central planning: inevitably inadequate knowledge of how to intervene.  Asserting, for example, that the key to economic recovery is to “increase aggregate demand” is a fiction borne from observing a true, but only large and inadequate, fact about successful economies: most producers, at any given time, are able to sell most of what they plan to sell.  But to leap from this observation to the conclusion that “therefore, government can stimulate economic recovery by increasing aggregate demand” is akin to a human being costumed-up as a bird and leaping off of a mountaintop, flapping away, hoping, hoping, hoping to fly.

 

BEWARE THE KING(S)

The “King of Bonds”, Pimco’s Bill Gross, has given the world a priceless gift. He’s accomplished something other mortals have aspired to, but forever at the expense of their credibility. Thanks to Mr. Gross we finally know precisely what to count on, financially speaking, for the remainder of life as we know it on planet Earth. The guessing’s over. I suppose I should re-think my career path.

Apparently the past century of stock market gains and wealth accumulation was a “freak” anomaly, one to never be repeated. His incomparable (out of 7 billion) brain, has put all the pieces together. He has solved the great riddle; he has determined what he’s dubbed the “new normal”: That is, sub historical-average economic and asset-value growth, in perpetuity.

In essence; he knows precisely how all the world’s individuals will transact their affairs for eons to come.



He foresees advances in consumer technology,



transportation,





and living standards in general.





He can predict the outcomes of political power grabs,



weather patterns,





and natural disasters.



And has gauged the precise impact of each on the global economy.

He has indeed solved nature’s great mysteries.



What forever baffles me is the correlation between the capacity for thinking and the lack thereof for reason. The sad thing (seemingly, but surely not in every case) being; the larger the capacity of the brain (or perhaps the academic achievement, or perhaps the professional accomplishment), the larger the ego – the larger the ego, the lesser the humility – the lesser the humility, the greater the God complex – the greater the God complex, the greater the following – the greater the following, the greater the damage when a black swan (a purely random event) falls from the sky.

 

 

Your Weekly Update

If a company's share price is a reflection of its future earnings, and dividends, potential, a thoughtful investor would assess the business environment in which the company in question presently finds itself. Thoughtful investors, like you and me, who find solace  in diversifying away the risk that one company's unanticipated poor management decisions might detrimentally impact our long-term investment success, consider the  macroeconomic environment when assessing our portfolios' near-term prospects.

So then, with the major U.S. averages hitting all-time highs (although that's just a shade above where they started the year), we must surmise that the macro environment is quite robust, wouldn't ya think? Well, if you've been reading my weekly economic highlights for the U.S., while you may be generally optimistic, robust would not be how you'd describe the present macro environment---last week's highlights below being no exception.

So what gives? How does the market maintain such historically high levels amid such tentative economic results? Allow me to pose two possibilities:

1. Investors, by my definition (long-term buyers of companies they believe in), are not the drivers of short-term market moves. Those (the drivers) would be traders (short-term buyers and sellers of the companies' stocks they believe will move massively over short periods of time). And traders are presently fixated on the Fed. Thus, when the economy is showing nary a sign of robust growth, traders bid prices up on the prospects for the Fed moving out that fateful day when they begin inching up the overnight lending rate.  I.e., ultra-low interest rates are generally good news for stocks and, therefore, blah news is good news---at least in the short run.

2. Investors, experienced ones, are indeed in control of the trend, and investors know that bull markets tend to top amid mass euphoria---and, therefore, a lack of liquidity. And given that euphoria is anything but justified---and, indeed, is not the prevailing sentiment---as the economy meanders its way around the runway, investors are comfortable holding their ground, and buying the dips, as traders fuss and fret over every published data point and whisper from the mouths of the members of the Federal Open Market Committee (FOMC).

"Bull markets are born on pessimism, grow on skepticism, mature on optimism and die on euphoria" Sir John Templeton.

In both scenarios, I presume, blah news is good news.

