Download October 21, 2016

In the markets:
Stocks were green across the board as all major U.S. indexes recorded gains for the week. Of note,
roughly a quarter of the market capitalization of the S&P 500 index reported third-quarter results during
the week. For the week, the Dow Jones Industrial Average added just +7 points to end the week at
18,145, up +0.04%. The tech-heavy NASDAQ Composite gained +43 points to 5,257, up +0.83%, helped
by strong earnings reports from Netflix and Microsoft. Smaller cap indexes modestly outperformed
larger as the MidCap S&P 400 rose +0.46% and the SmallCap Russell 2000 gained +0.47%, while the
LargeCap S&P 500 added +0.38%.
In international markets, Canada’s TSX rose a strong +2.43%. In Europe, the United Kingdom’s FTSE
ended relatively flat, rising only +0.1%. On Europe’s mainland, major markets were strong across the
board. France’s CAC 40 was up +1.46% for a 3rd week of gains. Germany’s DAX rose +1.23%, and Italy’s
Milan FTSE surged +3.47% for a 5th week of gains. In Asia, China’s Shanghai Composite tacked on a
second week of gains, rising +0.89%. Japan’s Nikkei reversed last week’s loss, gaining +1.95%. Hong
Kong’s Hang Seng rose a slight +0.6%. Developed international markets as a group, as measured by the
MSCI EAFE Index, rose +0.9% while emerging markets as a group, as measured by the MSCI Emerging
Markets Index, rose +1.95%.
In commodities, oil had a 5th week of gains, up +0.2% to $50.85 for a barrel of West Texas Intermediate
crude. Precious metals regained some of their shine as an ounce of Gold rose +$12.20 to $1267.70 (+.
Silver, likewise, added a nickel to $17.49 an ounce, up +0.3%. The industrial metal copper, viewed by
many as an indicator of the health of the global economy, fell for a 3rd straight week, down -1.04%.
In U.S. economic news, the number of people who applied for new unemployment benefits last week
rose 13,000 to 260,000—a 6-week high, according to the Labor Department. Economists had expected
248,000 new claims. The biggest increases in claims occurred in California, Pennsylvania, Texas, and
New York. Nonetheless, initial claims have remained below the key 300,000 level for 85 straight weeks.
The less volatile 4-week moving average of claims rose slightly to 251,750. Although the economy has
added millions of jobs over the last 6 years, companies continue to complain that they cannot find
enough skilled workers to fill open positions. Continuing claims, the number of those already receiving
benefits, rose by 7,000 to 2.06 million, but remained near a 16-year low.
Home builders broke ground on the fewest number of new homes in over a year and a half last month,
according to the Commerce Department. Housing starts were at an annual 1.047 million pace last
month, 9% lower than in August and 11.9% lower than this time last year. It was the slowest pace of
starts since spring of 2015. Economists had expected a 1.18 million annual pace. Digging deeper into
the numbers, the damage seems to have been confined to new construction of apartment buildings,
which plunged -39%. In contrast, single-family housing starts surged +8.1% to an annual pace of
783,000—the highest in 7 months. The U.S. now has the most single-family homes under construction
since the fall of 2008. On a positive note, building permits rose +6.3% to a 1.23 million annual rate in
August. Permits are taken as an indication of future building activity. The Commerce Department’s
figures are traditionally very volatile and are often revised, to the point that upon receiving the numbers
Amherst Pierpont Securities Chief Economist Stephen Stanley wrote in a note, “Nothing to see here,
move along.”
The National Association of Home Builders’ (NAHB) index retreated slightly to 63 after reaching its
highest level in 10 years in August. Current sales conditions fell -2 points to 69, while the measure of
sales expectations for the next 6 months gained a point to 72. Buyer traffic fell a point to 46. Buyer
traffic has remained below the neutral 50 mark since the height of the housing bubble. In the NAHB
report, builders note that demand is still being supported by a strong job market and low mortgage
rates, but shortages of skilled labor and buildable lots continue to weigh on their ability to meet that
demand.
