Good News? More Like No News


09/29/2015| David Joy

After leaving market participants guessing at its recent meeting the week before last as to what the Fed will do next, and on what basis it will do it, Federal Reserve Chair Janet Yellen sought to clarify the outlook in a speech at the University of Massachusetts last Thursday. The big headline was her expectation that rates would rise sometime this year, despite having just deferred such a move in light of international economic uncertainty and market volatility.

Although stocks in the U.S. barely moved on Friday in response, Yellen's assertion was greeted with relief in certain quarters. Eurozone markets rallied in response to the subsequent euro weakness. But was there any real news in what Yellen said? The answer is clearly, no. What else could she have said? Just eight days before her speech the Federal Open Market Committee (FOMC) released its latest projections regarding the path of monetary policy and 13 of the 17 participants expected a rate increase this year. She was simply reiterating what the FOMC had already expressed quite clearly. To have said anything else would truly have been news.

And somewhat overlooked in the focus on the headline was the rest of her statement, in which she said, 'But if the economy surprises us, our judgements about appropriate monetary policy will change.' That is certainly what happened leading up to the Fed's September meeting, after the surprise yuan devaluation triggered a wave of uncertainty regarding the pace of global economic activity.

Will There be Enough to Move in December?

The burden of proof now shifts to those 13 FOMC members expecting a 2015 rate increase, who must ask themselves whether there is likely to be enough evidence of improvement in the conditions by the December meeting that caused us to pause in September? Maybe, but time is running short for anything resembling a sustainable trend to emerge.

Of course, there is the additional possibility that domestic considerations become so compelling that they cannot be ignored. The first test of this possibility will arrive on Friday with the September jobs report. The consensus anticipates the creation of 200,000 new non-farm jobs, no change in the unemployment rate at 5.1 percent and a bump up in the year-over-year growth in average hourly earnings from 2.2 to 2.4 percent. Such readings would not be enough to cause the Fed to become more introspective, but readings above those expected could complicate the debate.

The Consumer Remains Key to Growth

Another piece of news last week received only little attention, but was important nevertheless. Second quarter GDP growth in the U.S. was revised upward to an annualized pace of 3.9 percent on the back of an upward revision to pace of personal consumption to a 3.6 percent pace. While neither of these data points are likely to be sustained at those levels, they do indicate the outsized importance of the consumer sector to the U.S. economy and the relative insularity it provides in the face of global uncertainty.

Consumers have made significant strides in deleveraging their balance sheets, and are benefiting from solid job creation and low inflation. Increasingly, they are in a position to spend more, and although they remain somewhat cautious, are doing so. This week we learned that personal spending in August rose slightly more than expected, matching July's 0.4 percent gain, indicating continued strength into the third quarter. To be clear, if the global economy weakens further, we will feel it. But with consumer spending representing 70 percent of GDP, the U.S. is likely to feel it far less than other countries more reliant on exports, particularly commodities. That belief is reflected in recent quarterly earnings results and in expectations for the third quarter.

Alcoa once again begins earnings season with its report on October 8. According to Factset, earnings for companies in the S&P 500 are expected to decline by 4.5 percent compared to last year. The energy sector continues to play a leading role in the year-over-year decline, but overseas weakness is also a contributor. Factset estimates that among companies that generate more than 50 percent of their sales in the U.S earnings will rise by 3.1 percent. In contrast, companies that generate less than 50 percent of sales in the U.S. will see an earnings decline of 14.1 percent. Not to be overlooked is the role that the dollar plays. Last year at this time, the euro stood at 1.27 versus 1.11 today, while the yen, which is quoted in reverse to the dollar, was at 110.00 compared to 120.00 today.

Important Disclosures:
The S&P 500 is an index containing the stocks of 500 large-cap corporations, most of which are American. The index is the most notable of the many indices owned and maintained by Standard & Poor's, a division of McGraw-Hill.
FactSet Research Systems Inc. is a multinational financial data and software company headquartered in Norwalk, CT, United States. The company provides financial information and analytic software for investment professionals.
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