In our most recent Fixed Income Investment Outlook, we considered the prospect of the Federal Reserve making its first rate cut in more than 10 years, just as the economy shows signs of supporting the validity of our long-held global soft-landing thesis.
In the three weeks since then, economic data has added more firmness to our view.
Recall that our argument for a soft landing held that growth would slow but that the Fed and other central banks were poised to act to extend the cycle, lowering the risk of a more negative outcome. Recall also that we emphasized the importance of consumption data over manufacturing performance in the services-oriented European and U.S. economies, alongside the fiscal and liquidity stimulus being applied in China.
We have therefore been looking for signs that the stimulus boost is gaining traction in China and that Western consumers are maintaining their confidence and resilience. Those signs appear increasingly clear.
Good News From the U.S. Consumer
Last week’s U.S. retail sales data for June tops the list.
The headline number showed a month-over-month rise of 0.4%, consolidating gains made in May and comfortably beating expectations. But it was the Control Group, which strips out some more volatile elements, that really caught attention. Sales in this group rose 0.7% month-over-month and an eye-catching 7.5% quarter-over-quarter, annualized, and 11.1% over six months, annualized. The last is the fastest six-month retail sales growth rate on record.
Maybe those numbers should not have been such a surprise, given the substantial bounce-back in nonfarm payrolls that printed at the start of the month. This release pushed three-month average U.S. jobs growth up to 171,000 and revealed an average hourly earnings growth rate above 3% per year.
This good news from the U.S. consumer resulted in a jump in the Atlanta Fed’s GDPNow U.S. economic growth forecasting model from 1.4% two weeks ago to 1.6%.
Last week also brought encouraging news from China.
The headlines told us that second-quarter GDP growth of 6.2% was the slowest since records began 27 years ago. Underneath that, however, data for retail sales, industrial production and fixed asset investment all showed improvement and exceeded consensus expectations. We—and Asian financial markets—took that to be a sign that recent stimulus is taking effect, and is counterbalancing some of the damage done by China’s trade dispute with the U.S.
The next step is to see that feed into better performance from Europe. Here, business confidence, particularly in the powerhouse that is German manufacturing, is low. Euro zone consumer confidence, however, has been rebounding in 2019 and has been above its long-term average for almost five years, reflecting a substantial decline in unemployment since the euro crisis. Smooth out some of the sharper edges of global risk and that domestic-focused recovery could settle in.
Alongside these signs of a soft landing, last week also saw a better-than-expected U.S. inflation release—enough to lend support to the thesis but not enough to sway the Federal Reserve from its likely course of a rate cut later this month.
This highly unusual backdrop makes the Fed’s messaging around the next rates decision very tricky. Markets will be looking for clues as to what’s next, and they may not like it if there’s any hint of “one-and-done”—even if the data suggests that’s the way it should be.
But if the Fed manages to thread that needle, this mix of improving data and lower rates has the potential to be a risk-on cocktail. Investors may be gingerly discounting that impact. Bund yields are off their historic lows, peripheral euro zone spreads are tighter, the U.S. yield curve is steepening, breakeven inflation rates are edging higher and the pro-cyclical laggards in the stock market, which Erik drew attention to a couple of weeks back, have made a modest comeback.
We haven’t landed yet, but the final approach appears to be levelling out nicely.
In Case You Missed It
- China 2Q 2019 GDP: +6.2% annualized rate
- U.S. Retail Sales: +0.4% in June
- NAHB Housing Market Index: +1 to 65 in July
- U.S. Housing Starts: -0.9 % to SAAR of 1.25 million units in June
- U.S Building Permits: -6.1% to SAAR of 1.22 million units in June
- Japan Consumer Price Index: +0.6% in June year-over-year
- Euro Zone 2Q2019 GDP (Final): +1.2% annualized rate
What to Watch For
- Tuesday, 7/23:
- U.S. Existing Home Sales
- Wednesday, 7/24:
- U.S. Purchasing Managers’ Index
- U.S. New Home Sales
- Euro Zone Purchasing Managers’ Index
- Thursday, 7/25:
- U.S. Durable Goods Orders
- European Central Bank Policy Meeting
- Friday, 7/26:
- U.S. 2Q 2019 GDP (First Estimate)
Statistics on the Current State of the Market as of July 19, 2019
|S&P 500 Index||-1.2%||1.3%||20.1%|
|Russell 1000 Index||-1.2%||1.3%||20.4%|
|Russell 1000 Growth Index||-1.2%||2.0%||23.9%|
|Russell 1000 Value Index||-1.1%||0.6%||17.0%|
|Russell 2000 Index||-1.4%||-1.1%||15.6%|
|MSCI World Index||-0.8%||0.8%||18.3%|
|MSCI EAFE Index||-0.1%||-0.2%||14.3%|
|MSCI Emerging Markets Index||0.8%||0.7%||11.5%|
|STOXX Europe 600||-0.2%||-0.8%||15.1%|
|FTSE 100 Index||0.0%||1.1%||14.4%|
|CSI 300 Index||0.1%||0.2%||28.7%|
|Fixed Income & Currency|
|Citigroup 2-Year Treasury Index||0.1%||-0.1%||2.4%|
|Citigroup 10-Year Treasury Index||0.5%||-0.3%||7.1%|
|Bloomberg Barclays Municipal Bond Index||0.2%||0.5%||5.6%|
|Bloomberg Barclays US Aggregate Bond Index||0.4%||0.0%||6.1%|
|Bloomberg Barclays Global Aggregate Index||0.4%||-0.2%||5.4%|
|S&P/LSTA U.S. Leveraged Loan 100 Index||0.2%||0.7%||7.6%|
|ICE BofA Merrill Lynch U.S. High Yield Index||-0.2%||0.0%||10.1%|
|ICE BofA Merrill Lynch Global High Yield Index||-0.2%||-0.1%||9.4%|
|JP Morgan EMBI Global Diversified Index||0.5%||0.7%||12.1%|
|JP Morgan GBI-EM Global Diversified Index||1.0%||1.7%||10.6%|
|U.S. Dollar per British Pounds||-0.5%||-1.8%||-1.8%|
|U.S. Dollar per Euro||-0.3%||-1.5%||-1.8%|
|U.S. Dollar per Japanese Yen||0.3%||0.0%||1.8%|
|Real & Alternative Assets|
|Alerian MLP Index||-1.4%||1.6%||18.8%|
|FTSE EPRA/NAREIT North America Index||-2.2%||0.2%||17.1%|
|FTSE EPRA/NAREIT Global Index||-1.1%||1.1%||16.6%|
|Bloomberg Commodity Index||-2.0%||-0.2%||4.8%|
|Gold (NYM $/ozt) Continuous Future||1.0%||0.9%||11.3%|
|Crude Oil (NYM $/bbl) Continuous Future||-7.4%||-4.6%||22.8%|
Source: FactSet, Neuberger Berman.