Retail sales and JOLTS

**originally published on 2.15.16 on

A three day weekend is just what the market needed after one of the most volatile weeks that I can remember. It’d be nice to think that stocks rallied on Friday in observance of Presidents Day on Monday, but I’m afraid there are only economic forces at work here. Friday saw the S&P 500 close at its highs for the day with a near 2% gain on decent volume. Considering all of the carnage that occurred Thursday on high volume, it’s safe to say the sellers were exhausted. At least they are for the time being it seems. Up until Friday, the “U.S. is in recession” narrative was building steam in financial media. Even with weekly unemployment claims resuming their downward trend to historically low levels and the Atlanta Fed GDPNow forecast for Q1 GDP going to 2.5% from 2.2% on Tuesday, the recession narrative kept on trucking. Then came Friday morning and much to the chagrin of the recessionistas, the January advance retail sales data came in much better than expected. Core sales came in up .6% for the month versus .3% expectations. To put that in perspective, for all of 2015, core sales averaged just .2% monthly gains. This is not the kind of data that recessions are made of. At the end of the day, its consumption that drives the U.S. economy and people are consuming. One of my favorite line items in the retail report is Nonstore retailers, or online shopping as we all know it. Nonstore retail was up 1.6% for the month and 8.7% year over year. As you can see below, it’s tough to get a better looking chart.

nonstore 2.13.16

But people will no doubt continue on with the recession talk. As they say, that’s what makes markets.

On Tuesday, we got one of Yellen’s favorite labor indicators, the Job Openings and Labor Turnover Survey (JOLTS). As I discussed in last week’s Real Money article, I was expecting to see a pick up in the quits rate to go along with the rise in average hourly earnings we got in the December and January nonfarm payroll reports (remember JOLTS is a month behind). Sure enough, the JOLTS report showed a sharp increase in quits for December along with a near record amount of job openings. When we look at the relationship between job openings and quit rates, it’s hard to be anything but optimistic about future earnings gains as employers will compete to keep employees. This is what happens in a tight labor market.

jolts 2.13.16

Then looking at the historical relationship between job openings and continuing claims data, we could very well see a further drop in the claims level. This is what makes keeping an eye on weekly claims data so important. Claims data is based on actual people entering and leaving the workforce, not like the sampling done with surveys. Claims data is a real time gauge of the labor market.

claims 2.14.16

Right now we have some very smart people in financial media pointing to the flat shape of the treasury yield curve and saying that the curve predicting a recession. My problem with this theory is that it assigns an omniscient ability to an indicator that is ultimately driven by people. Unless the people trading these markets do indeed have deity like abilities, I’m afraid it’s no more predictive than a magic eight ball. While in the years prior to QE, the yield curve did provide good insight into current inflation and rate expectations, it has since been stripped of that insight. The advent of massive worldwide central bank interventions, especially ZIRP and NIRP, has made the curve hollow shell of its former self. Taking this a step further, I don’t believe that any financial or commodity market is “smarter” than any other market. Asset prices take their cue from supply and demand which is ultimately driven by future economic expectations. This is why I believe a correct assessment of the macro economic situation is the key to being on the right side of a trade. That said, looking at the charts I have provided, the only market investors should trust for predictive powers, is the job market. Yes, I believe employment is a leading and not a lagging indicator.

Coming up this week we have some A-list economic data points including housing starts, industrial production, Philadelphia Fed Manufacturing, PPI and CPI. Given the uptick in both ISM and Markit manufacturing data, we could see a bounce back in industrial production and the Philly Fed. Again, I don’t expect much from the manufacturing side of things other than perhaps some slight reversion to a lowered mean. The good news is, so far the week seems to be off to a good start with Asia trading up. The bad news is, its only Tuesday.


what a week

some free form stuff here…What a week…. just looking at U.S. news, things are good. The consumer is healthy and earnings season ex-energy has been solid. What we had this week was a major divergence of stocks from the economy. It happens when you have so many external forces acting on our market. Negative rates and massive swings in oil are wreaking havoc with things. We almost lost DB, but they now seem to be fine. People finally realized that negative rates are no joke. We’re literally destroying money. That’s the last thing Europe needs. When markets get to such extreme levels of volatility, focusing on the basics is most important. Lots of people are incorrectly looking at the yield curve as signaling recession in the U.S. Looking at any market and believing it is inherently “smart” and capable of telling you something before it happens is wrong. Between the Fed, NIRP in Europe and the collapse in oil, the curve is rendered useless in my opinion. Truth is, all markets are driven by people and are just a function of us. Unless someone is cheating, they don’t know what’s going to happen. Just look at the treasury market. Thursday, people bought the hell out of the long end, just to puke it all up today. At 8:25 this morning, people were all talking recession because the yield curve was flattening so much. That all changed with the retail sales print and the rip higher in oil. We have enough data coming out next week that the curve could steepen dramatically, thus handing massive losses to all the “smart” buyers this week. My point is, anything is possible. Do your own homework and use common sense.  From what I can see, the only market that actually does know something is the job market.

