I’m sitting on a balcony in the Catalina Foothills near Tucson. It’s early and the city’s skyline sparkles in the morning sun. Behind me the rocks bordering Ventana Canyon change colors as the sun slides into view. But surrounding the city are several walls of dark clouds. Rain curtains seek the ground but dry in the desert air. Lightning crackles near Wasson Peak threatening the city with unseasonable rain. After all the monsoons are over.
It has been a week crisscrossing the west listening to clients, talking with commentators and economists, prognosticating a little myself, but mostly taking in many points of view. I’ve ended up in Tucson on my last stop before heading home. Naturally, the scene in front of me reminds me of the range of viewpoints in the market today.
FIRST, THE SHIMMERING SKYLINE
The economic news streaming into view online and off paints a reasonably optimistic picture of the U.S. economy:
- Employment gains are strong, with the published unemployment figures falling into a range that is often termed “full employment.”
- Debt service for households is at its lowest level in 40 years; higher in gross burden but lower in payments due to persistent low rates and refinancing of old, higher price debt.
- The stock markets worldwide have calmed after August gyrations to mimic a calm sea.
- Forecasts of U.S. economic growth are strong.
- Mergers and acquisitions cross the news crawlers every day announcing the consolidation or acceleration opportunities corporations see as places to spend their cash.
- Several speakers this week suggested equity market strength into and beyond 2019.
- Snippets of statements from some Open Market Committee members suggest that they are ready to go ahead and raise policy rates at the December meeting – pending a look at the numbers then, of course.
WAKING UP TO A CHANCE OF SHOWERS
Clouding up the enthusiasm a bit are these qualifiers.
- I’ve noticed that news channels and other commentators note frequently that the current refugee and migrant crisis engulfing Europe is the worst since World War II. A quick fact checking mission1 suggests that the numbers today are well below the 60 million impacted in the 1940’s, but the problem is still significant. I would think that this influx will have the dual impact of holding wage growth down in the EU and creating a drain on the Treasury for the countries accepting these people. This will be a drag on European growth.
- As mentioned here last month, the 10 year U.S. Treasury yield of about 2.00% today screams low inflation over that entire period – somewhere around 0.50%. Since the Fed has publicly stated an inflation goal of 2.00% this implied further easing action and a very low growth outlook for the entire decade.
- Several large corporations have announced significantly lower earnings, or expectations of declining results. This is worrisome both for the implications to employment and the potential for overall economic growth.
- Commodity prices seem to be the most reasonable indicator of economic growth. When prices for things like energy, agriculture, industrial metals, precious metals, and livestock are rising then the economy is likely headed up. On the other side of the coin as they fall or remain low not much growth is on the horizon. A quick peek at the Bloomberg Commodity Index2 shows that while energy boosted the index a bit in September, overall it turned back around and headed down.
- Median Household Income of $53,657, as of 2014 Census Bureau report, is lower today than it was 17 years ago in real terms.3
WATCH FOR POSSIBLE LIGHTNING STRIKES
Bankers have a reasonably valid reputation for looking at the dark side of any situation. Entrepreneurs sit down and enthusiastically outline the opportunity. The banker on the other side starts out with, “Yes, but...” What we are really doing is listing potential problems and then guessing their likelihood before agreeing with the presenter.
While I think the cup is 100% full all the time (partly with liquid, the rest with air), there are some clear and present dangers that lurk in the periphery of my economic vision:
- The Middle East. This one isn’t as simple as ISIL and other news making organizations. There are a variety of worrisome conflicts that sit on top of large oil reserves that power the world today. U.S. production has increased nicely, but at this point can’t take up the slack.
- After Turkey’s recent and tragic bombing, how will the pipeline and other agreements with Russia fare in a country with a changed attitude. Coupled with the troubles in Ukraine, does this initiate more conflict and would that impact natural gas deliveries to Europe?
- China’s increasing aggression in the South China Sea and beyond. Not a flash point yet but likely to become one over the next several years.
- There is a general consensus that the Fed policy of accommodation in its various forms has led to a rise in asset prices – primarily in equities and real estate. As I've mentioned before, one potential impact is that the benefit of these changes in value has fallen disproportionally on households holding these assets – essentially the top 8%. Without a broad participation in these gains there are risks of unrest and potentially adverse insertions of political solutions into the market which would likely create deceleration.
PUTTING IT ALL TOGETHER
As time ticks slowly towards the next reckoning days at the Fed, I remain cautiously optimistic. The economy staggers forward perhaps still a little stunned from the blows of the Great Recession. Supported by the Fed, economic activity continues to grow slowly but is held back, in part, by more pronounced stumbles in Europe and Asia. Observations at stops around the country reflect bustling visible activity in restaurants, on airlines, in shopping centers. But underneath we notice a few empty shops and some eatery closings that fade away from consciousness.
Looking up from the keyboard the clouds have mostly blown away or dissipated. I’m looking forward to a result like that from the economy next year.