2018 Economic Outlook

Transcription

1 2018 Economic Outlook The Sky Is the Limit And the U.S. Economy Is Close Dudley Carter Economist, Vining Sparks Craig Dismuke Chief Economist, Vining Sparks

2 Range-Bound Year for 10Yr Treasury Driving longer interest rates have been 1) U.S. fiscal policy developments, 2) central bank actions, 3) geopolitical concerns, and 4) decent economic data French GOP lacks support for healthcare bill, election uncertainty about fiscal reform agenda fears Weak CPI, retail sales start Trump sworn in Fedspeak shifts markets to March Fed hikes Dots unchanged month of weaker economic data French Election Comey memos J F M A M J J A S O N D J F M Sources: Bloomberg, Citi Eco Surprise Index, Vining Sparks % - Pre-Election Yield Fed hikes, hawkish slant, dots unchanged, roll-off cap sizes Senate healthcare failures begin Fed debate on inflation begins Fed announces October start date for roll-off Presidential advisory councils disbanded Fed Balance Sheet Roll-Off ECB Extends QE at 30B/Month Tax Bill Passed BOE Hikes Tax framework ECB, BoE, BoC Irma and Harvey less surprisingly severe than feared hawkish North Korea tests hydrogen bomb Fed hikes Dots unchanged U.S. and Eurozone Eco Data Beating Expectations Progress on Tax Reform 2.40% 2 Economic Surprise Index

3 Big Year for Equity Investors Globally The equity bulls enjoyed a big year of returns as hopes of fiscal change in Washington primarily deregulation and reform of the tax code helped send stocks on a record-setting run in % 25% 20% Nasdaq Dow S&P 500 MSCI All-World Index, Ex-U.S % 25.1% 24.0% 19.4% 15% 10% Record-High Closes 5% % Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Sources: Bloomberg, Vining Sparks 62

4 S&P Daily Volatility The daily percentage change of the S&P measured just 0.30%. That represented the second smallest annual average daily change since the index s inception in the late 1920s. 3.0% 2.5% Average Daily Change (Absolute Value) by Year 4 2.0% 1.5% 1.0% 0.5% 0.0% 2017 Volatility Sources: Bloomberg, Vining Sparks

5 Change in GDP from Pre-Crisis Peak (By Cycle) Economy Expands Another 2.5% The U.S. economy continued its sluggish growth, tacking on another 2.5% of growth in While this expansion has had durability, it has lacked velocity. 40% 30% 20% 10% 0% Change in Real GDP from Previous Cycle Peak By Economic Cycle Cycle Cycle Cycle 2007 Current Cycle Previous Cycle Peak 34Q / +35% 26Q / +18% 40Q / +14% 44Q / +42% 5-10% Quarters Since Previous Cycle s Peak Sources: BEA, Vining Sparks

6 Consumer - Driving Growth The growth cycle has evolved from being investment-drive to consumer-driven, and appears poised to benefit from all four main growth engines in Sources: BEA, Vining Sparks

7 Consumer Labor Strength Continues The unemployment rate continued its annual descent, dropping another 6/10ths to 4.1%. Nonfarm payroll growth averaged 181k in 2017, another solid year of growth. 10% 9% Unemployment Rate % 7% 6% 5% 4% Sources: BLS, Vining Sparks 4.1%

8 Consumer - Confidence Booming Consumer confidence jumped to its highest levels since 2000 with stock prices setting record high after record high, gas prices remaining tame, and unemployment continuing to fall Consumer Confidence Sources: U of M, Conference Board, Vining Sparks Conference Board University of Michigan

9 Business - Confidence Booming The last time business confidence was as high as it is today was 1983, when the economy was growing at over 9% Small Business Confidence GDP (QoQ, SAAR) Sources: NFIB, BEA, Vining Sparks

10 Housing Confidence Booming Homebuilder confidence appeared to be plateauing, before soaring in the final months of 2017 to the highest level since In fact, every major housing metric improved into year-end Homebuilder Confidence Index +5 pts YoY % +4% +6% +4% +27% Housing Starts Building Permits Total Home Sales Existing Home Sales New Home Sales Sources: NAHB, NAR, Census Bureau, Vining Sparks

11 Trade - Benefiting from Weaker Dollar As the Dollar has weakened, it has helped U.S. producers export more goods and services abroad. Trade to the country s biggest trade partners turned from negative to positive in % 25% 20% 15% 10% 5% 0% -5% -10% -15% -20% Sources: Census Bureau, Federal Reserve, Vining Sparks U.S. Exports to Eurozone (YoY, 3M Avg) U.S. Exports to Canada (YoY, 3M Avg) U.S. Exports to China (YoY, 3M Avg) Trade-Weighted Dollar (YoY) Dollar Declining -15% -10% -5% 0% 5% 10% 15% 20% 11