Buy when there is blood in the streets

“Buy when there’s blood in the streets, even if the blood is your own.” is the original quote from Baron Rothschild, and 18th century British nobleman, as he referred to taking advantage of panic stricken times. And nothing could be more fitting for the carnage which took place in equities this past week. The S&P 500 finished down almost 2% on Friday alone, giving up a tad over 3% for the week and is now resting on its short term support level of 1880. At the end of the proverbial day, lower stock prices are lower stock prices, but the reason why they are lower is what makes all the difference. Unfortunately, there are many potential candidates for what caused the sell-off last week ranging from a strong dollar to hedge fund liquidations to sovereign wealth funds selling assets. The truth is probably some combination of all of those items along with something else that we may not even be aware of yet. However the good news in all of this is that the element which ultimately determines the fate of U.S. equity prices, the economy, is indeed doing well. That’s what makes this sell-off the kind you want to take advantage of.

We got a great read on the economy with Friday’s nonfarm payroll report. The foundation of a consumption based economy like the U.S. is employment. Without a healthy labor market, everything else falls apart. Up until Friday, we knew that overall employment was strong, but that wage growth was not picking up the way we expected. So finally, in the payroll data we got Friday morning, there was confirmation that wages are indeed picking up. Average hourly earnings (AHE) for January came in at 2.5% year over year with December being revised up to 2.7%. To put that in perspective, the average year over year gain for 2015 was just 2.3%.

NFP Pic 2.6.16

That said, based on historical relationships with wages and employment, we should see an acceleration in wage growth going forward. Basically, the economy reached full employment several months ago and we are now seeing wages rise as employers are forced to pay more to keep workers.  This change in labor force dynamics brings one of Fed chairperson Yellen’s favorite labor reports, the Job Opening and Labor Turnover Survey (JOLTS), front and center. One of the components in JOLTS, the quits rate, represents “voluntary separations initiated by the employee.” As you can see in the graph below, the historical relationship between quits and AHE depicts that we should see a significant gap up in wage growth.

Jolts 2.6.16

This really is intuitive as a higher quits rate shows leverage shifting to workers. We’ll be getting December JOLTS data on Tuesday, so even though we’ll be looking backwards, it’s the historical relationship that counts. Given the rise in AHE, we should see a higher quits rate.

Already, we are seeing the significance of AHE gains as the Atlanta Federal Reserve Bank has raised their consumption projections in the GDP Now forecast. Because of the jump in AHE, the Atlanta Fed upped its forecasts for Q1 2016 GDP and consumer spending from -.4% and 2.5% all the way to 2.1% and 3% respectively. So you can see how highly regarded gains in AHE are for consumption figures and by default, Fed policy going forward.

We did a get a bit of disappointing news this past week with the January  ISM Non-Manufacturing (NMI) report coming in lower from last month down to 53.5. The current reading of 53.5 is still well in expansionary territory as defined by ISM, because anything above 48.9 in the NMI indicates an overall economic expansion. The commentary in the survey definitely showed that the equity sell off in January impacted responses. That being said, we should see a bounce back in February as markets stabilize. However, if the NMI continues to drift lower then there will be more cause for concern. Given the labor market backdrop, I expect that things will be fine.

Here we go into a new week with earnings coming from consumer favorites KO and DIS just to name a few. On the economic data front, we get a personal favorite of mine, the NFIB Small Business optimism Index, along with JOLTS, weekly claims and retail sales to finish up on Friday. There were some rumblings over the weekend of Venezuela and OPEC reaching some kind of an agreement that will hopefully stabilize oil. If that happens, the bleeding should stop and we might actually get a look at what equities can trade like based on good economic news and solid corporate earnings. So let’s stay focused on the data and do some more homework with that extra free time we now have since football season is over.