Existing home sales snapped a two month losing streak and rebounded last month according to the
National Association of Realtors (NAR). Existing-home sales ran at a seasonally-adjusted 5.47 million
annual rate, a +3.2% increase from August and a +0.6% increase year-over-year. The median sales price
of $234,200 was +5.6% higher than a year ago—the 55th straight month of annual price gains. The 2
month losing streak of sales has been attributed to shrinking inventory and surging prices, says NAR.
Sales rose in all four regions, ranging from a +5.8% rise in the Northeast to a +0.9% increase in the
South. First-time buyers were responsible for 34% of all transactions, the most in 4 years. At the
current sales pace, there were just 4 ½ months of inventory on the market, well below the usual 6
months that has historically marked a balanced housing market.
Manufacturing in the New York area took a turn for the worse as the Empire State Manufacturing index
plunged to a -6.8 reading, from a previous reading of -2. Analysts had been expecting a reading of
positive 1. Any reading below zero indicates shrinking activity. The index for new orders improved
slightly, but still remained negative at -5.6. Orders for shipments, unfilled orders, inventories, number
of employees and average employees work week were also all negative vs the prior month.
In the city of brotherly love, the Philadelphia Federal Reserve’s manufacturing index also pulled back,
but the details of the report painted a brighter picture than in the New York report. Overall, the
Philadelphia Fed’s monthly index on regional manufacturing fell to 9.7, down -3.1 points from
September, which had been the highest reading in over a year and a half. Economists had expected a
reading of only 7. In the details, new orders surged to 16.3, up from 1.4 in September and shipments
rose +24 points to a positive 15.3.
Industrial production rose slightly last month, up a bare +0.1% according to the Federal Reserve.
American producers are struggling with the twin headwinds of slow global growth and a stronger U.S.
dollar which raises the relative price of U.S. goods overseas. In addition, business profits have been
declining and lower oil prices have forced domestic drillers and energy producers to curtail investment.
Capacity utilization, used by analysts to forecast future industrial production numbers, rose a tick to
75.4%, but remained below its long-term average of 80%. In other words, plants are operating at only ¾
capacity.
The Federal Reserve’s latest Beige Book, a collection of anecdotal information on current economic
conditions from each Federal Reserve Bank, reported that the economy in most areas of the country
grew at a “modest to moderate pace”. The area surveyed by the New York Fed saw no growth. Of
concern, the Fed’s survey reported that the stronger dollar is weighing on exports. On a positive note,
the report highlighted increases in retail spending, heightened demand for services, a robust real-estate
market, and a firming energy sector.
The Conference Board’s index of Leading Economic Indicators (LEI) rebounded +0.2% last month,
signaling modest economic growth. The LEI index is a weighted gauge of 10 indicators designed to signal
business-cycle peaks and troughs. Of the 10 indicators, 5 expanded last month. Ataman Ozyildirim,
director of business cycle research at the Conference Board said that the increase last month, along
“with the pickup in the six-month growth rate, suggests that the economy should continue expanding at
a moderate pace through early 2017.”
Gas and housing prices rose the most in 5 months, pushing the Consumer Price Index (CPI) up by +0.3%
in September, according to the Federal Reserve. The CPI increase was at the fastest pace since May of
this year. On an annualized basis, consumer prices have increased +1.5% - the greatest annual gain
since late 2014. Significant gains in CPI may force the Federal Reserve to raise interest rates, regardless
of other factors. Economists are predicting that inflation will continue to creep higher as oil prices
stabilize and wages continue to rise. However, on a positive note, Americans continue to see relief at
the grocery store as food remained unchanged for the third straight month. Over the past year, food
prices have fallen -2.2% - the biggest drop since 2009. Without the volatile food and energy categories,
consumer prices were up only +0.1% last month.
In international news, the Bank of Canada left its key interest rate unchanged at 0.5%, but cut its GDP
outlook for 2016 to just +1.1%. The central bank is predicting a slower housing market and stated that
the export sector is not rebounding as strongly as it anticipated. The Canadian central bank had forecast
2016 GDP to be +1.3% at July’s meeting. The bank doesn’t expect the Canadian economy to return to
full capacity until mid-2018 - 6 months later than previously expected. CIBC economist Nick Exarhos
stated “The Bank didn’t cut rates today, but it is warning markets that it is only operating with a thin
margin of error when it comes to what might prompt another ease in policy.”
