Ooops

We received two key US releases today, Claims and Dec Retail Sales.  We expected that both would cheer the market, Claims inside of expectations, Sales through expectations.  In fact, it was just the reverse. We’ll miss a few and missed these two in a major way.  Now, what if anything has changed?

Today’s results do not indicate a trend.

We have established consumer activity, jobs-related activity and manufacturing as desk anchors, meaning observers have underestimated those sectors and clients should take advantage of this fact.  Through Q4, with just an occasional miss here and there - nothing in a straight line - these held well.

We expect these will continue to hold through Q1.

Next, we have told clients to expect the US and Canada (thanks partly to US linkage and partly to an enlightened Harper administration) to move away from other developed credits, including  Germany.  We noted late October and through early November that German growth, Q4 and Q1, would disappoint, falling below forecasts.  That is working as planned.

We also noted in October that even given a E-Z solution, the new core capital requirement for banks would translate into a significant retardant, this region.  Recent evidence shows that it already has; banks are parking most of the ECB’s generosity right back with the ECB, as Euribor prints indicate. E-Z banks have no intention to either make loans or to raise capital, on the whole.  They intend instead to shrink their books.  Going without banks in the US would not be as crippling as it will be in the E-Z; US companies have many other venues to acquire funds; E-Z firms are without that flexibility.


Robert Craven

US Consumer

US Consumer

It has been key for clients for many weeks to understand that while not alight, consumer activity would still flatten estimates, Q4 (and H1).  Most observers badly underestimated their projections, taken in because average income has not kept up with inflation and the home equity bank has folded.

We instead noted that the consumer would remain buoyant (short of $120 crude and, or an E-Z meltdown).  That is, the US consumer would neutralize E-Z day-to-day noise as a normal, which is exactly what they did.  Finally, appetite in place  they would borrow if needed to fuel it. There has been too much fuss made over de-leveraging.

Today we find that Consumer Credit soared in November to $20.4 bln vs expectations of $7bln. Wait for December!

Revolving debt increased by the largest amount in 3 ½ years in November. It is of course true that households have de-leveraged from the peak in June/05 (24.4%, debt vs disposable), just not anywhere near enough to put them into a comma. And they’re done with it. We’re a tad through 21% now, no doubt the trough this cycle.

Look for more ahead from the world’s #1 engine.


Robert Craven

The Week Ahead

US vigor will continue to surprise street economists, world investors and Fed officials alike.

Look for the few scheduled releases next week to cooperate.

Clients have had a firewall of sorts built around their trading, investment or corporate planning activity. They have known through Q4 to trade the US as if every surprise was to be one of relative strength, not weakness. Most were. Jobs-related and consumer activity were key.  And these will hold through Q1. Stronger import orders suggest good demand for consumer goods; the trend in Claims suggest better payroll numbers ahead.

Then on Dec/15 we added Manufacturing, noting that “economists will miss the boat because they will under-estimate export demand, thinking it to be completely dried up.”

Indeed, from the ISM manufacturing index and to almost everyone’s surprise, export orders rose in December to the highest level in three months; overall orders were the best since April. Thank you very much.

Next, clients were not only prepared for improvement in the US but also vs other major world credits. That too has worked well as economist after economist discovers what most call, with the sense of original discovery, a de-coupling.  ISM manufacturing data did show just that - the US continued to pull away from Europe and China, with a bigger increase, to a higher level than any of the others.

In a nutshell, we can get along without the E-Z; they don’t have to solve all of their problems for us to do well (however, we could do without a meltdown!). And that related panic has limited trading our insight through the FI market.   Our view would “normally” be best worked with the curve, Eurodollar calender spreads, options and the like. In fact, the next major move in the US curve will be steeper, tagged to vigor and Fed accommodation.  But we may have to wait a bit for that.

FX has provided a convenient tool however, as our most recent recommendation, short the Euro to the US$ has demonstrated.

We can also look to Canada for opportunity. We know that Canada will tag along. Selecting a window is key.  That could have been provided by last week’s Canadian Payroll results; they were not at all buoyant as they were expected to be. Partly as a result of that, the C$ slumped to a two-week low. But Canada is our biggest trading partner by far; by understanding economic reality ahead for the US, we pretty much have it for Canada. So we can expect their economy and currency to do well, H1, and that despite severe budget cuts scheduled by the Harper administration. Thus, one will want to look to sell the Euro and buy the C$ against that, at the next convenient window.

Robert Craven

Fed Policy Intent and the Term Structure

We are now all acquainted with the Fed’s effort to sculpt the term structure, the newest tool for that purpose the decision to publish the FF’s target rate.

As noted in an recent sketch, few at the Fed understand the dynamics impacting the curve. They might get lucky but eventually will get in real trouble.

To see just how much trouble they can get into, let us return to an earlier time, May 16 1994, the day before the FOMC meeting of May/17. The Fed was fighting the reverse battle then, but the example is useful nevertheless.


From our Report of May/16: “We are raising our estimate of the chances for a ½ % lift in the FF’s target from 60% to 70%.  The discount rate will follow but is of little consequence. Gov Lindsey has seen the ‘tactical advantage’ for such a lift. Our sources indicate that other policy makers may have finally come to understand that the markets, having been so thoroughly de-stabilized by recent Fed policy (or lack of), now cry out for direction. Markets ask the Fed to decisively demonstrate control, showing that it can deliver the needed discipline, as any good parent should understand is necessary.

