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    Gavekal Research

    Beware The “High Dividend” Lure

    Investors have been piling into US high dividend plays as they offer decent income and a “margin of safety” in an increasingly expensive equity market that, despite soft earnings, continues to make new highs. The chase for yield has been boosted by global central banks’ easing measures which have helped drive bond yields to pifflingly low levels; at the same time the S&P 1500 dividend yield has stayed steady this year at about 2%. Yet any...

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    Gavekal Research

    The Caveat In US Payrolls

    Notions of a US growth scare were apparently banished on Friday with a bullish payroll report for July helping drive US equities to a new high and causing the dollar to rally strongly. Some 255,000 jobs were added—far better than the expected 185,000—while a cycle-high average hourly earnings gain of 2.6% YoY points to strong domestic demand. So how to square this data with the far less cheery 2Q16 GDP report, released last week, which showed...

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    Video: Risks In US High Dividend Stocks

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    Gavekal Research

    The Baleful Influence of Inventories

    The reason US second quarter GDP growth was so disappointing at 1.2% QoQ annualized was a deep contraction in US business inventories, which knocked -1.16pp off the quarterly growth figure. In itself, a fall in inventories need not be such a bad thing for longer term growth. If inventories get run down because companies are unable to keep up with a surge in demand, then a fall in inventories can foreshadow increased investment to expand business...

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    Gavekal Research

    There’s No Need To Fear A Tighter Fed

    While the US Federal Reserve left interest rates unchanged yesterday as expected, it did revise its statement to sound marginally more hawkish. Most notably, it added the line, “Near-term risks to the economic outlook have diminished,” while tweaking its language to reflect recent relatively solid data releases. The market took the announcement in its stride. The S&P 500 ended the day little changed. Yields on 10-year treasuries fell...

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    Gavekal Research

    US REITs And The Rush For Yield

    One of the side effects of negative interest rates and central bank asset purchases in the eurozone and Japan has been a reach for yield which has seen foreign investors rush into relatively high-yielding US assets, compressing yields and spreads to an extent that appears at odds with the late-cycle stage of the US economy. Earlier this month the 10-year US treasury yield set a new low of 1.36%, while US Baa-rated corporate bond yields fell to...

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    Gavekal Research

    The Consumer Alone Can’t Avert A US Recession

    With a strong US job market auguring well for income growth, and healthy household balance sheets, many believe the growth of consumer demand will outweigh dismal exports and weakening capital spending, staving off recession. But close inspection of historical data shows the US can tip into recession even though consumption remains broadly stable.

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    Gavekal Research

    US Auto Sales: Shifting Down A Gear

    At first sight it was worrying last week when June’s number for US automobile sales came in at a disappointing 16.7mn annualized, well below the street’s expectations of 17.3mn. Auto sales are closely followed as a leading indicator of both US consumption growth and the overall business cycle, so at this stage in the cycle, when consumption is the only remaining driver of US economic growth, the undershoot was especially troubling. Worse,...

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    Gavekal Research

    Beyond Brexit, A More Hawkish Fed

    After the Federal Open Market Committee yesterday revised down both its growth forecast and its projection for the future trajectory of US interest rates, market expectations of rate hikes have collapsed. Fed fund futures are now pricing the probability of a July rate hike at just 6%, down from 16% immediately before the FOMC’s meeting. In reaction, the yield on 10-year treasuries has dipped further below the 1.6% mark to 1.56%, the lowest since...

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    Gavekal Research

    Boomerang Kids Won’t Come Back To Hurt US Housing

    Hand-wringing features about “boomerang kids” have become a staple of the US media in recent years. Invariably they tell of a generation that left college with record student debts, only to find themselves looking for work in a depressed post-crisis employment market with little demand for newly-minted graduates. Unable to find jobs matching their qualifications, many ended up serving coffee in Starbucks, or doing other menial work on near-...

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    Gavekal Research

    The Dissonance In Jobs

    This week has seen Gavekal senior partners reach a rare consensus of sorts, with Anatole acknowledging that May’s “pig ugly” US payrolls report upped the chances of Charles’s US recession scenario playing out (see Thinking Dark Thoughts). For me, the report offers a classic mixed signal: on the one hand the slowdown in US employment growth could stem from firms dialing back hiring in anticipation of trouble ahead, or alternatively it could be...