All that said, make no mistake, the Fed is chomping at the bit to get the Fed funds rate off of the zero lower bound. And while I subscribe to Mr. Templeton's edict , lived it even, I'm thinking it's time the economy leave the runway and take wing, for in my view the Fed has waited (to tighten policy) far too long into the profit cycle this go round. Meaning, while I suspect the next true bear market will come, as have its predecessors, with the next recession---and there's little recession risk showing up in today's indicators---without a pickup in top line (revenue) growth, pushing upward on earnings, rising interest rates will make today's fully-priced (in my view) market an overpriced market in need of a healthy correction. Which, frankly, wouldn't be all that bad right about now.

Stay tuned...

The Stock Market:

Non-US markets have measurably outperformed the U.S. year-to-date. Don’t be surprised if that remains the story throughout most of the year---given many foreign markets' cheaper valuations, early-stage recoveries and, yes, accommodative central banks. That said, there are a number of potential international hot buttons that could easily delay the narrowing of the gap between the valuations of U.S. and non-U.S. securities. That’s why we think long-term and stay diversified!

Here’s a look at the year-to-date results (according to Bloomberg) for the major U.S. indices, non-U.S. indices and U.S. sectors---using index ETFs as our non-U.S. and sector proxies:

Dow Jones Industrials:  +3.48%

S&P 500:  +3.89%

NASDAQ Comp:  +7.14%

EFA (Europe, Australia and Far East):  +12.46%

FEZ (Eurozone):  +10.27%

VWO (Emerging Markets):  +9.94%

Sector ETFs:

Here’s a look at the year-to-date results for a number of U.S. sector ETFs:

IYH (HEATHCARE):  +9.35%

XLY (DISCRETIONARY):  +6.51%

XLB (MATERIALS):  +6.43%

XHB (HOMEBUILDERS):  +5.48%

XLK (TECH):  +5.17%

XLP (CONS STAPLES):  +3.22%

XLE (ENERGY):  +2.18%

XLI (INDUSTRIALS):  +1.40%

XLF (FINANCIALS):  +.25%

IYT (TRANSP):  -4.85%

XLU (UTILITIES):  -6.63%

The Bond Market:

As I type, the yield on the 10-year treasury bond sits at 2.14%. Right where it sat a week ago today.

TLT, an ETF that tracks an index of long-dated U.S. treasury bonds, saw its share price decline another 0.75%  last week (off 6.91% over the past month).  As I keep repeating, I see bonds in general sporting a risk/return trade-off that makes going out on the yield curve not worth the risk.

Once again, here's the reminder on volatility I posted earlier in the year:

In last weekend’s commentary I attempted to put a rough January into proper perspective by urging you to view the stock market as an “antifragile” (benefits from stress) entity. Again, periodic market downturns are an essential aspect of the long-term investing process. As I stated in our year-end letter, and several commentaries since, I expect financial markets in 2015 to exhibit the kind of volatility that will challenge the resolve of many a short-term investor. Good thing you and I think long-term!

One additional note on volatility: The past couple of weeks I’ve shared with you the very short-term results for markets and sectors. I do this with a bit of hesitation, as I in no way want to give the impression that you, nor I for that matter, should base our long-term investment decisions on short-term movements in markets or their sectors. It can, however, serve as a reference point for how the markets are, or are not, responding to the data (which is why I, as a professional, track the short-term). As you may have noticed, my beginning of the year optimism over non-US and the housing sector (to name two), and pessimism over utilities, appears to be justified by recent results. I need to strongly (very strongly!) emphasize that I was not predicting what we’ve experienced these few short weeks into 2015. My optimism or concerns are based on factors such as valuations, trends, monetary policy and cyclicality—and my comfort in making allocation recommendations rests on the view that our clients are not short-minded investors (it can take awhile, if at all, for the market to reward what I believe to be good fundamental logic) who mistakenly believe that any human being possesses a capacity for market timing. Some people get lucky from time to time, but without exception, market timers are wrong far more often than they are right. The path to long-term investment success is fraught with bumps and potholes. The ones who successfully make the journey take it slow and never over-compensate when steering through and around the inevitable obstacles along  the way.

