Archive for April, 2014
Looking at Gross Output
Eddy Elfenbein, April 30th, 2014 at 3:44 pm
From Gary Alexander at Navellier Market Mail:
To the Rescue – a New (and Better?) Way to Measure the U.S. Economy
Last Friday, the Bureau of Economic Analysis (BEA) introduced a new number, one that I have been waiting to see for a long time. I’ve known about this new and better method of measuring the economy since 1990, when Dr. Mark Skousen developed the rationale for a new way of looking at the economy in his book, “The Structure of Production.” At the time, I was editing Skousen’s newsletter, where he also examined the investment implications of his theory, which focuses on the earlier stages of production.
In short, the Gross Domestic Product (GDP) statistic only covers final sales – end sales –the cost of the finished goods bought by consumers, government and businesses. In the fourth quarter of 2013, our $17 trillion economy (i.e., GDP) was composed of 68% consumer spending, 18% government spending, 16% in business investments and -2% for our trade deficit. We keep hearing that the consumer controls over two-thirds of GDP, which is true, but that’s only because GDP ignores the earlier stages of production.
It doesn’t make sense to ignore business-to-business transactions in the GDP. Businesses spend more than consumers do, but businesses (16% of GDP) are dwarfed by consumers (68%) in the GDP’s accounting.
Here’s why that doesn’t make sense. Only about 12% of private-sector jobs are in retailing, and those are some of the lowest paying jobs in America. Most people work for companies that sell to other businesses.
And if “the consumer controls the economy,” why does the widely-followed Index of Leading Economic Indicators fail to include retail sales or any other form of consumer spending? As you can see from the following list, the 10 Leading Indicators are nearly all business-oriented:
The 10 Leading Economic Indicators:
Weekly hours worked by manufacturing workers
Average weekly initial applications for unemployment insurance
Manufacturers’ new orders for consumer goods and materials
ISM Index of new orders
Manufacturers’ new orders for non-defense capital goods
New building permits for private housing units
The S&P 500 stock index
The leading credit index
The spread between long and short interest rates
Average consumer expectations for business conditions
These 10 “leading indicators” clearly comprise a barometer based on business, not consumer, activity.
The first-ever release of this new quarterly measure – which uses an inelegant adjective (Gross Output) to create a great acronym (“GO”!) – says the total U.S. economy topped $30 trillion at the end of 2013, vs. $17 trillion for GDP. Consumer spending remains at $11.6 trillion (68% of GDP), but that’s only 39% of Gross Output. Government spending remains at $3.1 trillion (18% of GDP, but 10% of GO), while the portion allocated to business expands from 16% of GDP to the majority (51%) of national Gross Output.
In the roundest possible numbers, Gross Output is 50% business, 40% consumer and 10% government.
Fans of the GDP tell us that the consumer controls the economy, but Gross Output shows us, in the words of Skousen, that “consumer spending is largely the effect, not the cause, of prosperity.” Businesses create the products consumers eventually buy, and those products come from innovation, technology and capital investment. While GDP measures final output, it takes risk capital and imagination to know where that money is best spent – including mining, manufacturing and transportation, all leading to final demand.
The manufacturers and shippers and designers are vital components of the economy, creating jobs and adding value. A $300 wood table, for instance, involves several stages of production – from harvesting trees for lumber, which is used to shape the boards necessary to manufacture the table. Along the way, each business is paid cash. In the GDP, only the $300 table is counted, ignoring all other transactions.
Gross Output Tends to Grow (and Fall) Faster than GDP
The building blocks of Gross Output have been around for decades. In previous years, the BEA reported Gross Output on an annual basis, but with a long time delay. The breakthrough last Friday was the first-ever quarterly reporting of Gross Output on a timely basis. The building blocks of Gross Output came from the Russian-American Nobel Prize-winning economist Wassily Leontief, who developed the first input-output tables, which he regarded as a better measure of the economy than GDP. According to Skousen, I-O measured “intervening steps” in “a complex series of transactions…among real people.”