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    Gavekal Research

    The Next Move In US High-Yield

    At the nadir of the market sell-off in February, the Federal Reserve offered more dovish than expected guidance on its monetary policy intentions and so backstopped the crumbling US high-yield bond market. Since then, high-yield bond prices have rallied back to their early-2015 level with the last month seeing a consolidation. Yet with the chances of a Fed rate hike in June on the up and the fundamentals of the US economy looking less than...

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    Gavekal Research

    The End Of The US Credit Cycle?

    As a reflection of the US economy’s steady if unspectacular recovery, bank loan growth has averaged a solid 7.8% YoY since early 2015. The biggest recipients of this expansion have been commercial and industrial firms followed by real estate developers, with consumer lending sitting some way back. Since 3Q15, however, the Federal Reserve’s senior loan officer survey has signaled a sharp tightening in standards for both C&I and commercial...

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    Gavekal Research

    Risk On? Maybe Not

    Equity and oil prices have rallied in true risk-on fashion since the February 11 market trough, and are now back near their highs of late last year. Given this apparent rebound in risk appetite, one might have expected US government bonds to sell off in equally dramatic fashion, with yields climbing back to the 2.2-2.3% levels seen at the end of last year. Instead, there has been no rebound at all. Today, 10-year treasuries yield 1.75%, much the...

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    Gavekal Research

    US Homebuilders Hit A Speed Bump

    Homebuilding has been a reliable contributor to US growth over recent years. Now tighter lending standards for new construction projects and commercial real estate loans are threatening a slowdown. But, as KX and Will argue, as long as mortgage rates remain low and demand robust, the sector should only hit a speed bump, not a wall.

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  • Gavekal Research

    Is US Manufacturing A Leading Indicator?

    There is a commonly held belief that US manufacturing leads the rest of the economy, so it is surely a worry that factory output has been flat since late 2014. And yet the broad economy kept growing—with GDP up 2% YoY in 4Q15, consumption up 2.7% YoY, and home construction by almost 10%. One explanation for this apparent decoupling is the US’s shift to a more service-intensive “knowledge economy” which has rendered metal bashing and more...

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    Gavekal Research

    The Slowdown In Services

    Both the main leading indicators of activity in the US services sector—the ISM services PMI and the Markit services PMI—staged modest rebounds in March. But on the face of it, the pick-up in the headline numbers offers little encouragement for investors. At 54.5 for the ISM and 51.3 for Markit, both measures remain substantially below their 2015 averages of 57.2 and 55.9 respectively. Considering that services make up 70% to 80% of the US...

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    Gavekal Research

    Why US Imports Are Disappointing

    Given the strength of the dollar, it is not surprising that 2015 generally saw US exports contracting, US imports growing, and the trade balance widening. What is more perplexing is that import growth has started to look shaky in the first part of this year. What gives?

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    Gavekal Research

    US Housing: From Great To Good

    The US housing recovery properly kickedoff in 2011 as a confluence of benign factors converged to favor the sector. Yet while housing continues to provide a much-needed positive contribution to US economic growth, recent data points to reduced momentum. After a weak January, homes sales for February, released yesterday, ticked a little higher. Yet over the last year, sales have been choppy and generally flat. The NAHB index also shows...

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    Gavekal Research

    The Fed Is Falling Behind The Curve

    The Federal Reserve surprised no one yesterday when it decided to remain on hold. But the downward shift in its projection of year-end inflation from 1.6% to 1.2%—and the consequent revision of its dot plot to show two, rather than four, rate hikes in 2016—should have raised a few eyebrows. By adopting such a dovish stance, the Fed is in increasing danger of falling behind the curve on inflation, which in turn implies that the risk of sharper...

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    Gavekal Research

    The State Of US Profits

    With the US earnings season for 4Q15 done and dusted it is clear that the glory days of this cycle are long gone: aggregate sales for S&P 500 firms fell -4.0% YoY, profits tumbled -7.5% and margins for the period (not the trailing measure) compressed by -2.2pp to 6.5%. The big drivers of profits were (i) the oil price collapse, (ii) the strong US dollar and its crimping of exporters, and (iii) the tendency for rising wages to erode margins....

