09 Jul 2004 A Little Rain on the Parade
Perhaps the Fed has been correct in its view of the economic recovery and the patience they have demonstrated in raising rates. Many have criticized their reluctance to raise rates faster feeling that it is important to achieve what they believe are market neutral rates sooner rather than later. But maybe they have it right after all and have chosen the correct pace for rate hikes. Too fast a pace might choke the recovery. Tuesday’s release by the ISM showed the service economy growing more slowly than expected. The index dropped to 59.9 in June from a 65.2 reading in May, the lowest since December. The number still represents economic expansion, just not as fast as has been the case in the first few months of this year.
The ISM report follows less than dazzling job growth and car sales numbers released last week. Perhaps of greatest concern are the numbers just released by WalMart; considered my many to be a proxy for the health of theU.S.consumer. They reported that they missed analysts’ rather meager sales-growth expectations as did Target Stores. Both companies expect the weakness to continue into July.
These results are particularly surprising given the glowing consumer confidence of late. The Conference Board said last week that its measure of consumer confidence hit a two-year high in June, mirroring a similar, earlier reading on June consumer sentiment from the University of Michigan. Rising prices for staples and gasoline might be starting to restrain spending.
On the job front news was better. The number of U.S. workers filing new claims for jobless benefits dropped to 310,000 last week, the lowest since October 2000. But the government hedged by saying the number was likely lower than it should be as fewer auto factories shut to retool than it predicted. Auto plant shutdowns make these numbers hard to interpret in July. The economy has created 1.3 million jobs so far this year, the biggest six-month gain since December 1999 – May 2000 according to Bloomberg, and economists expect gains to continue. The New York Conference Board reports that confidence among chief executives in the economy held near a 20-year high in the second quarter, with more than 70% of corporate leaders surveyed saying conditions are better than six months ago.
Oil prices have given the stock market the most trouble of late. Yesterday, when crude-oil futures jumped more than 3% to over $40 per barrel, the major indexes tanked. The Dow Jones Industrial Average closed at 10171.56, down 68.73 points. The Nasdaq Composite Index, which was down a few points earlier on disappointment with Yahoo’s results, fell 1.6% to close at 1935.32.
Summer is a traditionally slow time for many industries and usually for the market as well. It would be a mistake to project economic or earnings trends on recent data. But the rather dramatic turnaround in several key indicators bears close scrutiny. There have been some winners. The best performers have been companies in the Steel, Gold, and Oil & Gas industries. The worst performers for the past month have been healthcare distributors, application software, advertising, and general merchandise.
Earnings will be coming out in the weeks ahead. There have already been a few negative surprises as analysts’ estimates may be too optimistic given the fast pace of growth in the preceding three quarters. Stock prices have been weak in response to the few earnings disappointments as well as on terror and oil news. But valuations remain realistic if not low, given the prospects for earnings growth ahead. Oil is expected to decline in price and if terror threats dissipate, we will likely see prices resume an upward path.