12 Trade Global Synchronization Growth is accelerating globally, largely a result of higher expectations in the U.S. and the knockon effects for emerging economies. All 46 OECD countries are projecting growth in World Growth Advanced Economies Emerging/Developing Economies Est. Projected Growth Accelerating Growth Slowing Contracting Est. Projected United States Eurozone Japan United Kingdom Brazil China India Russia Sources: IMF World Economic Outlook January 2018, OECD Growth Projections, Vining Sparks

13 Inflation Stubbornly Low Despite a tightening labor market and improving growth last year, inflation unexpectedly pulled back after nearing the Fed s 2% target FOMC Target Core CPI Inflation (YoY) % 1.5% 1.0 Core PCE Inflation (YoY) Sources: BLS, BEA, Vining Sparks

14 Almost All Economic Engines Firing A strong consumer and more favorable business climate created a positive outlook for growth. Global growth also synchronized providing three engines of economic growth. 14 Low Unemployment Decent Wage Growth Low Household Debt Low Gas Prices Record-High Stocks Low Interest Rates Booming Confidence Booming Confidence Deregulation Expectations for Sales Record-High Stocks Low Interest Rates Weaker Dollar Housing Momentum Unprecedented Monetary Stimulus Low Interest Rates Record-High Stocks Synchronized Growth Strong U.S. Economy Federal: 2011 Budget Caps State and Local: Improved Tax Receipts, Property Values CONSUMPTION INVESTMENT GLOBAL GROWTH GOVERNMENT = Stable Outlook / Low Inflation / Patient Fed / Low Rates

15 2017 Tax Cuts and Jobs Act Consumers will benefit quickly with more disposable income while businesses are likely to be more methodical, eventually ramping up investment and then possibly wages. Consumers - even stronger - more disposable income ($120 billion in 2018) Business Investment - likely to be methodical, but should accelerate in 2H18 Bolster balance sheets Build up cash Pay down debt Share buybacks Deferred maintenance items Repair corporate infrastructure Raise existing wages Consider new investments Equipment *Structures Labor Residential Investment stronger consumer likely to outweigh SALT implications Biggest risk is higher rates from rising growth / inflation expectations Wage growth - likely to slowly stabilize closer to 3.0% Inflation - expected to firm up between % over the medium term 15

16 Job Growth Continues to Beat Forecasts Total nonfarm payroll growth beat expectations again, rising 200k in January. The labor market has shown very few signs of slowing despite being almost nine years into the cycle JAN Sources: BLS, Vining Sparks

17 Earnings Growth Shows Traction Three separate measures of wage growth showed traction in late January. While the average hourly earnings data were likely distorted by the weather, inflation fears gripped investors. 3.0% 2.5% Average Hourly Earnings (YoY) Employee Cost Index % 2.6% 2.0% 1.5% 1.0% Sources: BLS, Vining Sparks

18 Fiscal Stimulus Added to Tailwinds Washington agreed to lift spending caps, increasing defense spending by 24% and non-defense spending by 29% over the next two years. This will be another deficit-financed boost to GDP. 25% 20% 15% 10% 5% Government Expenditures by Category (QoQ, SAAR) 2011 Budget Control Act Caps Replaced by: Defense +$165 Billion ($80B in 18) Non-Defense +$131 Billion ($63 B in 18) Disaster Relief +$90 Billion Total Government Federal Non-Defense Federal Defense Projected 18 0% -5% GDP Impact: % +0.4% Sources: BEA, Vining Sparks

19 Core CPI Inflation Rises 0.35% MoM Core CPI inflation showed the strongest monthly gain in prices since 2005, rising 0.35% MoM. While some of the increase should prove temporary, it exacerbated investors fears % MoM +0.35% MoM Headline CPI (YoY) Core CPI (YoY) Sources: BLS, Vining Sparks % 1.8%

20 All Economic Engines Firing Add the boost from tax reform and more fiscal stimulus (deficit spending) to an already stable backdrop, and markets began to fear the economy over-heating. 20 Low Unemployment Decent Wage Growth Low Household Debt Low Gas Prices Record-High Stocks Low Interest Rates Booming Confidence Booming Confidence Deregulation Expectations for Sales Record-High Stocks Low Interest Rates Weaker Dollar Housing Momentum Unprecedented Monetary Stimulus Low Interest Rates Record-High Stocks Synchronized Growth Strong U.S. Economy Federal: Raised 2011 Budget Caps State and Local: Improved Tax Receipts, Property Values CONSUMPTION INVESTMENT GLOBAL GROWTH GOVERNMENT Tax Reform Tax Reform Fiscal Stimulus = Hot = Stable Outlook Outlook / Risks / Balanced to Inflation Risks / Reactive / Patient Fed // Higher Low Rates