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    Gavekal Research

    Back To Climbing The Wall Of Worry

    Just three weeks ago markets were in full-blown panic mode. The S&P 500 was down -10% YTD, 10-year treasury yields were down to just 1.6%, and credit spreads were close to their cyclical highs. Dark clouds seemed to be rolling in on every front—from China, Brazil, Europe, banks, and the energy sector, all compounded by fears the Federal Reserve had made a grievous policy error. Since then, the skies haven’t exactly cleared, yet the S&P...

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    Gavekal Research

    High Yield Worries

    Attention may have focused yesterday on the oil price collapse and its knock-on to US equities, but there was also grim price action in the sub-investment grade debt markets—the high yield master index fell back towards its December low, while the CCC-rated index breached that threshold. This pain can be attributed to worsening conditions in the energy sector, where the chance of large scale defaults increases with each lurch lower in the crude...

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    Gavekal Research

    The Shudder In US Credit

    As oil prices tumble and the first US interest rate hike for eight years comes into view, bond investors in the high-yield segment are taking flight. The market was given a foretaste of what a disorderly unwinding of an over-bought US corporate bond market may look like late last week, when two high-yield bond funds suspended redemptions. The worry is that these tremors become an earthquake, making it more costly for all companies to refinance...

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    Gavekal Research

    What To Make Of Wider Credit Spreads

    US credit spreads are ticking up again, driving the Merrill Lynch US high yield index below its early October low yesterday and bringing total returns for the year to date to -3.4%. This renewed widening of spreads raises some important questions for asset allocators and economy watchers. Has the bond market got itself into an unwarranted flap, providing investors with a good opportunity to lock in some elevated yields? Or has the corporate debt...

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    Gavekal Research

    Brace For Lower US Margins

    As the end of the 3Q15 US earnings season comes into view, what stands out is how little things have changed from the last quarter. Alas, corporate America’s financial performance is stabilizing at the weakest level seen since the 2008 crisis—with more than 90% of S&P 500 firms having reported, both revenue and profits came in about -4.5% lower compared with a year ago. This grim performance is partly explained by the ongoing bloodbath in...

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    Gavekal Research

    The US Inventory Problem

    The US business inventory-to-sales ratio (in real terms) is one of our key recession indicators. We have been uneasy ever since it broke to a new cyclical high in May. Since then it has continued to inch higher, and in September, the latest data-point available for the total business sector, it reached a level typically seen only in recessions. Even more worrying, the rise in the inventory-to-sales ratio cannot be blamed on the travails of the...

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    Gavekal Research

    Positioning For A Hawkish Fed

    What have we learned from the world’s largest economy in recent days? It would seem that a fairly hawkish Federal Reserve is ready to raise interest rates in December, while for all its dysfunction Washington has done a deal to keep the US government running for the next two years without threats of a debt default. Considering that two months ago the concern was that the global economy was about to tip into a China-induced death spiral, this...

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    Gavekal Research

    The Ominous Signal In Inventories

    One of the characteristics of a recession is an overhang in inventories, which must then be sold off or written down before growth can recover. The overhang results from overproduction during the final stages of the preceding boom, an unexpected collapse in demand, or both.

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    Gavekal Research

    Position For A Pick-Up In US Inflation

    Everyone agrees that US inflation, if not actually dead, is unlikely to gain a new lease on life any time soon. With oil prices down -48% over the last 12 months and the US dollar up 11%, inflation as measured by personal consumption expenditure is just 0.3%, while core inflation (ex-food and energy) is down to 1.3% year-on-year. What’s more, investors expect no acceleration in price rises over the medium term. The implied breakeven inflation...

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    Gavekal Research

    Does Slower Job Growth Signal A Coming US Recession?

