Good morning and Happy Halloween! We continue to monitor the escalating conflict in the Middle East as a potentially serious impact on global macroeconomic events in the coming weeks. Despite rising resistance to the scale of Israel’s response to the terror attacks earlier this month, the statements from the military and political leadership in Israel and its allies are that they intend to pursue the elimination of Hamas and that the conflict will be a matter of “months”. Our thoughts and prayers are for the many innocent lives that will be lost or permanently impacted by the conflict, on both sides.
The coming week may have major impacts on the market, as a large number of economic events happen, including the FOMC meeting, additional information on inflation and productivity show up, and more than 200 of the S&P 500 companies report prior quarter results.
Because nearly all of our investment clients grant us what is known as discretionary trading authority, keeping up with global economic changes is an important part of our client service work. As a financial planning and investment management firm that is committed to doing independent research, we are forever grateful to the many excellent Economic aggregation resources that take the work out of gathering this data for us each day. They don’t give us analysis – that’s our job – but simply gather and present this information. Their vital service saves dozens of hours a week. We want to give a big shout-out (and a thank you) to CurrentMarketValuations, FRED, MacroMicro, TradingEconomics, and The Daily Shot. Though we use several more, these are our favorite places to see a daily aggregation of economic data, and you’ll often see their charts used here.
- nFocus: GDP & PCE
- Jobs Update
- Real Estate Update
- Manufacturing Updates
nFocus: GDP & PCE
The Q3 2023 GDP was released last week, surprising many analysts when it came in at 4.9% Quarter-over-Quarter. At first glance, this appears to be very good news for the U.S. economy. However, as we will look into the details and ancillary evidence, this doesn’t paint as clear of a picture as it appears at first glance.
It appears that the majority of the GDP was durable goods orders, which came in nearly 3 times higher than anticipated.
This appears to be a stockpiling of inventories. Why would a company do this? Most likely, because they are concerned about prices rising in the near-term, and so are stocking up on durable goods at what they assume to be the lowest prices for a while:
Actual business investment – the use of business capital to expand operations – which is a sign of business optimism, was zero last quarter. It appears more likely rise in the GDP and in durable goods orders specifically, was simply a precautionary measure due to fears of rising prices.
And indeed, inflation is eating away at the purchasing power of companies. The black link shows the spending on all capital goods (excluding aircraft and aircraft parts), which on the surface looks healthy, but the blue line shows those same purchases if we removed the recent inflation. We are BUYING much less than we did before the Covid-19 pandemic; we’re just paying much more for those goods.
That brings us to the Personal Consumption Expenditures (PCE) that was released for October. Similar to CPI (Consumer Price Index), PCE shows what we’re spending and gives us a good look at how inflation is moving. Core PCE, in fact, is one of the Fed’s favorite indicators.
PCE rose higher than expected, as well, indicating that inflation is still trending higher month-over-month. In fact, this was the sixth month-over-month increase in PCE in a row, indicating that inflation likely resumed an upward climb in the spring of this year.
The CORE PCE (again, the Fed’s favorite inflation indicator) is a collection of the items we most often and regularly spend money on. That came in with expectations but is noticeably higher than the previous six months, as well. We do not believe the Fed’s work to curb inflation is anywhere near finished yet.
What concerns us most here at nVest Advisors is that the purchases by consumers are now growing much faster than incomes are. But the extra money for this spending needs to come from somewhere.
During the Covid-19 pandemic, it came from PPP loans to businesses, stimulus checks to consumers, and the forbearance of student loan payments, which resumed this past month:
Indeed, we can see that for the last 4 months, consumers are depleting their savings again after a half-year of being able to “bank” some surplus:
The Fed is actually hoping for this coming slow-down, however, as it is a primary way to lower prices. You can see that prices closely follow the availability of money (which makes perfect economic sense – when you have more dollars chasing the same number of products and services, prices will go up, and when there are fewer dollars to spread around, prices will drop).