Looking into the abyss

“There comes a time in every man’s life when man looks in the abyss, there’s nothing staring back at him. At that moment, man finds his character” is a great line from the 1987 movie Wall Street which captures what investors dealt with this past week. Except in this case, on Wednesday, when stocks were being obliterated and the S&P 500 flirted with its critical 1800 support level, investors looked into the abyss and found not just character but also buyers. Stocks then mounted an impressive intraday rally and managed to close well off the lows. Thursday and Friday saw nice rallies which capped off an extraordinarily wild week. The S&P 500 finished the week over the psychologically important 1900 level on the back of oil staging a ripping 9% rally on Friday alone. So this now begs the question, did we find the bottom? I think so. We finally had a moment of true fear that was met with significant buying interest which is typical of a market bottom. Now, people are trying to compare this recent decline to 2008, but the financial backdrop is completely different. I wouldn’t expect to have the same type of vicious sell-off given we are nowhere near that type of crisis level. That said, let’s take a look at what went on this week, and what it means for investors.

Oil once again stole the show this week as WTI traded in a 17% range on high volume. As we saw on Wednesday, oil was leading stocks on the way down and then brought them back up. Is this correct behavior? No, but it is the reality of the situation right now. Until oil stabilizes, stocks will be held hostage to its movements. Fortunately, we can mitigate our psychological torture from this captivity by analyzing some of the potential negative outcomes of an oil crash. While it’s impossible to know all the resulting consequences from the oil crash, we can nail down a couple large ones. General consensus is that the most danger for the U.S. economy lies in two places:

  1. Bank loans made to the energy sector.
  2. Corporate debt issuance from the energy sector.

In terms of loans, the big banks have actually done a great job at managing this exposure by not having even a remotely significant percentage of assets in the energy sector. As this / GS research highlights, the big banks have an average of just 2.4% of total loans outstanding to the energy sector. This is a very low level and should allay any thoughts of risk for this area. As for corporate debt, there is trouble as the bonds of the weakest issuers have been trading at distressed levels. The fact is that there will be some bankruptcies. How many will there be is still unknown. What we do know is that there are people actively researching these opportunities and waiting to take advantage. This is a natural series of events in an industry that has been disrupted by technology (fracking). The oil industry has been literally turned upside-down from a major consumer like the U.S. turning into a major producer. The bottom line is that weak companies being restructured is the only way to move forward on solid ground. I think the best way to treat the oil situation is from a common sense perspective that low energy helps far many more people than it hurts. The roughly $210 billion (based on EIA and AAA Fuel Gauge data) that consumers have saved since 2014 is a massive tailwind for consumption and business. To put that $210 billion in perspective, the entire 2008 financial crisis stimulus package from the government, which was paid for by our tax dollars, was $170 billion. The tax-free money saved by the drop in energy prices along with increased regular wages from a full employment labor force is also showing up in retail sales data.

RFS 1.23.16

The above chart shows a healthy level of consumption.

Along with the rollercoaster ride in oil and equities on Wednesday, we also got the December CPI reading on inflation. The “core” reading which strips out food and energy moved up .1% for the month and is now up 2.1% for the year. Like most economic data series, the devil really is in the details. Looking into the CPI data, we can see the divergence between the services and goods producing sectors of the economy. The table below shows where inflation and deflation lie in the two sectors. In terms of total advances versus declines, 93% of services items have increased year over year while just 50% of goods items are up. This shows the pervasiveness of the commodity decline in goods prices and the true strength in services.  What we also see in the data is that there is an indisputable increase in the cost of living. Something that I’m sure the Fed is taking note of.

CPI 1.24.16

This week, we also got two significant reports on the housing market: existing home sales (EHS) and housing starts. EHS, which represent 90% of total home sales, jumped 14.7% from November and is now up a healthy 7.7% for the year. Part of December’s jump is due to the implementation of new sales closings procedures which delayed some sales from November into December.  Even with the new rules, sales activity is still at a historically strong level as can be seen in the chart below. However, a critical distinction needs to be made when looking at EHS data pre- and post-crisis. That distinction is that pre-crisis lending standards were incredibly loose and allowed many sales to happen that would not have happened with today’s standards. This is why the strict nature of today’s lending standards has created a much higher quality and sustainable housing market. Today, we have both quantity and quality of transactions.