    There’s no getting away from it: last week’s US employment report was unequivocally weak. According to the latest estimates, the US added only around 140,000 jobs in each of August and September—a marked slowdown from the average growth rate of 260,000 in 2014. So what is going on? There are three possibilities:

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    Gavekal Research

    The Wrong End Of The Fed’s Stick

    Friday’s market action spoke volumes about the jitteriness of investors. After the Federal Reserve decided on Thursday not to raise US interest rates, at least for the time being, the S&P 500 sold off -1.6% in the following day’s trade. The reaction in Europe was even more extreme, with the Euro Stoxx 50 falling -3%. Rather than taking the Fed’s dovishness as a positive sign, it seemed that equity investors instead asked what bad news...

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    Gavekal Research

    Has The Fed Missed The Boat?

    It is decision week at the Federal Reserve. At its meeting this Wednesday and Thursday, the Federal Open Market Committee must decide whether the US labor market has now tightened enough to warrant the first interest rate increase since mid-2006, even though inflation is subdued and financial market sentiment remains fragile following the summer’s bout of heightened volatility. It is an unenviable decision—all the more so since the recent...

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    Gavekal Research

    The US Current Account Deficit And World Markets

    Spotting turning points in the US current account is central to Gavekal’s research method, as such shifts impact all other economic relationships. When the US dollar is strong the US tends to run a big current account deficit, providing the world with lots of “earned dollars.” Conversely, a weak dollar eventually leads to a shrunken US current account deficit and more incentive to borrow in dollars. Big moves in the dollar exchange rate create...

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    Gavekal Research

    The Bright Spot In The US Market

    Even though US home prices have risen by more than a third in the last three years, the residential construction sector has been a persistent disappointment, showing little meaningful recovery. That is finally changing. On Monday the National Association of Homebuilders’ Housing Market Index hit its highest level since 2006, while July data released yesterday showed housing starts closing in on an eight-year high at an annualized 1.2mn rate....

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    Gavekal Research

    More Cautious Than Ever On US Stocks

    Exactly six months ago, we declared we were Turning Cautious On US Equities. At the time we noted that while US domestic demand was healthy, US stocks no longer looked cheap, the US dollar was no longer competitively valued, and the Federal Reserve was moving unambiguously towards tightening monetary policy. Half a year later, the S&P 500 has risen 4.3% and the Nasdaq Composite 9.2%. On the face of it those look like respectable returns; not...

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    Gavekal Research

    Three Risk Factors For US Growth

    In the run-up to the meeting this week of the rate-setting Federal Open Market Committee and the release on Thursday of second quarter gross domestic product data, confidence in the strength of US economic activity is deteriorating. It is not just that most market participants now expect 2Q growth to be modest relative to last year, with the consensus looking for an annualized QoQ figure of 2.7% compared with 4.6% for 2Q14 (see Not Déjà Vu Again...

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    Gavekal Research

    5C United States: Who Gains From The Widening US Trade Deficit?

    After four years of US dollar real effective exchange rate appreciation, the US trade deficit is finally showing signs of widening. Both exports and imports have slumped heavily in value terms, largely because of a combination of weak oil prices and US dollar strength. Trade volumes paint a clearer picture, with exports down -0.5% year-on-year in May, while imports rose by 3.5%. As a result, the US trade deficit has expanded from 2.5% of GDP in...

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    Gavekal Research

    What Price US Growth Stocks?

    Ever since US equities bottomed in March 2009, glamour stocks such as Google, Amazon and Netflix have been at the forefront of the rebound, leading the Nasdaq composite to an all time high this week. While we continue to prefer other markets over the US (see Turning Cautious On US Equities), recent moves in mega-cap US growth stocks have set us wondering how long the outperformance of growth stocks over value stocks can last. After all, even...

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    Gavekal Research

    5C United States: The Divergence In Inflation Rates

    Following last year’s collapse in oil prices, US inflation declined from 2.1% in May 2014 to zero in May this year. Close followers of the US economy will know, however, that this zero rate masks a sharp bifurcation in prices. The slowdown in headline inflation has been propelled entirely by goods prices, which slumped -9.6% YoY in May thanks to modest international price pressures and the strong US dollar. In contrast, services prices, which...