What this means for you
The stock market did not take the GDP as good news, for three reasons: first, once we dug into the statistics, it wasn’t the robust report it appeared to be at first. Second, a strong GDP number, coupled with strong labor numbers (see below), means the Federal Reserve will likely have to take additional measures to pull the economic growth down. And finally, because the growth in consumer spending is happening on credit now, and no longer comes from their depleted savings.
You only have so much available in credit – once that is maxed out, there is nothing you can do but slow down on your spending. We believe we are at that point, particularly as student loan payments have resumed this month. The coming quarter should show a marked slowdown in spending by consumers.
New unemployment claims ticked up slightly in line with seasonal norms but remain very low. We will see in a moment why this actually may give us a Red Flag for the economy in moment:
After a drop in jobless claims two weeks ago compared to the average of the last 3 normal years, jobless claims ticked up slightly for last week:
But as we’ve said for a very long time in this blog, the CONTINUING claims are far more instructive and need much closer scrutiny. Continuing claims remain low – for now – but we started the year with the lowest continuing claims in a decade and are now trending dead in the middle:
Once again, compared to the last three normal years, the trend in continuing claims is alarmingly high and consistent:
How can strong hiring (or the appearance of it) be BAD news? Because as history has shown us, hiring tends to remain strong right into recessions and layoffs only begin AFTER the recession is well underway. Consider the graph below: unemployment claims always trended DOWN right into the recession (shaded red area), but then spiked significantly during the established recessionary period.
Simply put, companies are pretty bad at pre-emptively seeing a recession on the horizon, and therefore continue as if one is not approaching. It is only when sales slow down and revenue falls that layoffs start, but by then we are WELL into the recession, typically.
What we CAN see ahead of a recession, typically, is a fall-off of the hiring of temp workers, which accelerates into a recession, but generally starts ahead of the recession’s arrival: We are very much following that trend again in late 2023:
What this means for you
We continue to watch employment carefully but it is a lagging indicator in terms of predicting a recession. Hiring typically stays strong right up to the start of a recession, because laying people off is the very last thing most companies want to do (or even have to do). However, once sales drop off and hours have been reduced, job cuts always follow. We anticipate a sudden spike in layoff announcements as the recession gets underway. Indeed, companies with more than 100 employees who are required to give 60-day advance notice of a layoff jumped massively this month:
This tells us that higher unemployment numbers are imminent. If past recessions are any indication of what is very likely ahead, look at how fast unemployment claims shot up in each of the last 7 recessions after the yield curve inverted (which ours has for 18 months and counting):
Real Estate Update
As has long been the trend, real estate continues to cool off in this high-interest-rate environment. Very few mortgage loans were reported again last week, and by far, the slowest mortgage market in a decade:
Additionally, home purchase deals are now falling a the fastest rate in 15 years:
New homes surprised slightly to the upside as the builders themselves have begun to lower prices and increase incentives to get a new home sold:
And we can now definitely see a decline in the median price for a new home showing up in the stats:
The home building forecast going forward, however, remains at historically low levels for now, indicating prices have much further to fall:
What this means for you
We continue to believe home prices will come down long before interest rates do. This is good news for home buyers but bad news for current homeowners. We recommend that you keep your debts minimal, clean up your credit score, and try to save as much as possible. If you are dealing with a high-interest mortgage that you thought you could refinance by now, you may have to adjust your budget, as we anticipate that it will be another 1-2 years before you can refinance your home at a measurably lower rate, and even longer if you have less than 15% equity in your home (because you may be “underwater” in terms of home equity).
Once a month, each of the regional Federal Reserve bank districts report on economic activity in their areas. This past week, we got an update from the Richmond Fed for their services index, and the Kansas City region. First, Richmond Services:
Services had been faring better than manufacturers nationwide throughout 2023, but that appears to have been strongly reversed. We can see the outlook (the graph immediately above) sharply reverse downward from the summer optimism.
Likewise, manufacturing in the Kansas City, MO area remains well in recessionary territory, with a strong drop in new orders reported:
What this means for you
We see nothing to change our view of the worsening economic trajectory we’ve talked about many times in this space. Manufacturing has been in recession all year, and finally, surveys of service companies are starting to get there, too. We believe we are actually already in a recession but it will take months before one is retroactively declared.