Here are last week’s U.S. economic highlights:

MAY 11, 2015

THE CONFERENCE BOARD EMPLOYMENT TRENDS INDEX for April improved to 128.22, from 127.15 in March. The year-over-year gain is 5.8%. Here's from the release:

April’s increase in the ETI was driven by positive contributions from seven of the eight components. In order from the largest positive contributor to the smallest, these were: Percentage of Firms with Positions Not Able to Fill Right Now, Ratio of Involuntarily Part-time to All Part-time Workers, Real Manufacturing and Trade Sales, Number of Employees Hired by the Temporary-Help Industry, Initial Claims for Unemployment Insurance, Job Openings, and Industrial Production.

THE FED LABOR MARKET CONDITIONS INDEX (derived from 19 labor market indicators) for April, doesn't jibe with the Conference Boards Employment Trends Index, reading negative for the second straight month. A read below zero denotes deteriorating labor market activity, April's level was -1.9.

MAY 12, 2015

THE JOHNSON REDBOOK RETAIL SALES REPORT didn't explode out of this year's Easter timing distortion. Here's Econoday:

Retail sales picked up slightly in the May 9 week as Easter-effects finally fade, but at a year-on-year plus 2.1 percent sales remain soft. Redbook reports an as-expected Mother's Day holiday in the week and reports early buying for graduation. Tomorrow the government will post its April retail sales report which is expected to show a solid rate excluding autos.

THE NFIB SMALL BUSINESS OPTIMISM INDEX improved almost across the board in April. However, the underlying overall tone remains cautious. That is, if NFIB's chief economist's tone accurately reflects that of the survey's respondents. While Mr. Dunkleberg always makes good points, it's clear to me that his politics indeed cloud his perspective. While, clearly, based on the flow of April data, the economy is not exploding out of Q1, producer surveys from the services sector and small businesses are telling of a degree of optimism among major needle-movers that should translate to decent (but not recordbreaking) economic growth going forward. Here's some of that optimism from the report:

The Small Business Optimism Index increased 1.7 points from March to 96.9, this in spite of a quarter of virtually no economic growth. Unfortunately, the Index remained below the January reading. Nine of the 10 Index components gained, only real sales expectations were weaker. But this still leaves the Index below its historical average, oscillating between 95 and 98 but never breaking out except for December, when the Index just tipped past 100, only to fall again.

LABOR MARKETS

Small businesses posted another decent month of job creation. Those that hired were more aggressive than those reducing employment, producing an average increase of 0.14 workers per firm, continuing a string of solid readings for 2015. Fifty-three percent reported hiring or trying to hire (up 3 points), but 44 percent reported few or no qualified applicants for the positions they were trying to fill. Thirteen percent reported using temporary workers, up 3 points. Twenty-seven percent of all owners reported job openings they could not fill in the current period, up 3 points from March. A net 11 percent plan to create new jobs, up 1 point and a solid reading.

CAPITAL SPENDING

Sixty percent reported outlays, up 2 points in spite of the collapse of spending in energy and gas exploration. The percent of owners planning capital outlays in the next 3 to 6 months rose 2 points to 26 percent, not a strong reading historically but among the best in this expansion. Forty-four percent expected improved real sales volumes, 18 percent expected declines, leaving the net percent expecting higher real sales 3 points lower at a net 10 percent of all owners.

THE LABOR DEPT'S JOB OPENINGS AND LABOR TURNOVER SURVEY (JOLTS) showed softness in the labor market in March, as job openings fell 2.9% to 4.994 million, from February's 5.144 million. One brightspot in the report was the all-important quits rate, which rose .1% to 2.0%. Folks generally don't quit their job unless they are confident better prospects await.

MAY 13, 2015

NEW PURCHASE MORTGAGE APPLICATIONS declined 0.2% last week as the average 30-year rate jumped to 4.0%. Refinances continued their decline, plunging another 6%. 

