The Economic Data calendar for the week of the 6th of May through the 10th is full of critical releases and events. Attached below is a snapshot of some (though far from all) of the headline numbers that we will be focused on.
Takeaway: Current Investing Ideas CAG, DRI, FDX, HOLX, MPEL, WWW
For the record, we love to say “We told you so!”
As we go to press, the Nonfarm Payrolls number rose more than expected. Official unemployment now stands at a four-year low of just under 7.5%. (Click here to read Hedgeye’s note from January 23). As far as we know, we were the only observers predicting that unemployment would drop into the Bernanke Fed’s newly-created target range below 7%.
OK, so we’re patting ourselves on the back for being right. But we also want you to get a peek under the hood and see how Hedgeye’s process hangs together. We’re proud of the fact that we time-stamp our research and our trade calls. Sometimes we’re right. Sometimes we’re wrong. At all times, we try to remain transparent.
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Jobs: If It Works, Don’t Not Count It
We just told you that Employment rose in April a lot more than people expected. But remember that the Jobs picture is not a single number. There are different forms of Employment, and there are a variety of measures of Unemployment. On both fronts, things are looking very good indeed.
Unemployment dropped this week, as measured by the Initial Claims count – people filing for unemployment insurance for the first time after losing a job. Actually, “plummeted” would be more accurate. Initial jobless claims were down 18,000 for the week ending April 27th, to 324,000. This is the lowest initial claims number since January 2008. Hedgeye Financials sector head Josh Steiner, who tracks such statistics, says “improvement in initial claims readings is diverging to the upside.” In other words, the rate at which things are getting better is getting better.
Steiner says the last four weeks show “a notably positive divergence,” with the last two weeks showing “the sharpest improvements.” Steiner looks primarily at Non-Seasonally Adjusted (NSA) initial jobless claims as a more straightforward measure (the government emphasizes Seasonally Adjusted in their reporting.) To build an investment thesis we need not just a good number, but a good trend. NSA initial jobless claims dropped -3.8% two weeks ago, -6.2% last week, and -8.6% this week. In other words, this week’s rolling NSA initial jobless claims were 8.6% lower than for the same period a year ago. This “improving improvement” – improving, and at an improving rate – is definitely “Mo’ better jobs data.”
Improvement in the jobs picture also has implications for financial stocks, where Steiner says “the strength in the underlying labor market over the last few weeks is strong enough to more than offset the seasonality distortions.” The combination of strong labor statistics, plus continued recovery in housing (see below) is “turning the sell-in-May dynamic on its head” for Financials that benefit from – guess what? – strong employment and strong housing.
Steiner cautions that historical models are based on a small number of data points, making statistical modeling uncertain, but “every economic cycle since the late 1970s has seen jobless claims trough at around 300K.” The actual number is an average of 288,000 initial jobless claims, tracing bottoms from 1978 through 2006. We’re still substantially above that level – leaving potential room for unemployment to fall significantly, if this up-cycle mirrors historical behavior.
Steiner says homeownership levels are “mean reverting” to long-term equilibrium levels.
Mean Reversion is a statistical concept that most people need to understand – because most people don’t want to believe it exists. The fact is that Mean Reversion explains an awful lot of what you thought was Free Will, not to mention the economy.
If you’ve ever gone on a diet, you probably experienced Mean Reversion. Most people have what medical folks call a “set weight,” the long-term average weight they tend to maintain. You can go on an eating binge and gain ten pounds, but you will likely shed most of it over the next few months and return to more or less your “set weight.” You can go on a diet and be thrilled when the scale shows you have lost ten pounds. But try as you might, over the next few months, your weight will likely creep back to your “set weight.” You have just experienced Mean Reversion, the statistical principle that, over long periods of time, most things tend to get back to where they pretty much have always been.
Observers of the housing market are concerned, saying that home ownership has “fallen to 1995 levels.” They are also confounded by what appear to be conflicting statistics: home ownership is declining, but housing prices are on the rise. The reality, says Steiner, is that housing is returning to a long-term equilibrium state.
The increase in home ownership from 1 was a statistical blip caused by home mortgage lending standards and loan practices by financial institutions that were “loose,” “irresponsible,” “wacko,” “criminal,” or (fill in the blank yourself).
Today demand for new homes is rising, and prices are shooting ahead based on a lot less new construction than we saw in the bubble years. Builders cut back their operations, with knock-on effects all down the supply chain. This has led to recent spikes in the prices of key inputs for home construction, like lumber and labor. Steiner notes that even distressed homebuilders such as Beazer Homes (BZH) now expect to be profitable in the second half of 2013, which bodes well for the overall Consumer picture – not to mention Steiner’s own sector, financial stocks.
Steiner expects homeownership levels to decline a bit more before settling in at what he considers a fair long-term Mean Reversion level at around the historical average of 64.4%. This would be about a 4%-5% drop from the highs of the bubble years, but the historical average is associated with lots of market stability. (This is a good moment to remind you that stock prices tend to go down in periods of uncertainty.)
The Homeownership Rate, as defined by the Census Bureau, means the percentage of homes that are owner-occupied (not the percentage of families that own their own home). Homeowners as a group tend to have larger families and be higher earners.
“Households were growing at a healthy clip” during 1, says Steiner. But the number of home owners was growing much faster, and not all were resident owners or people with higher incomes. We are all familiar with stories about cleaning ladies and window washers who were given seven-figure “NINJA” mortgages (No Income, No Job or Assets) to buy second or third homes as “investments.” In the aftermath of the housing bubble, the Mean Reversion decline in home ownership does not signal a disruption of new family formation, nor of new job creation. Think of it more like a healthy body expelling an infection.
