Weekly Update 01/26/2024: Earnings Season Continues
- GDP rises
- Inflation falls
- JNJ reports quarterly upside
- RTX fourth quarter above expectations
- Boeing delivers China jets
- DuPont preannounce results
- IBM powers higher
US Gross Domestic Product and the ECB
The economy grew at a 3.3% annual rate during the fourth quarter according to the Bureau of Economic Analysis (BEA) data released yesterday. Consumer expenditures, which comprise about two thirds of GDP, rose at a 2.8% rate which was above the 2.5% consensus forecast in a Bloomberg survey of economists. Falling inflation and a durable labor market were the fuel for solid consumer spending. The scenario unfolding is what the Fed will want to see before their meeting next week to determine the next steps in monetary policy. The economy cooled from the 4.9% pace in the third quarter, but we have not seen unemployment spike. For all of 2023, the economy expanded 2.5%. The Fed has two mandates: full employment and stable pricing. They are making progress on both fronts.
In terms of categories outside of the consumer, business fixed investment expanded at a 1.9% pace which was above the third quarter’s 1.4% rate. Residential investment also added to growth thanks to new housing construction. Government spending added 0.6 percentage points to the quarter thanks to larger state and local outlays. Inventory accumulation also added a slight 0.07 percentage points to growth. When inventories rise, it is considered an addition to growth because goods are being produced. Inventory liquidation subtracts from growth because nothing is being produced and GDP measures production within an economy over a given period.
For future periods, the biggest question mark continues to be trends in the labor market. Initial jobless claims rose to 214,000 in the week ended January 20 according to the Labor Department. That was up from 189,000 in the week prior and above the consensus estimate of 200,000. Continuing claims measures those who remain on state unemployment rolls. It rose to 1.83 million in the week ending January 13, up a bit from 1.81 million in the week prior. According to the latest Beige Book which measures sentiment in the various Federal Reserve districts, evidence of a cooling labor market is becoming increasingly apparent with a larger pool of job applicants, more selective hiring and easing wage pressures. Nevertheless, these trends pop up on the radar of economists only to be nullified by hard data from payrolls that shows the labor market remains solid. Eventually, either the loosening or tightening trend is going to win out, and the Fed is going to have to adjust its monetary policy to deal with it.
Meanwhile overseas, the European Central Bank (ECB) kept interest rates steady and suggested that rate cuts are still some way off. The Governing Council said in a statement: “The incoming information has broadly confirmed its previous assessment the medium-term inflation outlook. Tight financial conditions are dampening demand, and this is helping to push down inflation.” Investors are making bets that the ECB will start to reduce its benchmark rate in April, which is in contrast to officials who have indicated that a summer move is more likely. According to ECB President Christine Lagarde, “The consensus around the table of the Governing Council was that it was premature to discuss rate cuts.” Regardless, trades are pricing in an 80% chance of a move in April. ECB policymakers believe they will hit their 2% inflation goal in 2025 and must be extra vigilant given exogenous events such as Red Sea shipping attacks. “Upside risks to inflation include the heightened geopolitical tensions, especially in the Middle East, which could push energy prices and freight costs higher in the near term and hamper global trade. We are being very careful and look attentively at the developments,” she added. Fourth quarter output data for the 20-nation euro area is due next week which will also color ECB opinion in the coming months.
Inflation Data and Fed Odds
The Fed’s preferred measure of inflation—personal consumption expenditures (PCE)—rose at a slowing pace surely bringing a smile to the faces of Fed officials. The BEA reported the core figure, which excludes food and energy components, rose 2.9% in December from a year earlier. The headline index rose 2.6%. Finally, these key indicator has a “2” handle whilst GDP, as mentioned above, slows but remains steady. Personal consumption rose 0.7% in December from November and ascended 0.5% on an inflation-adjusted basis marking the largest consecutive increase in about a year. Personal income rose 0.3% in December which was in-line with a survey of economists taken by Bloomberg and matched November’s rise.