IMPORT AND EXPORT PRICES for April give credence to those who argue that the Fed can sit tight amid an environment of low inflation. Here's Econoday:

There were some expectations for energy-related pressure to appear in today's import & export price report but the pressure is not enough to raise general prices. Import prices fell 0.3 percent in April which is well below the Econoday consensus for a 0.4 percent gain. Excluding petroleum products, where import prices jumped 1.0 percent in the month, prices are still in the negative column, at minus 0.4 percent.

Export prices, pulled down by a drop in prices for farm products, really fell in the month, down 0.7 percent vs the Econoday low-end estimate for minus 0.2 percent.

Year-on-year, import prices are down a very steep 10.7 percent with export prices down 6.3 percent. Oil may be bouncing back, but the effect so far on the price picture is limited, once again giving the edge, at least for now, to the doves at the Fed.

THE ATLANTA FED BUSINESS INFLATION EXPECTATIONS, as opposed to April's Import and Export Prices, should spark a little fear in the hearts of those who are betting the Fed will stay on hold into 2016. Emphasis on paragraph two of Econoday's highlight below:

Federal Reserve policy makers are focused on inflation expectations and whether they will begin to rise as the price of oil rises and as the economy bounces back from a slow first quarter. And there is a hint of pressure in today's Atlanta Fed business report where year-on-year inflation expectations, that is projected unit costs, are up 2 tenths this month to 1.9 percent from April's 1.7 percent. This is also 3 tenths higher than the current 1.6 percent year-on-year increase in costs.

And there's also a little hint of wage pressures with 67 percent of firms reporting increases underway for compensation costs, with 81 percent of this group saying they are passing costs, at least partially, along to customers. Other data include an uptick in sales and no change for profit margins since April.

RETAIL SALES, according to the U.S. Bureau of Census's Monthly Retail Survey, were unchanged in April. Sales were up slightly, excluding autos, but certainly nothing to write home about. In fact, the April results mark the lowest readings since late 2009. Clearly, April did not deliver the robust rebound many expected coming off of a weak Q1.

BUSINESS INVENTORIES came down just a bit in March. Bringing the inventory to sales ration down to 1.36 from 1.37. This is a ratio that reads high, relatively speaking. Clearly, the slow first quarter created an inventory overhang that doesn't bode all that well for second quarter growth.

CRUDE OIL INVENTORIES declined for the second straight week, by 2.2 million barrels. Still, inventories remain very high, just off an 80-year high. I remain unconvinced that, given the level of global production that continues, oil prices are yet off to the races. Seasonal factors may offer some support to the price going forward, but that'll simply inspire a reramping of capacity, which could easily see the price back to the sub-50s. Whether or not my presumption holds true this year, I do expect that when it's all said and done, the price will settle (for awhile) well above the $50 level. GASOLINE inventories were down 1.1 mbs and DISTILLATES were down 2.5 mbs last week.

MAY 14, 2015

WEEKLY JOBLESS CLAIMS continues to be a huge bright spot among recent economic indicators. Coming in last week at 264k, which marks the third week in a row in the 260k range, which marks a 15-year low. The 4-week average sits at a very low 271.75k. Continuing claims were unchanged, remaining at a 15-year low of 2.229 million. The 4-week continuing claims level made a new 15-year low at 2.26 million. While other recent data suggest that employers aren't hiring like mad, clearly, based on weekly jobless claims, they're hanging on to the employees they have.

THE PRODUCER PRICE INDEX FOR FINAL DEMAND shows inflation remaining subdued. Falling .4% in April.  Down 1.3% year-over-year.

NAT GAS INVENTORIES rose 111 billion cubic feet last week to 1.897 bcf.

THE FED BALANCE SHEET grew by $28.5 billion this week after increasing by $1.2 billion last week. Totaling $4.501 trillion. RESERVE BANK CREDIT increased by $6.3 billion after declining $11.3 billion last week.

M2 MONEY SUPPLY grew by $27.6 billion last week, after declining by $27.5 billion the week prior.