21 Investors Fear Economy Over-Heating Driving longer interest rates have been 1) U.S. fiscal policy developments, 2) central bank actions, 3) geopolitical concerns, and 4) decent economic data French GOP lacks support for healthcare bill, election uncertainty about fiscal reform agenda fears Weak CPI, retail sales start Trump sworn in Fedspeak shifts markets to March Fed hikes Dots unchanged month of weaker economic data French Election Comey memos 2.99% J F M A M J J A S O N D J F M Sources: Bloomberg, Citi Eco Surprise Index, Vining Sparks % - Pre-Election Yield Fed hikes, hawkish slant, dots unchanged, roll-off cap sizes Senate healthcare failures begin Fed debate on inflation begins Fed announces October start date for roll-off Presidential advisory councils disbanded Fed Balance Sheet Roll-Off ECB Extends QE at 30B/Month Tax Bill Passed BOE Hikes Tax framework ECB, BoE, BoC Irma and Harvey less surprisingly severe than feared hawkish North Korea tests hydrogen bomb Fed hikes Dots unchanged U.S. and Eurozone Eco Data Beating Expectations Progress on Tax Reform 21 Fiscal Stimulus Firmer Inflation Stronger Earnings Economic Surprise Index

22 And Higher Rates Spooked Stocks Despite the sensational news headlines, stocks have recovered and remain well above preelection levels. As a result, the risk of frothy asset prices remains. 50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% Percentage Gains since U.S. Election Nasdaq Dow S&P 500 MSCI All-World Index, Ex-U.S. N D J F M A M J J A S O N D J F M Sources: Bloomberg, Vining Sparks 22 Election Jan 26 (YTD) +45.2% (+7.7%) +43.8% (+8.7%) +34.3% (+7.5%) +33.5% (+7.1%) Jan 26-Feb 8 (YTD) -10.4% (-3.5%) -9.7% (-1.8%) -10.2% (-3.5%) -7.8% (-2.8%)

23 Second Wildest Week of the Cycle Combining the intraday percentage trading ranges, those swings ultimately added up to the second wildest week for stocks since the Great Recession. 30% U.S. Debt S&P 500, Weekly Percentage Downgrade 24.92% 25% Trading Range 2010 Flash Inflation Chinese Market Crash Freak Out 20% Turmoil 18.34% 15% 10% 5% 17.72% 16.36% 0% Sources: Bloomberg, Vining Sparks 23

24 Growing Risks to Stability in 2018 The risks to economic stability are growing. As the economy begins to heat up, imbalances are likely to become more pronounced with the largest risk coming from an asset price correction. Inflation runs hotter-than-expected Fed hikes too aggressively, or gets behind the curve Asset price recalibration stock prices, bond yields, credit spreads, cap rates Volatility excessively suppressed in financial markets, exacerbating future moves Global central banks simultaneously shift to less accommodative posture Geopolitical tensions and trade tensions Mid-term elections creating more political uncertainty Longer-term obstacles Aging population, Federal debt, Weak productivity 24

25 Expectations for Fed Rate Hikes The markets are now pricing in three hikes in 2018, but only one or two additional hikes through the end of The Fed continues to project a longer period of rate hikes % Fed Projections December SEP Fed Funds Futures December 29, % Fed Funds Futures March 19, % 2.50% % 2.10% Sources: Fed Funds Futures Contracts, Dec 2017 Fed SEP Projections, Vining Sparks 25

26 Unemployment Rate Below Target The Fed is likely to remain hawkish so long as unemployment rate 1) remains below their longerrun sustainable rate, 2) is not rising, and 3) financial conditions do not deteriorate dramatically. 10 Headline Unemployment Rate Fed s Longer-Run Projected Rate 4.09% Sources: BLS, Federal Reserve Summary of Economic Projections, Vining Sparks

27 Less Risk of Disinflation in 2018 There appear to be more risks to a modest acceleration in price gains in 2018 than deceleration. Rising commodity prices, possible wage growth, and a weaker Dollar should push prices higher. 27 $125 $100 $75 $ Oil Price per Barrel $ Trade-Weighted Dollar +46% Since June Small Business Compensation Plans Commodity Prices Highest Since % YoY % Since June Sources: Bloomberg, CRB Core Commodity Index, NFIB, Federal Reserve, Vining Sparks

28 FOMC Voters More Hawkish The Federal Open Market Committee will change complexion in 2018 with five wildcards that could swing the Committee s bias even more decidedly hawkish Vacant (Gov.) Vacant (Gov.) Vacant (Gov.) Bullard St Louis Kashkari Minneapolis Evans Chicago Brainard Governor Bostic Atlanta Kaplan Dallas Dudley New York Powell Governor Rosengren Boston Mester Cleveland Williams San Francisco Harker Philadelphia Quarles Governor George Kansas City Mullinix Richmond 2018 Goodfriend (Gov.) Vacant (Gov.) Vacant (Gov.) Vacant (Gov.) Bullard St Louis Kashkari Minneapolis Evans Chicago Brainard Governor Kaplan Dallas Bostic Atlanta *Dudley New York Rosengren Boston Harker Philadelphia Williams San Francisco Mester Cleveland Quarles Governor 28 George Kansas City Mullinix Richmond Dove Yellen Chair Hawk Dove Powell Chair Hawk