EHS 1.23.16

The housing starts data also came in slightly down from November but still well up for the year. The building permits component was up 14.4% for the year while starts were up 6.4%. We really need to see the starts data pickup if there is ever going to be any price relief for first-time buyers. As millennials start forming households, the housing market is getting tighter by the month. EHS data frequently cites the lack of inventory as driving prices higher and reducing transactions. All in all, the housing market is in good shape, and I expect it to continue to be a significant contributor to a sustained economic expansion.

A point of caution which did come up this week was in the weekly unemployment claims data. While still at historically low levels, the data has been coming in on the weak side for the last 3 weeks. Some of this is definitely seasonal as the Department of Labor points out, but it is never the less a concern and needs to be addressed. The bottom line is that employment is the key to everything. There will be no consumption without income. Right now, the labor market is still strong, but if weekly claims continue to drift higher, that will be a concern.

claims 1.24.16

Now we head into a week that has major earnings reports coming from Apple, Amazon, MasterCard and Visa to name just a few. So we’ll finally get a handle on exactly what the consumer has been up to this holiday season. I’ll be especially interested to see the growth in processed transactions from the credit card companies which I suspect will be up significantly. We also have a full slate of economic news coming that includes durable goods orders, new home sales and fourth quarter GDP. We could get a decent print out of durables given the surprise uptick we got in the Markit manufacturing report on Friday. Manufacturing has been all but dead as of late and any uptick will be an added bonus. As I have stated before, the U.S. economy is driven by services and consumption, but any help from the manufacturing sector is more than welcome. So the moral of the story here is that we’re headed for more volatility and will probably have more moments of looking into the abyss. But remember, every time that happens, stay focused on the data and use the opportunity not only just to build character, but also to build a strong portfolio.

Darkest before the dawn

The expression “it’s always darkest before the dawn” captures perfectly what happened in markets this past week. As we headed into Friday morning, markets were again reeling from a further drop in oil and more angst over Chinese capital markets. Then at 8:30 am, we got the best piece of news we could have gotten, and that was a very strong December nonfarm payroll report (NFP). The headline print of 292,000 was a surprise to even the most bullish of forecasters. In fact, the average gain since the economy stopped losing jobs in September 2010 is 205,500, so you can see how strong the December number really is. On the wages component of the report, some people will argue that it was on the weak side, but I don’t believe that’s the case. The issue with wage growth data is that it is subject to demographic factors which are skewing it to the lower side. The fact is, higher paid older workers are leaving the work force while young lower paid workers enter it. This is a structural issue and not a cyclical one, so regardless of Fed policy, wages will look low even though the labor market is tight. This “baby boomer effect” is also what is driving the drop in labor force participation rate as demonstrated in this WSJ article. All this said, we should be celebrating the December NFP report because it’s showing continued growth in the most important sector, private service providing jobs (PSP).


That brings me to the crux of this writing, which is the importance of the services based economy. Based on the December payroll data, we see that PSP jobs account for 71% of total nonfarm payroll employment and were also 79% of the month’s gain. Unfortunately, the broad services sector is often described in financial media as being low skilled, low paying jobs when it actually includes some of the highest skilled and highest paying ones. The PSP jobs spectrum includes computer hardware engineers, programmers, electrical and mechanical engineers, medical professionals, scientists, accountants, lawyers, architects, advertising agents, commercial drivers, CEO’s and even your local custodial arts person! So let’s take a look at where the earnings power is really coming from in the overall labor force. In the below table I have compiled the actual earnings generated by different sectors of the labor force:


Three major points to take away from the table above:

  1. Four of the top five earning sectors are in PSP
  2. Oil, gas and mining employment make up less than 1% of earnings!!
  3. While food services jobs have grown, they are still a small part of total earnings.

Quite often I hear the argument that “good” high paying manufacturing jobs are being replaced by “bad” low paying services jobs like bartenders and waiters. This type of analysis is not only lacking in substance, but is also derogatory to a whole segment of society that works very hard. If anything, the growth in bartenders and waiters should be welcomed as sign of people having the discretionary income to create demand for additional wait staff. Not to mention it shows that people are going out and enjoying themselves, which is not recession type behavior. With that said, let’s compare the growth trends between Professional and technical services (PTS) and manufacturing. Notice from the table above that PTS are already out earning manufacturing jobs while its labor force size is growing.

PTS Trend 1.9.16

Now that we have established the significance of services employment, the question becomes, how is the services economy doing? The answer….Just fine.