Leading Indicators & Consumer Confidence
Most of the data we look at are backward-looking, but it’s important to look at current and leading indicators, as well. It’s one thing to know where the economy has already been, but the value of this analysis for our clients is trying to determine where it is headed.
Consumer confidence is both a current and a leading indicator because it gives us insight into how you and I will spend our money. If we are confident about our future prospects, we will be willing to make a major purchase or go into debt, which in turn spurs economic activity. If we are fearful, though, we tend to pull back on spending and the economy slows down naturally.
The University of Michigan puts out a monthly Consumer Sentiment index. Although consumers are feeling slightly better than they did in the middle of 2022, the trend has now sharply reversed back down and came in well below what analysts protected:
Expectations of consumers going forward also took a significant hit last month, as people worried about their future prospects. This typically means less spending and borrowing in the coming months.
Another survey created by Investors’ Business Daily showed similar, major drops in optimism among both individuals and businesses, with the six-month outlook falling much worse than expected:
One anecdotal piece of data that crossed our desk this week bears out that consumers are struggling right now – the number of subprime car loans in a state of “serious” delinquency is the highest ever recorded:
The Conference Board creates an index of leading indicators that includes consumer confidence surveys, expected major purchases by businesses, and a few others, and creates a forward-looking survey of economic activity in the near future. Once again, the index came in lower month-over-month, telling us economic activity should slow further in coming months:
This is the 18th consecutive month of declining leading indicators. The last time this happened was right before the Great Financial Crisis of 2007-2010:
You can see some of this “self-fulfilling prophesy” play out in the graph below. The red line indicates consumer confidence, and the blue line indicates the economic output (adjusted for inflation). Sentiment tends to lead GDP by a matter of a few months:
What this means for you
We hate to have to be the bearer of bad news but we are committed to being data-dependent and not allowing our emotions to govern our investing decisions for our clients. In every metric we can find, the economy looks headed into a recession. We have defensively positioned our clients for the eventuality.
We’ve been alerting our clients for nearly two years now that inflation was going to cause significant problems and our central banks would have to take progressively stronger actions to combat it. No one knows exactly when a recession will be declared, but we believe most of the larger economies of the world are right at the door of one now. Recessions can take years to recover from, which is why we believe it is vitally important to get your family and business finances ready to weather through such a storm.
We predicted the beginning of a turn in the current market rally last week, and we reiterate that sentiment now. There will always be market movement that runs counter to the economic data because markets are much more short-term focused, and let’s face it: until fear takes hold, greed is the prevailing emotional state of most market participants. We do believe, however, that the recent rally has fully run its course, and the shift from stocks into safer investment options such as gold, cash, and government bonds will continue. With interest rates this high, getting a 5% or better yield, risk-free is becoming a more and more attractive option for investors concerned about the coming economic uncertainty. Once there is consensus that either the economy is earnestly deteriorating, or the Fed announces the end of rate hikes, the move from stocks to bonds will accelerate.
Whether you are our client or not, you need to consider the broader economy (and much less so the daily market fluctuations) when making investment decisions. The economy is telling us clearly what is coming, and you need to have your investment accounts prepared before that happens.
Just this past spring, I published an ebook to help you get your finances ready for the recession directly ahead. It’s yours totally free. Just click on the book image to access and download it.
Use these economic reports, and those of others working in this space, to prepare. You can not only avoid much of the pain that is coming, but you might actually profit from it, if your investments are properly positioned, and you’ve done what you can to shore up your business’ and family’s financial situation. If you need help with this, nVest Advisors has amazingly affordable personal financial planning and fiduciary investment management services to help you.
This is what we do for a living, and we’re very happy to partner with you on that endeavor.
Reach out to us for a totally free financial and portfolio checkup today if you’re concerned about where your finances sit for the coming few years, particularly if you are at or approaching retirement age. We’re delighted to offer you our thoughts. You can schedule that time with us below: