Weekly Update 4/28/2023: Earnings Reporting Season Continues

New home sales provide upside surprise
Microsoft deal for Activision struck fatal blow
Carrier to acquire premium European HVAC firm
Latest personal income and spending data
First look at GDP in 2023
And lots and lots of earnings reports summaries!

Housing data

According to the latest new home sales data from the Census Bureau and the Department of Housing and Urban Development, buyers emerged from the winter months looking to close deals. Purchases of new single-family homes, which are tabulated when the contract is signed, rose 9.6% to an annualized 683,000 pace in March after a downwardly revised 623,000 rate in February. The median estimate for last month was for a figure of 632,000. Builders are using incentives to improve affordability and more construction has provided inventory in contrast to existing homeowners who are still hesitant to list their homes. The number of homes sold in March and awaiting the start of construction rose to 168,000 last month, the highest in more than a year.

In a separate report, the S&P CoreLogic Case-Shiller data showed that home prices rose 2% from a year earlier in February, down from the 3.7% pace in January. While demand in some geographies have picked up, a lack of listed homes is pressuring sales. Miami saw prices up 10.8% on an annual basis while certain West Coast cities have struggled including Los Angeles where prices were down 1.3%. The report covers the time period before the banking turmoil in March so trends may have changed or become more exacerbated since then. Rates have moved somewhat since the start of the year. According to mortgage-giant Freddie Mac, the average for a fixed, 30-year loan was 6.39% last week, down from 6.48% at the start of the year. Realtors are hoping that the spring home shopping season which began last month will return to some normalcy post-pandemic.

GDP

The Commerce Department released its first tally of first quarter GDP yesterday which showed the economy growing but at a slower pace than expected. On an annualized basis, GDP rose 1.1% which was below the 1.9% expected and 2.6% from the fourth quarter of 2022. However, diving into the numbers, growth was actually stronger than the headline appears. Inventories took off 2.3 percentage points from the growth rate. That means additions to unsold goods grew at a much smaller pace last quarter than it did in the previous one. Since GDP is a measure of production or output, when things are not produced or services not rendered, it counts as a negative against the topline. Trade contributed 0.1 percentage points to growth while government spending, mostly at the federal level, offered its biggest contribution in two years. Federal spending has grown 7.8% and 5.8% at an annualized pace for the first quarter of 2023 and fourth quarter of 2022, respectively. Defense spending contributed 0.2 percentage points of the annualized growth.

Consumption, which makes up about two-thirds of the aggregate measure, rose at 3.7% against a 4% forecast, contributing 2.5 percentage points. Nevertheless, it was a noticeably strong jump from the 1% growth seen in the fourth quarter of last year. Goods spending grew 6.5% while services spending was a bit more subdued at a 2.3% growth pace. Durable goods was the standout group, expanding by 16.9%, representing the highest annualized growth category last quarter. Unseasonably warm weather in the East and unusually brutal winter weather out West likely contributed to the outsized gain. That helped showrooms move autos and trucks which were previously supply-constrained due to semiconductor chip shortage and sell generators out West as they dealt with Mother Nature’s rough treatment.

Income, Consumption and Inflation

According to the Commerce Department, last month personal incomes rose 0.3% compared to the consensus 0.2% rise expected while personal spending was flat versus the -0.1% pace expected. The personal consumption expenditure (PCE) price index excluding food and energy, the Fed’s preferred inflation yardstick, rose 0.3% in March from February and 4.6% from a year earlier. That was in-line with expectations and above the headline PCE deflator reading of a 4.2% annual increase. The Fed’s target for annual inflation is 2% so the economy is still running more than twice as hot as desired. Meanwhile, the quarterly employment cost index (ECI) rose 1.2% in the first three months of the year, above the 1.1% pace expected in a Bloomberg survey of economists.

These figures give more evidence to the assumption that the Fed will increase their benchmark interest rate at 0.25% when they meet next week in Washington, D.C. during the regularly scheduled Federal Open Market Committee meeting. The so-called “supercore” reading of service prices excluding housing and energy services rose 0.2% in March which is a still too-high 4.5% annualized rate. We always believed that the very high inflation figures reported last summer were temporary because they were boosted by goods inflation and continued supply chain issues. Even when those bottlenecks improved as the year progressed and calendar turned, we understood that the stickiest portion of prices were going to be concentrated in these service sector areas. Dentists do not put root canals on sale. When was the last time a shave and haircut price went down? Watching D.C. area sports teams games has not become any easier to endure and certainly not cheaper to attend. The prices for these services may not be rising at the inflationary pace indicative of the 1970s, but they are certainly intensifying above the meager 2% target the Fed is looking for.

This is being fueled by unemployment levels not seen for nearly five decades. This week’s initial unemployment data, a more timely indicator than the monthly payroll report, showed 230,000 claims being filed. Yet, that was still 15,000 below the prior week and about 18,000 below expectations. Nevertheless, there may be some slowing in the momentum. On an inflation-adjusted basis, goods prices fell 0.4%, the most in three months, thanks primarily to motor vehicle purchases. Services crept up 0.1% thanks to utilities. That data reflects the past. What the Fed is more worried about is the future. According to the University of Michigan consumer survey, this month buyers are expecting inflation to climb at an annual rate of 4.6% over the next year, up from the 3.6% rate expected in March. Also, consumers expect an average of 3.0% in the next 5-10 years, up from 2.9% in March. This is the opposite of what the Fed wants to see. Inflationary expectations become self-perpetuating. This is exactly what happened in the hyper-inflationary 1970’s, and the Fed is loathe to see it repeated in the 2020’s. That would mark a clear failure of their plan to raise their benchmark rate so sharply if it did not anchor future expectations at a low level.

Fed expectations

All eyes now turn to the Fed meeting which will conclude on May 3. According to the CME’s FedWatch Tool, there is currently a 87.7% chance they will raise their benchmark range to 5.00%-5.25% from the current 4.75%-5.00%. The summary of economic projections released by the Fed after their March meeting included a “terminal rate” of 5.1% for federal funds which would be squarely in that range. However, for the June 14 meeting, the futures markets are predicting a 26% chance that range will rise to 5.25%-5.50% suggesting another 25 basis point kicker. There is a 65% probability that rates will not change at that meeting, and the Fed will thus move to a pause or potentially be completely done. We would view it as a toss up at this point given that between the May and June meetings there will be a deluge of data including monthly payrolls, updated consumer and producer price indices, up-to-date home sales trends and another round of PCE data for April. Seeing how the environment really changed following the collapse of Silicon Valley Bank in early March, it would be premature to come to any conclusion at this point given that banking pressures still are bubbling below the surface. Stay tuned!

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