    0
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    Gavekal Research

    US Payrolls Are Running Out Of Juice

    Later today we will publish our Growth & Markets Monthly, updating Gavekal’s dashboard of essential economic and risk indicators. The markets side of the equation is relatively straightforward this month: although investors have not switched into full risk-off mode, with the outlook for Greece’s eurozone membership as uncertain as ever ahead of this weekend’s referendum, there has been a clear diminution in their appetite for risk. What of...

    0
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    Gavekal Research

    5C United States: Will Weak Manufacturing Derail Growth?

    Marching into the second half of 2015, the US economy is gradually recovering after another weak start to the year. The majority of forecasters are now expecting a rebound in the US second quarter gross domestic product growth. This makes sense as domestic demand remains strong, supported by lower oil prices, a strong job market and deleveraged household balance sheets. However, while we have seen a robust rebound in most economic data series,...

    0
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    Gavekal Research

    Don’t Fret (Yet) About US Housing

    In the summer of 2013, a sharp rise in US bond yields driven by the taper tantrum derailed the US housing market. Will the upward spike in 10-year treasury yields from 1.7% in February to 2.4% today do the same? So far, the market is showing no signs of fear. Despite a 40bp increase in mortgage rates, monthly housing sales and prices remain highly encouraging, as do the weekly numbers for mortgage applications. Meanwhile, US homebuilder stocks...

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    Gavekal Research

    The Fed And Dollar Depreciation

    So no surprises. A slightly more dovish Federal Open Market Committee stuck to the script of future monetary policy moves being data dependent. Since the US central bank yesterday scaled back its 2015 GDP growth forecast to 1.8%-2%, the implication is that rate increases, even if they start in September, will be a gradual affair. Investors liked what they heard as this suggests that Goldilocks lives, and a “not-too-hot, not-too-cold” scenario...

    0
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    Gavekal Research

    Switch In Favor Of US Multinationals

    In recent weeks the US dollar has grown increasingly sensitive to changes in expectations for US interest rate hikes, with the currency’s DXY index fluctuating daily in response to every shift in sentiment about the precise timing of the US Federal Reserve’s first upward move. But while the exact date of the lift-off is crucial to the short term trajectory of the foreign exchange market, over the longer run the US dollar’s upside looks limited.

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    Gavekal Research

    5C United States: Treasury Yield Normalization

    The trigger for the recent jump in 10-year treasury yields from 1.9% to 2.4% was leveraged investors unwinding long positions on European government bonds. This is not surprising as a “deflating” eurozone was a key reason for last year’s decline in global bond yields. Today, the outlook has improved as the single currency area looks to be enjoying a modest recovery. Absent a Greek-inspired contagion, Europe is likely to be less of a factor...

    0
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    Gavekal Research

    To Cheer Or Fear US Wage Growth?

    Is the US equity market merely taking a breather before the next upward leg of the bull run? Or has it reached a worrying plateau, marking US stocks out for a protracted period of underperformance? With domestic profit margins facing a squeeze between the strong US dollar on one hand, and stirrings of wage growth on the other, we are worried it is the latter. As we argued on Tuesday, the US dollar’s strength means that any rewards US firms...

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    Gavekal Research

    Will The Buyback Craze Ever End?

    Scientists tell us one of the things that sets us humans apart from other mammals is our relatively large prefrontal cortex, the part of our brain that allows us to resist the lure of instant gratification and instead sacrifice ephemeral pleasures for solid long term gains.

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    Gavekal Research

    Not Déjà Vu Again For The US

    With the mid-point of 2015 approaching it looks to be a case of “déjà vu again” for a US economy suffering early year blues. As with other “soft patch” periods, there are plausible explanations for this stodginess that don’t just involve beating up on statisticians for their seasonal adjustment techniques. The US indeed had a cold winter and the West Coast port strike disrupted trade flows. But the real question for investors is whether the US...

    1
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    Gavekal Research

    5C United States: The Rising Supply Of 'Earned' US Dollars

    The US dollar is the world’s reserve currency, which means the US can settle its current account deficit by issuing more US dollars. As Charles says, this means any contraction in the US current account deficit means fewer US dollars flowing abroad (see The US Current Account And Vanishing Global Liquidity). Naturally the reverse is also true. Following the strengthening of the trade-weighted US dollar index over the past four years, the...

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