There is widespread confusion over the strength or weakness in the economy. We continue to expect weakness to develop.
The Week That Was
Retail sales in April rebounded slightly from March, but they still are down by a 2 percent annualized rate from the first quarter. Sales are up only 1½ percent over the past year—less than the rate of inflation.
These data are often erratic and subject to revisions. However, if accurate, they point to the type of significant economic slowdown we have been expecting for some time.
The Fed’s April manufacturing index was up slightly. As with retail sales, the index shows no increase in manufacturing for the past year.
The May Homebuilders Index rose to 50 (breakeven) from 45. A combination of lower mortgage rates and a shortage of new home inventories has improved homebuilders’ confidence.
Weekly seasonally adjusted unemployment data fell back to 242,000 in the week ending May 13. The 4-week average was 244,000, which is up only slightly from the year’s average.
Things to Come
The most important economic news this week will be Friday’s report on April consumer spending and incomes. This will provide the most comprehensive view of spending and inflation in for the month. March data showed a significant slowing in both spending and wages.
April retail sales data show a slowdown from the first quarter. Friday’s consumer spending and wage data will confirm the extent of the weakness already reported in retail sales.
The March spending and income report also shows core inflation down to 3½ percent annualized. If the April data confirm core inflation is close to this area, along with more evidence spending and wages are slowing, it will increase the odds the Fed will pause the interest rate increases at its mid-June meeting.
The only remaining major economic reports prior to the next Fed meeting are the jobs report on June 2 and the CPI report on June 13.
Money, Money, Money
Interest rates moved higher this week, with the yield on 10-year Treasury Notes rising to 3.7 percent. The increase was even greater at the shorter end of the yield curve, where the yields have moved above 5 percent.
These increases reflect the growing belief the economy remains strong and the Fed will keep rates higher and longer than previously expected, or even raise rates again in June.
Although others see signs of economic strength, we continue to anticipate coming weakness. Our measure of monetary restraint points to a 10 percent decline in money over the past year, though this is still a 17 percent average yearly increase over the past two years. This crazy pattern adds to the confusion as to what to expect in the economy.
Market Forces
In spite of Friday’s losses, the S&P500 had another winning week, gaining 1½ percent. This brought it to the upper end of this year’s 3,900 to 4,200 range.
Although the economy has crawled in terms of real growth, S&P500 profits did very well. With over 90 percent of S&P500 companies reporting, first quarter earnings are up 25 percent from the fourth quarter and 8 percent above a year ago. With the first quarter gain, S&P500 earnings rose from below their long-term trend to 22 percent above it.
First quarter S&P midcap company earnings fell 10 percent from the fourth quarter and 7 percent from a year ago. Midcap earnings were dragged down by energy, industrials, and materials.
With our forecast for continued high interest rates and a downturn in the economy in the second half, we continue to expect both a decline in profits and downward pressure on stock prices.
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Outlook
Economic Fundamentals: negative
Stock Valuation: S&P 500 overvalued by 11 percent
Monetary Policy: restrictive