Gross Output is like GDP on steroids. Gross Output tends to rise or fall faster than GDP. In a downturn, business spending declines even faster than consumer spending. In 2009, for instance, nominal GDP fell by only 2% (with large business declines partially offset by large increases in government spending). In the same year, GO collapsed by over 7% and intermediate inputs fell by 10%. Wholesale trade fell 20%.
The Fed Tapers Again
Eddy Elfenbein, April 30th, 2014 at 2:09 pm
The Federal Reserve decided to taper by $10 billion; that’s $5 billion less in Treasuries and $5 billion less in mortgage-backed securities. Starting in May, the Fed will buy $25 billion each month of Treasuries and $20 billion of MBS.
Information received since the Federal Open Market Committee met in March indicates that growth in economic activity has picked up recently, after having slowed sharply during the winter in part because of adverse weather conditions. Labor market indicators were mixed but on balance showed further improvement. The unemployment rate, however, remains elevated. Household spending appears to be rising more quickly. Business fixed investment edged down, while the recovery in the housing sector remained slow. Fiscal policy is restraining economic growth, although the extent of restraint is diminishing. Inflation has been running below the Committee’s longer-run objective, but longer-term inflation expectations have remained stable.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee expects that, with appropriate policy accommodation, economic activity will expand at a moderate pace and labor market conditions will continue to improve gradually, moving toward those the Committee judges consistent with its dual mandate. The Committee sees the risks to the outlook for the economy and the labor market as nearly balanced. The Committee recognizes that inflation persistently below its 2 percent objective could pose risks to economic performance, and it is monitoring inflation developments carefully for evidence that inflation will move back toward its objective over the medium term.
The Committee currently judges that there is sufficient underlying strength in the broader economy to support ongoing improvement in labor market conditions. In light of the cumulative progress toward maximum employment and the improvement in the outlook for labor market conditions since the inception of the current asset purchase program, the Committee decided to make a further measured reduction in the pace of its asset purchases. Beginning in May, the Committee will add to its holdings of agency mortgage-backed securities at a pace of $20 billion per month rather than $25 billion per month, and will add to its holdings of longer-term Treasury securities at a pace of $25 billion per month rather than $30 billion per month. The Committee is maintaining its existing policy of reinvesting principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities and of rolling over maturing Treasury securities at auction. The Committee’s sizable and still-increasing holdings of longer-term securities should maintain downward pressure on longer-term interest rates, support mortgage markets, and help to make broader financial conditions more accommodative, which in turn should promote a stronger economic recovery and help to ensure that inflation, over time, is at the rate most consistent with the Committee’s dual mandate.
The Committee will closely monitor incoming information on economic and financial developments in coming months and will continue its purchases of Treasury and agency mortgage-backed securities, and employ its other policy tools as appropriate, until the outlook for the labor market has improved substantially in a context of price stability. If incoming information broadly supports the Committee’s expectation of ongoing improvement in labor market conditions and inflation moving back toward its longer-run objective, the Committee will likely reduce the pace of asset purchases in further measured steps at future meetings. However, asset purchases are not on a preset course, and the Committee’s decisions about their pace will remain contingent on the Committee’s outlook for the labor market and inflation as well as its assessment of the likely efficacy and costs of such purchases.
To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that a highly accommodative stance of monetary policy remains appropriate. In determining how long to maintain the current 0 to 1/4 percent target range for the federal funds rate, the Committee will assess progress–both realized and expected–toward its objectives of maximum employment and 2 percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial developments. The Committee continues to anticipate, based on its assessment of these factors, that it likely will be appropriate to maintain the current target range for the federal funds rate for a considerable time after the asset purchase program ends, especially if projected inflation continues to run below the Committee’s 2 percent longer-run goal, and provided that longer-term inflation expectations remain well anchored.
When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent. The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.
Voting for the FOMC monetary policy action were: Janet L. Yellen, Chair; William C. Dudley, Vice Chairman; Richard W. Fisher; Narayana Kocherlakota; Sandra Pianalto; Charles I. Plosser; Jerome H. Powell; Jeremy C. Stein; and Daniel K. Tarullo.
Dept. of Misleading Stats
Eddy Elfenbein, April 30th, 2014 at 10:04 am
One of my pet peeves is misleading statistics. It’s one thing when facts are simply wrong, but it’s another when the numbers are accurate but they’re presented in such a way as to tell a different story.