Importantly, the trend towards disinflation has been headed in the right direction. On a six-month annualized basis, core PCE rose 1.9% in December and only 1.5% on a three-month annualized basis both of which are below the 2% target the Fed wants to see. Is this trend sustainable? The answer is probably. Housing data used in the computation of many inflation statistics is often purposely dated to prevent drastic swings month-to-month. Looking back at the past six months, it is evident that lower rental and leasing prices have yet to be incorporated into the data but will be soon. Even amidst the turmoil in the Middle East, commodity prices have remained well behaved with the global Brent crude benchmark down about 7% over the past three months and New York Mercantile Exchange natural gas futures price plunging 20% over that time period even with many parts of the country battered by winter weather this month. Soybeans and corn remain lower on a three month and year-to-date basis boding well for food input costs. In terms of services inflation, assuming that hiring does indeed slow like the anecdotal evidence points to, if average hourly earnings for January rises 0.3% month-over-month, it would mark a decline from the month’s prior 0.4% rise. Pre-pandemic, with unemployment rates not far from what we see today, that indicator regularly was below +0.3%, so steps back toward that level would mark a key turning point.
The chances of a Fed cut at the next scheduled Federal Open Market Committee meeting which will conclude next Wednesday are minimal at only 2.5% according to the futures markets. They rise to a more substantial 45% by the March 20 meeting, but that level is below the 75% which was expected back on January 2. The odds leap to 84% by the May meeting suggesting that the Fed will have enough data by then to begin reducing their target range from the current 5.25%-5.50%. By year-end, the market is expecting the federal funds rate to be right around 4% which would imply 150 basis points (1.50%) of cuts. That seems a lot at this point because though the coveted “soft landing” is coming more into focus, for the Fed to implement that many cuts would imply a sharper and rougher decline in the economic outlook. GDP would have to stagnate or go negative. Unemployment would have to spike above 5% or higher from its current sub-4% level inferring consumer spending would go lower by some degree if not contract. It just does not look like things are pointing in that direction at this point, but things can change. Nobody predicted the Japanese tsunami in 2011 or the Parisian terror attacks in 2015 or the spreading of Covid-19 in 2020 or the Russian invasion of the Ukraine in 2022, but they all happened within the first three months of that year. While the Fed cannot control exogenous events, it has to respond to them and domestic happenings as the de facto central bank to the world. We will try to keep readers up to date as events unfold through the first quarter of this year and in the months ahead.
Company Events
Earnings season had already begun on Wall Street, but this week things got kicked up a notch. Nine SGK Core companies reported quarterly results, and, as usual, we listed to as many management conference calls as possible to get more details and color on the period just concluded and thoughts about future plans, strategy, and tactics. For clients of the firm, below are write-ups on each of SGK's Core companies that reported Q4 earnings.
Please remember that past performance is no guarantee of future results. Different types of investments involve varying degrees of risk, and there can be no assurance that the future performance of any specific investment, investment strategy, or product (including the investments and/or investment strategies recommended or undertaken by Steigerwald, Gordon & Koch, Inc. [“SGK”]), or any non-investment related content, made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated historical performance level(s), be suitable for your portfolio or individual situation, or prove successful. Due to various factors, including changing market conditions and/or applicable laws, the content may no longer be reflective of current opinions or positions. Moreover, you should not assume that any discussion or information contained in this blog serves as the receipt of, or as a substitute for, personalized investment advice from SGK. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. SGK is neither a law firm nor a certified public accounting firm and no portion of the blog content should be construed as legal or accounting advice. A copy of the SGK’s current written disclosure Brochure discussing our advisory services and fees is available for review upon request or at www.sgkwealthadvisors.com. Please Note: SGK does not make any representations or warranties as to the accuracy, timeliness, suitability, completeness, or relevance of any information prepared by any unaffiliated third party, whether linked to SGK’s web site or blog or incorporated herein, and takes no responsibility for any such content. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly. Please Remember: If you are a SGK client, please contact SGK, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or if you would like to impose, add, or to modify any reasonable restrictions to our investment advisory services. Unless, and until, you notify us, in writing, to the contrary, we shall continue to provide services as we do currently. Please Also Remember to advise us if you have not been receiving account statements (at least quarterly) from the account custodian.