favorable economic news supports equity markets

Equity markets trickled higher last week as the Dow Jones Industrial Average gained 0.7% and the S&P 500 Index rose 0.3%. 

 

There was no singular force behind the modest gains last week, but a series of upbeat economic releases encouraged buyers to enter the market. 

 

Small business owners provided a bit of positive news when it was reported that the NFIB Small Business Optimism Index rose 1.5 points to 93.2 in November.  Optimism is tepidly on the rise since reaching a series low of 81.0 in early 2009, however, at current levels, the index is still mired well below what is considered “normal” for an economic recovery. 

 

Source: National Federation of Independent Business

 

The challenge, as we discussed previously, is that small businesses continue to cite a lack of sales and an uncertain tax environment as the two most important issues.  Taxes have been an ongoing worry since the survey began, but concern about sales has never been higher. 

 

Source: National Federation of Independent Business

 

There are some indications that the sales environment is beginning to turn a corner and this holiday shopping season will offer a degree of reprieve for retailers. 

 

On Tuesday, the Commerce Department reported that retail sales jumped 0.8% in November, slightly ahead of economists’ expectations.  In addition, retail sales for October were revised up to a 1.7% increase from 1.2% previously. 

 

The largest gains were evident at gas stations and in the clothing sector.  Spending on gas will remain burdensome in the months ahead as the average price for a regular gallon of gas now stands at $2.98, based on a daily survey from AAA.

 

Source: Bespoke Investment Group

 

Over the past three months, retail sales jumped 14.6% on an annualized basis. 

 

The theme of this holiday season, perhaps unsurprisingly, is the rising domination of online retailers.  Internet retailers account for 8.3% of overall retail sales, a comparably small piece of the retail pie, but the trend has been distinctly up for online sales. 

 

Source: Bespoke Investment Group

 

As we peek out onto the horizon, some market prognosticators think the recent rise in interest rates will hurt equity returns over the next twelve months due to the impact it will have on the broader economy.  However, make no mistake, 2011 could be the sweet spot for the economy and the stock market. 

 

A well documented phenomenon will be at work next year – the Presidential Cycle.  The latter half of a Presidential term is generally the strongest, with year three far and away the most fruitful. 

 

Equity markets, as measured by the S&P 500 Index, rose 94% of the time during year three of the cycle, for a median gain of 18%. 

 

Source: NY Times

 

One thing the President may not be ready to deal with is the potential for a downgrade of the AAA rating currently enjoyed by the US. 

 

Credit rating firm Moody’s threatened just that course of action when mentioning that an extension of Bush era tax cuts could lead the firm to downgrade the outlook to negative for the US.  That would undoubtedly put a damper on the year three celebration. 

 

On the housing front, homeowners learned that 22.5% of all residential properties were in negative equity at the end of the third quarter.  While still extremely high, this was below the 23% in the second quarter and is hopefully the start of a trend towards greater affordability in the housing markets. 

 

is inflation ready to make its grand entrance?

Last week we found out that consumer inflation was up a measly 0.1% in November while producer prices faced a 0.8% increase.  The pricing dichotomy between producers and consumers is gaping ever wider, but with the economy recovering, is it now time for consumers to share in the pricing pain? 

 

Beginning at the producer level, the Producer Price Index (PPI) for Finished Goods is up 3.5% in the past year.  Remove food and energy costs and the core PPI is up a more favorable 1.3% in that timeframe.  November’s pickup was primarily attributable to a 2.1% increase in energy costs but this is a problematic issue for producers. 

 

Source: Federal Reserve Bank of Cleveland

 

Consumers are faring better throughout this process, but similar increases in energy costs are providing an ever larger headwind. 

 

Source: Econoday

 

Researchers at the Massachusetts Institute of Technology recently unveiled a database that aggregates online prices of five million separate items.  Based on their analysis, inflation might be running a bit hotter than the government indices at slightly north of 2%.  

 

Source: MIT

 

For as much attention as inflation garners, it still appears to be a far off concern, for consumers at the least.  Consumers should also understand that when the time for price increases does materialize, producers will be sure to make up for lost time and lost profits by funneling those increases through in rapid fashion.

 

the week ahead

As we approach the end of the year, economic releases will be few and far between. 

 

Economic releases of note this week include the final revision for third quarter GDP, personal spending and the University of Michigan consumer sentiment survey. 

 

The Organisation for Economic Co-Operation and Development publishes an in depth economic survey of the Spanish economy on Monday.  Greece is also expected to vote on its budget for 2011, which includes a number of harsh austerity measures.   

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