This morning, Brett Arends, one of my favorite columnists at the WSJ tweeted this out:
Over 90% of the returns from US stocks since 1927 are an illusion caused by inflation pic.twitter.com/jOIUfu8mL6
— Brett Arends (@BrettArends) April 30, 2014
Is that right that inflation has eaten up 90% of stock gains? Yes, but no. The chart is accurate, or at least it looks similar to my data. The problem is the 90%. The reason why is that it uses a linear measure against compound growth. I’m throwing out my red flag. When you mix those two measures, the 90% figure is meaningless. All it really tells us is that inflation averaged about 2.8% per year (growth of 2.78% for 84 years equals tenfold).
Put it this way: If you have any data series with positive inflation, after a long enough period, inflation will reach “90%.” The nominal figure will by definition grow faster, and those gains will compound themselves.
If the stock market returned 10% per year in nominal terms and real returns averaged 9.9%, after 2,300 years, by the methodology described, inflation will have taken 90% of the gains. The numbers are correct, but interpretation is misleading.
Here’s another example of misleading stats. Please bear in mind that I’m not saying the numbers are incorrect, just how we read them.
You’ll often hear that from the March 2000 peak to the March 2009 low, the stock market lost 46% (the Wilshire 5000). That’s correct. But if you take a starting point 18 months before the peak, and an ending point one year after the low, then the market made 78%. It’s true that I’m being selective with my data, but what’s so special about measuring from the peak to trough?
What if the Stock Market Were a Bond?
Eddy Elfenbein, April 30th, 2014 at 9:39 am
Here’s an update to one of my more off-the-wall ideas. I was curious to see what the historical performance of the stock market looks like, but in the form of a bond.
Crazy? Let me explain.
I took all of the historical market performance of the Wilshire 5000 (including dividends) and invented a hypothetical long-term bond that matched the market’s daily gains step-for-step.
I assumed that it’s a bond of infinite maturity and pays a fixed coupon.
There’s one hitch, though. I have to choose a starting yield-to-maturity for the beginning of the data series in December 1970. So this isn’t a completely kosher experiment because the starting point is based on my guess.
If I choose a number that’s too high, the historical performance won’t be able to keep up, and the yield-to-maturity would grow higher and higher and soon leave orbit. Conversely, if my starting YTM is too low, the yield would gradually get pushed down to microscopic levels.
Fortunately, the data makes my job easy. After four decades, the window I have to work with is pretty narrow. Starting with 10% is too high, and 8% is too low. After playing with the numbers, I finally settled on 8.93%.
Even though this “bond” is completely make-believe, it reflects what the actual stock market really did for the past 43 years. Through yesterday, the “bond’s” yield stood at 5.63%.
Here’s what the actual stock market looks like, expressed in the form of a bond:
Q1 GDP Growth = 0.1%
Eddy Elfenbein, April 30th, 2014 at 9:27 am
The government reported that the economy grew by a measly 0.1% in the first quarter of this year. That’s a terrible number. Obviously, the weather was an issue, but even so, 0.1% is very bad.
This was the worst quarter for the economy since the first quarter of 2011. We barely came in below the growth rate of the fourth quarter of 2012. Over the last seven years, the economy has grown by 8.3% in real terms. In the last 32 quarters, economic growth has topped 3.2% only five times. The U.S. economy grew less over the last 14 years than it did in the seven years prior to that.
Morning News: April 30, 2014
Eddy Elfenbein, April 30th, 2014 at 6:24 am
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Four Buy List Earnings Reports
Eddy Elfenbein, April 29th, 2014 at 7:34 pm
After the closing bell, we had four Buy List earnings reports. Here’s a summary:
AFLAC ($AFL) actually reported results slightly before the closing bell, but it’s the same story we know well. The supplemental insurance company is doing very well businesswise but the yen is eating their profits. For Q1, AFLAC had operating earnings of $1.69 per share. The weak yen knocked off ten cents per share. Excluding currency, operating earnings were up 5.9% from a year ago.
