If you find yourself looking for something to worry about, the recent string of economic data just might fit the bill. In fact, immediately following the release of the reports on ISM Manufacturing (designed to indicate the health of the manufacturing sector), Nonfarm Payrolls/Unemployment, and yesterday's ISM Non-Manufacturing (designed to indicate the state of the services sector) the stock market dropped.
The thinking here is simple. All three reports came in weaker than expected which suggests that, as one analyst put it, "the economy has hit a roadblock." According to the computers at Ned Davis Research, the combined readings of the two ISM indices correspond to an annualized GDP growth rate of just 1.0%. So much for the resurgence of the economy in the second half of the year, right?
If you will recall, the big surprise in the ISM Manufacturing index last week was that the reading came in below the 50-level (which is the line in the sand between expansion and contraction) at 49.4. This was, of course, well below the expectations of 52.0 and was the steepest decline in nearly 2 years.
The bulls argued that this was not a reason for concern because the U.S. is no longer a manufacturing economy. Our heroes in horns immediately reminded us that it is the consumer that drives growth here in America and that weakness in the manufacturing sector isn't anything new.
So, imagine the surprise in the bull camp when the ISM Non-Manufacturing data was released. The headline index sank 4.1 points in August to a reading of 51.4. This was well below economist expectations and represented the third decline in the last four months. It was also the biggest drop since November 2008 as well as the lowest level the index has seen since February 2010. Ouch.
Digging into the report, the news didn't get much better. The New Orders component plunged 8.9 points to 51.4, reflecting what the report called "lower sales" and "project spending that has either been delayed or put on hold." This was the biggest decline in orders since January 2008, and the fourth biggest drop on record. Next, Business Activity fell 7.5 points, the most since November 2008, to 51.8. And finally, the Employment index eased 0.7 points to 50.7, suggesting that payrolls growth is slowing. Super.
So, since both the ISM indices came in punk and the jobs data was weaker than expected in August, one could easily argue that it is time for the stock market to remove the rose colored glasses and to start fretting about the economy entering yet another "soft patch." This at a time when most everyone is expecting a pickup in economic activity.
But, The Way The Game Works Is...
However, it is important to note that the decline in stocks that followed each report was brief. Instead of going back into freak out mode as we saw after the BREXIT vote, the major indices actually rebounded from their intraday lows each day. And yesterday, the Dow, S&P and NASDAQ all finished in the green with the tech-heavy NASDAQ Composite finishing at a new all-time high. Hmmm...
What gives, you ask? The answer is simple. The game is still all about Fed expectations. And the bottom line is that the recent data would seem to make it very hard for Janet Yellen to pull the trigger on a rate hike in a couple weeks. Some will argue that unless the three recent reports were "one offs" and the data perks up in the coming months, even a December hike may be unlikely.
This means that the "lower for longer" theme in interest rates remains intact, that global QE will continue to flow, and that the fancy carry trades that the big boys use can keep on keepin' on.
As for the economic outlook, it is also important to keep in mind that the services sector is still growing and that the economy is still producing jobs at a healthy rate (I actually saw a Now Hiring sign on the side of grocery store truck on the highway yesterday - that was new!).
This means that the "good enough" theme for the economy may also continue in the stock market. The idea is that the economy is strong enough for Corporate America to continue to crank out profits. And the bottom, bottom line is if profits improve, stocks can move higher.
However, with the economic data being placed in the not-so hot category, the election tightening up a bit in some areas, and the weak seasonal period just beginning, we shouldn't be too surprised if the bears find a way to get back in the game in the coming weeks. And as I've been saying for some time now, my view is that any "dip" in prices should be bought.
Current Market Drivers
We strive to identify the driving forces behind the market action on a daily basis. The thinking is that if we can both identify and understand why stocks are doing what they are doing on a short-term basis; we are not likely to be surprised/blind-sided by a big move. Listed below are what we believe to be the driving forces of the current market (Listed in order of importance).
1. The State of Global Central Bank Policies
2. The State of U.S. Economic Growth
3. The State of the U.S. Dollar
Thought For The Day:
Be not afraid of going slowly, be afraid only of standing still. -Chinese Proverb
Wishing you green screens and all the best for a great day,
David D. Moenning
Chief Investment Officer
Sowell Management Services
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