Wednesday, June 8, 2016

Still more encouraging signs

The economy hasn't been doing too well this year, if we judge its health by reported GDP (a mere 0.8% annualized growth in the first quarter), the latest jobs number (a gain of only 38K jobs in June) and productivity (down at an annualized rate of 0.6% in the first quarter).

I've remained generally optimistic despite the disappointing headlines. For the past two months I've had several posts highlighting encouraging developments in the economy that suggested at the very least a recession was quite unlikely, and that hinted at a bit of improvement. Here are a few more encouraging developments that keep me optimistic:

The folks at Challenger, Grey and Christmas keep a tally of all the publicly-announced corporate layoffs. Last month was among the four lowest monthly totals in the past 17 years, as the chart above shows. The oil exploration and drilling sector of the economy was responsible for most of the outsized layoffs over the past year, but that is now a thing of the past. 

The active rig count (above) appears to have stabilized and even increased in the past week.

As the above chart of oil futures prices shows, oil prices have almost doubled since their low last February. The crisis in the oil patch is a thing of the past.

The BLS keeps a record of job openings across the economy. April's total was a record high—almost 5.8 million job openings. That's up 26% in the past two years. 

According to the Case-Shiller Home Price index, the average price of a home in the U.S. has increased over 30% in the past four years. As the chart above shows, the volume of new mortgage purchase applications (not including refis) is up over 50% since the beginning of last year. The housing market is definitely getting back on its feet.

As the chart above shows, industrial metals prices are up over 25% in the past 5 months. And it's not just because the dollar has weakened. Measured against the super-strong Swiss franc and Japanese yen, these same metals prices are up over 20% and 15%, respectively. This suggests that global industrial activity has firmed.

The chart above shows that the dollar value of the Brazilian stock market is up almost 70% in the past five months, helped, no doubt, by the rebound in commodity prices and the prospect of a new, less corrupt administration.

5-yr Credit Default Spreads, shown in the chart above, are an excellent indicator of credit trends. Spreads have been narrowing meaningfully for the past four months, and are now at levels that are consistent with conditions that are almost "normal." The bond market has recovered a good deal of the confidence it lost in the wake of the problems with China and in the oil patch. Spreads on high yield energy bonds have collapsed from a high of 2000 bps to now just over 800. Central banks' generous provisions of liquidity have allowed markets to adjust to wrenching changes without dragging down the entire economy. Healthy financial markets are the best kind of "shock absorber" for events in the real economy.

Bank lending has been constrained not by the Fed, but rather by a lack of confidence, a general desire on the part of businesses and households to deleverage, and by the strong, risk-averse regulations imposed on the banking industry by the Dodd-Frank law. Despite these headwinds, C&I Loans have been increasing at double-digit rates for the past several years.

Total Bank Credit has increased at an 8% annualized pace over the past 2 years. Yet despite these sizable increases in credit extended by the banking sector, leverage in the business and household sectors remains relatively low.

The news out of China has been improving on the margin in recent months. China's forex reserves (the red line in the chart above) have been relatively stable in the past four months, as has the yuan. Declining reserves would have meant that the central bank was pegging the currency at a level that was "too high" relative to the dollar. Relative to its trading partners, the Chinese currency has been stable for the past year or so.

Despite all these encouraging signs, 10-yr Treasury yields are down to very low levels. This suggests that the market is viewing the good news with a healthy dose of skepticism, fearful that things are more likely to deteriorate than to improve further. 

As I've argued for many years, risk aversion is still the order of the day.


Benjamin Cole said...

Great post.

I do wonder if "risk aversion" explains declining government bond yields, or rather abundant capital and declining inflation.

Toyota Finance (part of the motor giant) plans to issue bonds that pay negligible interest.

Interest rates have been falling since the early 1980s.

William McKibbin said...

Here are some charts that some may find useful...

vg said...

It would be interesting to see an overlay of running delinquency/default rates on the C&I Loans chart. Does an uptick in that measure give you any pause?

steve said...

Having been a bond trader for over 20 years I think I can say without any compunction that there is more than just risk aversion going on in the bond pits that is driving yields to historic lows. What it is exactly-I don't know (neither does anyone else) but I SUSPECT it's a combination of factors; for sure there's some complacency, the bond market has been a very low volatile and high return vehicle for literally DECADES, inflation has been in check for same period also, stocks have been a very high volatile and modest return vehicle since 1999 (about 5% return and stupid volatility), so investors are "scared" of stocks (risk aversion) and view bonds as easy road to stable returns. It should go without saying that eventually they will get seriously burned of course. Few bond investors have witnessed drawdowns of 25% or more which can (and at some point most certainly will) happen when yields back up considerably.

Benjamin Cole said...

Steve--in your 20 years, did yields on Japanese bonds ever go up and stay up?

Why would they in future?

Scott Grannis said...

vg, re C&I Loan delinquency rates: I've commented on this in a previous comment on a recent post but it bears repeating. The delinquency rate for C&I Loans is up on the margin (to 1.5% from an all-time low of 0.7%) but it is still very low from a long-term historical perspective (30-yr average rate is 2.8%). From 1987 (earliest data) through mid-2005 the delinquency rate never fell below 1.5%. Similarly, the charge off rate (loans entering what is expected to be default) is up on the margin to 0.4% from a recent low of 0.2%, but still very low compared to the 30-yr average charge off rate of 0.9%. Recessions have typically begun when the charge off rate exceeds 1% or so. The charge off rate for all bank loans and leases is currently 0.5%, and that is about as low as the rate has been for the past 30 years (it has ranged from 0.4% to 3.0%, averaging 1.0%). In sum, things look pretty good, but it's fair to say that there is some modest deterioration in the outlook on the margin.

steve said...

Ben, no yields on japanese bonds did not and THAT is my point; once the possibility of an event that most certainly could happen is discounted to zero then you enter a very dangerous mindset. Just because it hasn't happened YET doesn't mean it can't happen ever. Bonds got HAMMERED in the 1970's. I am not calling for this to occur anytime soon but I remain vigilant.

Benjamin Cole said...

Steve--good answer.

Yields keep going down for now.

Big rally in bonds and gold.

For 30 years msinstream economists have predicted higher inflation and interest rates.

The Chicago Cubs look good this year...