On Wednesday, we got the release of the Non-Manufacturing ISM report, or NMI. The NMI is the best gauge of the services economy out there. It is sponsored by the Institute for Supply Management (ISM) which was founded in 1915 and works in over 90 countries. The NMI index itself, goes back to 1997 and includes all the sectors that make up the private service-providing supersector in the NFP report. The December NMI came in well in expansionary territory at 55.3 (>50=Expansion) and also above its lifetime history average of 54.2. ISM compiles 10 indices for the NMI report, but only four are used in equal weights for the NMI.

ISM sub 1.9.16

The first three, business activity, new orders, and employment are all straightforward. Supplier Deliveries, however, needs a second look. The logic behind the inclusion of SD times is that if suppliers are busy, delivery times get longer. That being said, we know that there have been great advances made in logistics in the last few years and that companies are focused on speeding up all aspects of a business. For that reason, I’m a bit suspect of the relevance of the SD index. It also happens to be that in December, the SD component was the only drag on the NMI. Without SD, the NMI would have been 57.5! That said, business activity, new orders and employment are very clear cut business indicators and deserve a greater weighting in my opinion, but I’ll let the reader decide that for themselves. Also in the NMI report, we had a nice uptick in the employment index which meshed well with the increase in PSP jobs from this month’s NFP report. I think NMI data will become much more of a focus going forward as as a tool to help predict NFP data given the significance of PSP jobs in the total labor force. Also of note in the NMI data was a jump in new export orders from 49.5 to 53.5 thus bringing the index back into expansionary territory. All in all, the December report is a solid reading and shows a healthy services economy.

Also covering the services sector is Markit Economics. Markit puts out a flash (initial) and final services reading each month. The Markit PMI services data only goes back to 2009, so it’s a bit limited for analysis in comparison to the ISM NMI. This month’s PMI came in at 54.3 versus 56.1 in November and also below its lifetime average of 55.8. A bright spot in the report was that employment grew for the month as well. The moral of the story here is that both the NMI and PMI reports show a healthy services economy. We’ll have to wait till next month to see if they decline again, in which case we may have cause for concern. Just remember…Anything over 50 is good!


I would be remiss not to mention the manufacturing side of things having now spoken so much about non-manufacturing. Unfortunately, there is nothing great to report here. The manufacturing ISM report is in contraction at 48.2 while the Markit manufacturing PMI is almost in contraction at just 51.2. It’s no mystery that the shift towards the more sustainable and consistent services based economy has taken its toll on the manufacturing industry. Adding in the strong dollar which makes our exports less competitive, only adds to the misery. However, it’s interesting to note that new export orders moved up into expansionary territory in both ISM reports. This is a testament to the fact that the U.S. is the best game in town for certain goods like aircraft, industrial supplies/services and various types of engines. To be realistic, I’m just not expecting much out of manufacturing and any uptick will be an added bonus. This is not to say that manufacturing just doesn’t matter anymore, but it will play less and less of a role in our economy as we go forward.

Prospect Theory…

In behavioral finance, prospect theory (PT) deals with how emotions interact with decision making. PT looks at how people tend overestimate low probability events and underestimate the high probability ones. It is this behavior which is helping to fuel the wild swings in markets today, but at the same time is also creating great opportunity.  Its times like now when investors with a steady hand and common sense can take advantage of the volatility. The key is to look at the major drivers of market volatility and assess the relevance of their impact. First, we have the China situation. Believe it or not, the PBoC does actually have a plan with the Renminbi devaluation. The end game of that plan will be a freely floating currency. China is not looking to have a currency war to stimulate their exports, as they have clearly stated the intent to transition to a services based economy. The problem here is that the road to a freely floating currency and a services based economy will be a very bumpy one. The good news is that China has the political, and more importantly, the financial power to overcome any issues that may come their way.

Second up, is oil. I am a firm believer that low oil is a great benefit for developed markets like the U.S. and Europe. Consumption is the key to driving our economy. The more money folks have in their pockets from not spending it on gas and heating bills, the more consumption there will be. Now the downside of low oil is that there will certainly be some bankruptcies in the U.S. energy credit space, but it will be limited. Already, we’ve had professional credit guys talking about the opportunities arising from the problems in energy related debt. As for the collapse in oil causing contagion across the high yield credit market, investors there have also come in to sift through the rubble for unfairly beat up credits. So we see that as the overreactions occur, investors are coming in to take advantage. The key is to stay focused on the actual data and to not get caught up in the financial media frenzy of constant impending doom. This way, when the dawn breaks, you’ll be in the best position to capitalize on it.