Week ahead in the US financial markets
By Joseph Brusuelas
Potential market-moving data and events abound in the next five days, led by
testimony on monetary policy and the economy by US Federal Reserve board
chairman Ben Bernanke scheduled for Tuesday and Wednesday. Key earnings
statements include JP Morgan (Wednesday), Merrill Lynch, Citi and Thornburg
Mortgage (all Thursday). June PPI and advance retail sales come out on Tuesday,
followed by CPI on Wednesday and housing starts on Thursday.
The producer price index for June should provide a very clear
illustration of the strains that increasing costs are placing on the already
thin profit margins of producers. Our forecast implies that headline costs
should increase 1.5% month on month and 8.7% year on year. Core pricing should
increase 0.4% and 3.3% over the same intervals. The major question at this
juncture is whether the advancing headline costs will bleed through to the
core. The latest market data inside the PPI indicates an answer in the
affirmative. Total intermediates on a three-month annualized basis jumped 27.7%
and the core ex-food and energy measure is up 18.5% using that same metric.
Should this trend continue it will become increasingly difficult to ignore the
underlying pricing pressures faced by firms. At one point, businesses will have
to ignore competitiveness issues, seek to preserve profit margins and begin
passing through price increases downstream.
The well-timed stimulus package provided a much-needed shot of adrenaline to
the economy in May and we expect to see another boost to spending ex-auto in
June. Our forecast implies a 0.7% increase in overall spending and a 1.0%
increase ex-autos. We anticipate that the focus of consumer spending will be in
the food, health/ personal items and the electronics sectors. We do urge our
clients to recall that the mid-year surge in personal consumption will be
transitory and that, save a second stimulus package, their will be a massive
payback to the downside in Q4, '08.
The middle of 2008 is proving to be a test by fire for manufacturers. The
continued culling of workers and cutback of production schedules in the
domestic auto industry should continue to weigh heavily on industrials. The
near robust level of demand from the external sector can be expected to begin
to level off a bit on the back of higher headline costs globally. Looking
forward through the end of the year, we expect to see a series of very
difficult reports out of the manufacturing sector. Our forecast implies that
the NY Fed survey of manufacturing firms for the month of June will fall to
-9.3.
The painful increase in the cost of oil and commodities observed by the market
in June should be on display. Our forecast implies a month over month increase
of 0.9% and 5.0% year on year. The core should see a increase of 0.2% m/m and
2.3% y/y. Headline costs should capture the stunning move in the oil markets
during the month and that should be expected to be the major narrative in June
inflation data across the board. Our headline forecast is not in agreement with
the current consensus and should the headline arrive near our estimate, the
June CPI could be one of the major market-moving events of the week.
The manufacturing sector can be expected to see further problems throughout the
remainder of the year. The market did not observe the expected pick-up in
production after the settlement of the American Axel strike and deterioration
in the labor sector associated with industrial production above market
consensus in June does not bode well for the industrial production series. Our
forecast implies that production will deteriorate by -0.1% and capacity
utilization will remain steady at 79.4%.
The release of the minutes from the June meeting of the Federal Open Market
Committee will take a back seat to the Semi-Annual testimony on monetary policy
and the economy by Fed chairman Ben Bernanke. The market over the past few days
has swung wildly from a concern over pricing back to problems with the
financial sector, so the release is not the potential market-moving document
that it might have been just a few days ago. The market will nevertheless pay
close attention to the discussion on inflation inside the minutes and concern
over another bout of systemic issues in the financial sector.
The weekly claims series took an unexpected decline to 346,000 due to seasonal
adjustments having to do with temporary plant closings and the irregular
reporting that typically occurs around holiday-shortened weeks. We expect them
to move back towards the four-week moving average of 380,000. However, the
major narrative that demonstrates a deteriorating labor sector is the
continuing claims portion of the series, which has reached 3.2 million. This
suggests another move higher in the overall rate of unemployment and a move
back towards 400,000 in the headline within the next few weeks.
We expect to see a mixed bag in the starts and permits data in June. Starts
should see a modest decline to 961,000 in the data and the market should
observe a minimal increase in the demand for permits. Of late, the data across
the housing sector has continued to deteriorate, but at a decreasing rate. This
has buoyed market sentiment that the housing sector is grasping for a bottom.
Whatever the merits of such an argument, we think that the credit crisis has
yet to really enter its insolvency phase, which will provide another
gut-wrenching period of downturns that will provide the true bottom for the
market.
We are quite bearish on the manufacturing sector, given the now clear reduction
in auto assembly schedules among domestic producers and the announcement of
further culling of the labor force. Our forecast for the Philadelphia Fed's
survey of manufacturing firms in the region implies that the headline will fall
to -18.4. We do urge our clients to recall that the headline in the survey is a
single stand-alone question that often is disconnected from underlying
production schedules. However, with the curtailing of current and future
production and the very clear problems ahead in the auto industry, we do think
that our bearish forecast may be a bit on the optimistic side.
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