In the United Kingdom, concerns are rising of the possibility of a “hard Brexit”—a severing of most trade
ties between the UK and the European Union in a swift, some say brutal, manner. That would require
further support from the Bank of England in the form of lower interest rates and an extension of the
current quantitative easing program. Dean Tenerelli, portfolio manager for European equities at T.
Rowe Price, believes that the possibility of a hard Brexit has darkened the outlook for the UK and
European economies, which have otherwise shown resilience since the UK referendum in June. He
added that the “divorce process” would be “lengthy and complex”.
On Europe’s mainland, ratings firm Standard & Poor’s raised its outlook on France’s long-term sovereign
credit rating to “stable” from “negative”. The U.S. ratings agency left its rating on French debt
unchanged at AA—it’s 3rd highest rating. The improvement in the country’s outlook is due to the
"gradual introduction of growth-enhancing reforms amid ongoing fiscal consolidation," S&P said in its
report. French Prime Minister Manuel Calls welcomed the news calling it a “sign of confidence”. S&P
had downgraded France’s AAA rating in 2012.
German Chancellor Angela Merkel is taking a hard line against Britain in the coming Brexit talks,
instructing officials to avoid any back-door contacts that could hand the U.K. any advantage. Merkel’s
chancellery is refusing to grant the U.K any favors in advance of the official negotiations, instructing
officials to not have contact with their U.K. counterparts that might reveal negotiating positions,
Bloomberg reports. In short, the German message in private is that same as in public - discussions can’t
start until Britain presents its opening positions in regard to leaving the European Union.
In Italy, ratings agency Fitch cut its outlook due to political uncertainty, weak growth, and high debt.
Italians will be voting on a referendum which could decide the future of Prime Minister Matteo Renzi’s
future. Polls are currently suggesting that the vote is too close to call. The referendum vote planned for
December 4, 2016 asks voters whether they approve of amending the Italian constitution to reform the
appointment and powers of the Italian Parliament, as well as partitioning the powers of state, regional,
and national administrative entities. The agency left Italy’s BBB+ rating unchanged, but said downside
risks have increased.
China’s economy grew at an annual rate of +6.7% in the 3rd quarter—a sign that growth is stabilizing.
The figure matched forecasts and was in line with first and second quarter growth. The reading is
expected to reassure investors after China’s market and currency volatility earlier this year sparked fears
of a slowdown. The National Bureau of Statistics said “The general performance was better than
expected”, and the figure is in line with Beijing’s growth target of +6.5% to +7% for the year.
In Japan, Bank of Japan Governor Haruhiko Kuroda said the economy is expected to “expand moderately
as a trend”. In addition, he reported core consumer prices remain slightly negative to flat and that the
central bank stands ready to take further action to boost growth if needed. Specifically, he stated, "The
BOJ will continue expanding the monetary base until the year-on-year rate of increase in the observed
CPI exceeds the price stability target of 2% and stays above the target in a stable manner.” Just last
month, the Bank of Japan said it would target the yield curve and move its activities away from
expanding the monetary base.
Finally, could 2016 be the best year to buy a home since 2012? With median home prices rising month
after month one would be forgiven for answering a resounding “No!” But real-estate research firm
Trulia came to a different conclusion. Trulia compared the costs to rent with the costs of buying a home
and found that it is now 37.7% cheaper to buy a home rather than rent in the top 100 cities in America
(the cheapest it’s been since 2012). Trulia’s analysis compared the monthly cost of owning—mortgage
payments, maintenance, insurance, and taxes, to the cost of renting comparable properties. The range
is from more than 50% cheaper in Miami and Fort Lauderdale, Florida to under 20% in Honolulu and San
Francisco. Although home prices have greatly appreciated in the last 4 years, in many cases rents have
been rising just as – or more – quickly.
(sources: all index return data from Yahoo Finance; Reuters, Barron’s, Wall St Journal, Bloomberg.com,
ft.com, guggenheimpartners.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics
Canada, Yahoo! Finance, stocksandnews.com, marketwatch.com, wantchinatimes.com, BBC,
361capital.com, pensionpartners.com, cnbc.com, FactSet; Figs 1-5 source W E Sherman & Co, LLC)