Now for guidance. For Q2, AFLAC sees earnings ranging between $1.54 and $1.68 per share. That’s pretty good. Wall Street had been expecting $1.58. The downside is that AFLAC lowered their full-year guidance. The original range was $6.31 to $6.49 per share. Now it’s $6.06 to $6.40 per share. Those estimates are based on a yen/dollar rate between 100 and 105. The stock got a nice jump in the last few minutes of trading on Tuesday.
Now on to eBay ($EBAY) which gets a lot of attention on the Street. The company reported Q1 adjusted earnings of 70 cents per share which beat the Street by three cents per share. Officially, eBay lost $2.3 billion last quarter going by net earnings but that’s because they took a massive tax charge in order to repatriate foreign earnings.
For Q2, eBay sees earnings of 67 to 69 cents per share which was a tad below the Street’s consensus of 70 cents per share. Importantly, eBay reiterated their full-year guidance of $2.95 to $3.00 per share. Wall Street is at $2.99 per share. These numbers are pretty much what I expected, although the shares were down 4.3% in the after-hours market.
Express Scripts ($ESRX) reported Q1 earnings of 99 cents per share which was two cents below expectations. One troubling note is that they lowered their full-year guidance by six cents per share at each end. The new range is $4.82 to $4.94 per share, but that’s still year-over-year growth of 17% to 20%. The shares were down more than 5% in the after-hours market.
Fiserv ($FISV) may be the big star of this earnings season. For Q1, they made 82 cents per share which easily beat Wall Street’s estimates of 74 cents per share. Earnings were up 22% from a year ago while quarterly revenue was up 7.1% to $1.23 billion which also beat expectations. Fiserv reaffirmed full-year guidance of $3.28 to $3.37 per share which represents growth of 10% to 13%. The stock rallied 1.25% today, and was up another 3.1% in the after-hours market.
Eddy Elfenbein, April 29th, 2014 at 11:47 am
It wasn’t that long ago that Europe was falling apart. The economies there are still in rough shape, but their stock markets are doing well. The lesson for investors is that things do turn around, it’s just a matter of time.
Here’s a look at the ETFs for Spain ($EWP), Italy ($EWI) and Germany ($EWG). I also included the S&P 500 for comparison.
Another Lucky Tuesday
Eddy Elfenbein, April 29th, 2014 at 11:02 am
The stock market is up again today, at least by a little bit. Interestingly, Tuesdays have been the lucky day of the year. So far, the S&P 500 has risen on 13 of the 15 Tuesdays in 2014.
Today is also a big day for earnings. We have four Buy List stocks due to report after the close. This is also the beginning of a two-day Fed meeting, so expect a lot of news this week.
In yesterday’s market, we saw a big split between value and growth stocks. That’s continuing today, but not as wide. The split between Value and Growth, which has been so big last month, slowed down over the past few weeks, but it’s heated up again. This could last for a while.
In economic news, today’s Case-Shiller Index showed that home prices rose 12.9% over the past year through February. Also, consumer confidence fell a bit in April. The Conference Board Index dropped from 83.9 to 82.3. Consumer confidence is still near a six-year high.
A quick word about the bond market. I’ve been surprised at how steady rates have been. The 10-year yield has been locked in a trading range, between 2.6% and 2.8%, for three months. The bond market has been much stronger this year than I expected.
Yesterday, Bank of America ($BAC) dropped sharply today after the company said it was abandoning its dividend increase and share buyback plan. The bank said it discovered flaws in the info it provided to the Fed for its stress test. BAC had planned to raise its dividend from one penny to five cents per share. That’s embarrassing but they did the right thing by coming clean. By many measures, BAC seems cheap, but I won’t even consider it until they start paying a respectable dividend.
One interesting note about BAC. Due to its low share price, it’s a favorite among traders. The stock usually tops the daily list of high volume stocks. BAC trades an average of 109 million shares each day. Wow! That’s more than 4,600 shares every second, and it’s much higher than that towards the opening and closing bells. Yesterday, BAC traded an astounding 344 million shares, including 20 million in the first five minutes.
Morning News: April 29, 2014
Eddy Elfenbein, April 29th, 2014 at 6:45 am
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