29 Trillions Longer Yields Remain Anchored Treasury yields continue to we weighed down by global yields, generally, and the impact of stilleasy monetary policy from the ECB and BoJ. 6.0 Fed, ECB, BOE, and BoJ Assets (Inverted, USD) 5.0 $1 $3 $ Year Treasury $7 $ Y German Bund 10Y Japan JGB $11 $13 $15 Sources: Federal Reserve, BOE, ECB, BoJ, Bloomberg, Vining Sparks

30 Inflation Firming, but Remains Low Inflation in Japan and the Eurozone continue to run below-target despite the improving economic data and financial asset prices. This is likely to limit adjustments to monetary policy Core Inflation Measures by Country Sources: BoJ, CEIN, UK ONS, Eurostat, BLS, Vining Sparks U.K. China U.S. Eurozone Japan % 2.5% 1.5% 1.0% 0.3%

31 Inflation Inflation Rises Phillips 6.0 Curve Not Working Globally Phillips Curve U.K. U.S. Current Current EU Japan Current Current Unemployment Declines Unemployment Rate Sources: BLS, UK ONS, Eurostat, Japan MIAC, Vining Sparks

32 Housing Proven to Be Rate Sensitive Home sales have proven historically to be very rate-sensitive. The higher the 10-year yield rises above 3.00% (mortgage rates above 4.75%), residential investment is likely to weaken Homeowners Average Outstanding Mortgage Rate Current 30-Year Mortgage Rate Average Outstanding Mortgage Rate Minus Current 30-Year Mortgage Rate Sources: Census Bureau, NAR, Freddie Mac MMS 30-Year Mortgage Rate, Vining Sparks Homeowners Mortgage Rates above Available Mortgage Rates

33 YoY Change in Home Sales Outstanding Rate Less Available Rate Home Sales Prove to Be Rate Sensitive Home sales have proven historically to be very rate-sensitive. The higher the 10-year yield rises above 3.00% (mortgage rates above 4.50%), residential investment is likely to weaken New Home Sales (YoY) Existing Home Sales (YoY) Sources: Census Bureau, NAR, Freddie Mac MMS 30-Year Mortgage Rate, Vining Sparks

34 Federal Interest Expense Politicians have significant incentive to keep interest rates anchored now more than ever. Using modest projections, annual interest expense is expected to rise $580 billion by $900 $800 $700 $600 $500 $400 $300 $200 $100 $0 9% 8% 7% 6% 5% 4% 3% 2% 1% 0% Underlying Rate Assumptions 10Y Treasury and CBO Projection 3M Bill and CBO Projection 2.90% $240 B Sources: CBO March 2017 Projections, Treasury, Bloomberg, Vining Sparks 3.70% 2.80% 1.65% Annual Interest Expense 34 $818 B

35 Interest Rate Projections Short-end of yield curve likely to be pressured higher from Fed hikes while longer-end responds to inflation expectations, supply/demand, global yields, and other limiting factors March Vining Sparks Projections March 15 Forward Curve March 15 Bloomberg Survey (Avg) March 19 Current Yield Curve Year-End 2018 Interest Rate Projections % 3.00% % 2.30% 1.00 FF 3M 1Y 2Y 3Y 4Y 5Y 6Y 7Y 8Y 9Y 10Y Sources: Bloomberg Survey (March), Vining Sparks Projections (March), Forward Curve (March 15)

36 2018 Economic Outlook Consumer Firmer wages, stronger labor market, and $140 billion boost from tax cuts Business Investment Improved capex as a result of tax reform, particularly structures Housing Tax reform diminishes some incentives to homeownership; however, housing should see another year of growth in presuming mortgage rates remain anchored Government Spending More deficit spending will yield better growth in the near-term but may tip the inflation scale; adds to the already excessive debt burden Risks to Growth Rising inflation biggest risk to outlook (higher interest rates, asset price correction, etc ) Too much of a good thing leads to correction-inducing imbalances Fed walking tightrope in removing support without roiling markets Interest Rates (Short Maturities) Fed likely to remain hawkish so long as financial conditions remain easy, particularly with unemployment below-target Interest Rates (Longer Maturities) - Longer yields likely to rise moderately on tug-of-war between stabilizing inflation, improving growth, and global supply/demand Longer Term Outlook Aging population Weak productivity Excessive debt 36

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