MAY 15, 2015

THE EMPIRE STATE MANUFACTURING SURVEY for May came in uninspiring, relative to expectations. Here's from the report (note the weak read on inflation):

The May 2015 Empire State Manufacturing Survey indicates that business conditions improved slightly for New York manufacturers. The headline general business conditions index climbed four points to 3.1. The new orders index rose ten points to 3.9, and the shipments index was little changed at 14.9. Labor market indicators pointed to a small increase in employment levels but a slight decline in the average workweek. The prices paid index fell ten points to 9.4, its lowest level in nearly three years, and the prices received index edged down to 1.0, indicating that selling prices were flat. The index for future general business conditions fell noticeably, reflecting a positive but less favorable outlook than in April.

INDUSTRIAL PRODUCTION has been essentially flat, as evidenced by April's report. I'm looking forward to the next anecdotal read on the services sector, which doesn't come until the Flash Services PMI report on May 27. Services sector actors have been noticeably more upbeat about their prospects going forward, it'll be interesting to see if that's held of late. CAPACITY UTILIZATION decreased to 78.2 in May. Fed worriers have got to be feeling pretty good about this week's data releases. Here's from the report:

Industrial production decreased 0.3 percent in April for its fifth consecutive monthly loss. Manufacturing output was unchanged in April after recording an upwardly revised gain of 0.3 percent in March. In April, the index for mining moved down 0.8 percent, its fourth consecutive monthly decrease; a sharp fall in oil and gas well drilling has more than accounted for the overall decline in mining this year. The output of utilities fell 1.3 percent in April. At 105.2 percent of its 2007 average, total industrial production in April was 1.9 percent above its year-earlier level. Capacity utilization for the industrial sector decreased 0.4 percentage point in April to 78.2 percent, a rate that is 1.9 percentage points below its long-run (1972–2014) average.

THE UNIVERSITY OF MICHIGAN CONSUMER SENTIMENT for May is yet another indication that, despite paragraph 2 below, Fed worriers and contrarian investors who subscribe to the bull-markets-climb-a-wall-of-worry credo have little to worry about in the near-term. Here's from Econoday:

Consumer confidence had been holding, as the FOMC assured us just a couple of weeks ago, at high levels, but perhaps less so now with the consumer sentiment index at 88.6 which is nearly 5 points below Econoday's low-side forecast. Both components show weakness with current conditions down 7.2 points to 99.8 and expectations down 7.3 points to 81.5. These are the lowest readings since October and November of last year.

At the same time that confidence is going down, inflation expectations, reflecting rising gasoline prices, are going up. Expectations 1-year out are up 3 tenths to 2.9 percent while expectations 5-years out are up 2 tenths to 2.8 percent. Despite the turn higher, however, these are still low levels.

The drop in current conditions hints at softness in this month's jobs market while the drop in expectations is a downgrade for the outlook on jobs. The hawks at the Fed have been anticipating, perhaps over anticipating, that strong consumer confidence levels would eventually translate to gains for retail sales. Retail sales have been flat along and now consumer confidence, based at least on today's consumer sentiment report, is moving backwards. 

E-COMMERCE RETAIL SALES results continue to suggest that some of the sluggishness we're seeing in brick and mortar retail venues is in part due to more folks shopping online. Here's Econoday:

Growth in e-commerce sales picked up in the first quarter, to 3.5 percent vs a downward revised 1.8 percent in the fourth quarter. Year-on-year, e-commerce growth rose to 14.5 percent which is up 5 tenths from the fourth quarter but well down from the 15.6 and 15.0 percent rates of the two prior quarters. Despite the slowing trend, e-commerce as a percentage of total retail sales continues to climb to records, up a strong 4 tenths to 7.0 percent.

TREASURY INTERNATIONAL CAPITAL data for March showed foreigners heavily buying U.S. treasuries, particularly the Chinese. Hmm? Perhaps China is looking to boost its exports by propping up the dollar against the yuan... It'll be interesting to see this report for May, as, in the first half, treasuries were sold off notably---pushing yields to their year-to-date high.

Foreigners were net sellers of U.S. equities, while U.S. investors were heavy buyers of foreign equities.