Impact: Observers’ prediction for a ½ % lift have increased. As a result the shocking power of such a lift has diminished.  In a sense, the market is now dictating such a lift to the FOMC. On 2/4, 3/22 or 4/18 a ½ % hike would have resulted in a pronounced flattening of the curve, kicking the legs from under the inflation beast. Now, its flattening impact will be smaller. And one more lift of 1/4% will provide only irritation, steepening the curve and pushing the bond to 7.75%.

Greenspan fails to understand the fatal trap set by gradualism; he fails to understand that timidity in policy making almost always backfires. Reserves at the banks (Fed credit) have expanded through 1994 at an alarming rate because each time the FF’s target is lifted by a small increment, banks, conditioned to gradualism, increase the pace of borrowing in anticipation of the next modest lift.”


Back to the Bernanke Fed. Now Bernanke will look to flatten the curve, but not with a wallop, but with generosity.  Generosity in the short end can just as easily have the exact reverse effect. It all depends on the degree of tension in the system. Fed officials were slow learners in 1994; we see no reason to expect anything different now.

Our task then over the intermediate term will be to isolate this dynamic, and recommend to clients how best to convert policy to the bottom line.


Robert Craven

The Week in Review

We’re not booming but we learned this week that we’re clipping along at a far better pace than expected, that is, than was priced in, even a few weeks ago, let alone early Q4 when we highlighted this reality.

We’ve seen this week that manufacturing activity growth accelerated in December to its best pace since June.  It’s not booming, but improving. And it will continue to improve.

We’ve seen this week that business activity in the services, construction and government sectors accelerated modestly in December.  It’s not booming either but pretty good given the headwinds.

Finally, we saw today that jobs-related activity is accelerating. (Cynics accuse the administration of cooking the books. A fairy tale.)

The Dec unemployment rate dropped but joblessness is still relatively high, with 13.1MM people officially unemployed, and 8.1MM working part time, but only because they can’t find full time.  That will come.

Next, although improving, hourly earnings are still not beating consumer inflation. This did not stop the consumer however, Q4, and now, we expect hourly and weekly earnings to improve, and at an accelerating rate, into H2.

Next, we saw today that job creation in December was improved; nothing spectacular but better. There is little evidence that overall hiring is accelerating (gov’t job declines) but it is clear that private sector employment is accelerating, a very good thing. That’s certainly better than was expected early Q4.

Finally, some suspect a whiff of seasonality to today’s report, suggesting that strength may not carry into 2012. Doubt it.

In summary then, we can repeat guidelines set out earlier for our clients. First, continue to rely on our anchors - Spending, Jobs activity and Manufacturing. That means, when there is a relevant release, go into that release expecting a broach.  Know that even now, any major surprises to the US real sector to be to the side of relative vigor, not weakness. And finally, know that the US (and Canada) will continue to distance - at an accelerating rate - other developed credits.

These dynamics will continue to support our insight from early November to sell the Euro vs US$.  For more on that topic, see the sketch below.

Robert Craven

Fed Policy and Opportunity

Bernanke’s Fed further endorsed transparency with the decision to publish their target FF’s rate - how long they plan to keep short-term rates at current levels.  The first will be announced after the Jan 24/25 meeting.

Greenspan’s paranoia of transparency came from his terror that the decision-making process would be found out; that is, that policy makers would be found to be simply human, not the anointed after all.

At least Bernanke has moved to make the stealth operation less stealth. But with this new policy there are two problems for the Fed, and, two seeds of opportunity for clients.

First, the Fed is mediocre at best at forecasting. Next, this bunch are even worse at judging how a change in short rates may impact the curve. We will be able to identify 1) economic reality just ahead better than they, and 2) we will be better able to judge the impact of any projected FF’s target on the term structure. And of course Bernanke will expect to use this new policy as a tool to impact just that - the term structure.

In Greenspan’s time there were occasions when he grew downright despondent because the movement in long term yields was just the reverse of his policy intent. Timidity, a modest lift in FF’s simply provided an irritant in an environment of price pressure - if you strike a king you had better kill him. Long rates went higher when he thought they should have gone lower.  Too much.

Judging change in the term structure is not linked to a rule, model or formula; it is too elusive, too fluid for that.  We’ve done rather well past years (although our last US example, set Oct/11, was hindered by mass world flight to sanctuary) and expect further opportunities to be birthed by this policy change.

Robert Craven

Preparation for Tomorrow’s US Dec Payroll Print

Clients should have strategy in place set for “surprising” vigor in US jobs creation. That is, we have known for several weeks that job-related activity would eclipse Street estimates.  (It does not matter that the activity is not a barn burner. It only matters that we capture that which is not on the radar screen; in such a way we capture price change.)

However, having missed this key turn economists may now over-correct, not wanting to be rolled twice.  Thus, many are predicting a burst tomorrow in private payroll, in hours and in earnings.  All of this will come in Q1 but maybe not just this quickly. Fine. If tomorrow’s print does not live up to expectations, use any correction to add to, or establish trades in FX, equity or FI (not much here given E-Z panic) which you may feel will do well, given what we know to be reality ahead.

In the larger sense clients are to remain very constructive on the US.  Our several anchors (jobs / spending / manufacturing) will continue hold through Q1.


Robert Craven