Finally, President Obama has nominated Congressman Mel Watt to head the housing finance agency, a perch that would have him overseeing the Fannie Mae and Freddie Mac. Obama has praised Watt for his efforts on behalf of the consumer, particularly for his work on behalf of low-cost housing. Washington Republicans – joined by not a few on Wall Street – think “it is a bridge too far to believe that Republican senators are going to confirm a Democratic politician” to oversee the nation’s mortgage finance agencies.
Whatever your politics, Steiner says that if Watt is confirmed it would mark another significant positive catalyst for the housing market because he would facilitate underwater principal forgiveness for borrowers with Fannie/Freddie mortgages (roughly 40% of homeowners) – a move the current director has prevented.
In short: housing seems very well on track, even if in the short term it looks like numbers are going down. Keep your eyes on the prize of long-term growth and stability in the economy and let the politicians do what they do best – worry about covering their Fannie.
In the Marx Brothers’ “The Cocoanuts,” Groucho explains a real estate project to Chico and tells him there will be a viaduct from the peninsula to the mainland.
“Why a duck?” asks Chico. “Why not a chicken?”
If they read the academic literature – which Health Care sector head Tom Tobin has – corporate CFOs and benefits executives might be asking a similar question: Why a deductible?
Healthcare companies have been blaming poor Q1 revenues on the growing use of high deductible health plans (HDHP) which have gained in popularity as a way for employers to save money on their health insurance costs. HDHPs benefit employers up front, by shifting the expense of health care to the employee. But to the extent HDHPs affected health care revenues over the last few years, including these Q1 complaints, says Tobin, “there’s no evidence it works, and if it does, that headwind appears likely to reverse into a tailwind” before long.
Tobin says health care is one sector with exceptionally “poor visibility,” with little understanding as to why people do not show up for their appointments. Which doesn’t stop companies looking for causal factors – this year they are blaming HDHPs, gasoline prices and payroll taxes, among other demons.
But wait. There’s more.
Because the HDHP tailwind could reverse and become a headwind.
Tobin says many in the industry appear to believe the drop in utilization from HDHPs is permanent, but he believes providers will likely be surprised when utilization turns back up.
Academic studies indicate the decline in health care utilization from HDHPs, at least where it can be effective, is almost all felt in the first year. By the second year, the reduction is so small as to be statistically insignificant across total health spending. By year three, growth could actually return to normal.
HDHPs often use tax-advantaged employer funded personal savings accounts for employees to use to offset a portion of the increased deductible cost. Says Tobin, health care consumers are at least as smart as the insurance companies. He expects where an employee has a choice, they will opt for the HDHPs if they foresee major expenses – a chronically obese person planning gastric bypass surgery, a woman planning to have a baby – because many of these plans, though they charge more up front, get to 100% coverage much faster than standard employer policies. This may become an unpleasant surprise for employers and insurers who pushed HDHPs on their employees.
Says Tobin, “If a dollar of increased cost sharing led to more than a dollar of cost reduction, it will be true in reverse as well.” The string of disappointments in Q1, with a number of healthcare companies not meeting their earnings targets, could flip over into a “surprisingly” strong Q2… and beyond.
Not to be outdone by reams of academic research, Tobin has a less complicated reason why Q1 revenues were soft: the historically mild winter of 2012. When the weather is mild, people don’t cancel and reschedule doctor appointments, so there is no “roll-forward” effect on revenues. Looking back to a mild winter in 2011-2012, Tobin notes there was a strong Q1, followed by a weak Q2. This year he expects the pattern to reverse: a weak Q1 should be followed by strong revenues in Q2. If only corporate CFOs and Wall Street analysts could wait that long!
Major corporate benefits consulting firms produced huge studies, selectively promoting conclusions, and touting the benefits of HDHPs. This got a number of companies to sign up for the plans in 2009-2011, though adoption started slowing last year, which may be a sign that the benefits aren’t so clear in real life as they are in a PowerPoint presentation. Despite high fees being paid to benefits consultants, Tobin says the data is tough to penetrate. Most CFOs – and most health care providers – have no way of predicting what insurance usage rates will be. One piece of advice: if you want to save money on your employees’ insurance, arrange for lots of bad weather.
Corporate HR and financial executives may want to quote Groucho when they meet with their high-priced benefits consultants: “The next time I see you, remind me not to talk to you.”
“My inflation record is the best of any Federal Reserve chairman in the postwar period.”
- Ben Bernanke
Fiscal Policy is when the government establishes tax rates and budgets and decides how money will be spent. Monetary Policy is when the central bank establishes targets for interest rates and attempts to coax the financial markets towards those targets to manage inflation.
The Federal Reserve – the US central bank – runs monetary policy through Open Market Operations, buying or selling US Treasury bonds in the marketplace, putting additional money into circulation (“easing”), or taking it out (“tightening”), to adjust interest rates. Bond interest rates go up when the prices go down and go down when prices rise. Since Treasurys are by definition the interest rate benchmark, buying lots of them drives up the price – and drives down overall interest rates throughout the economy. And vice versa when the Fed sells lots of Treasury bonds, sucking cash out of the system and driving rates higher.
Former Fed Chairman Alan Greenspan spread cash liberally to stimulate growth in the economy through rock-bottom interest rates. Starting in 2011, Greenspan started pumping cash into the markets in an extended response to the tragic events of 9/11 and their lingering economic impact. By 2004, Greenspan had worked the Fed Funds rate down to 1%. The “Fed Funds” rate is the benchmark. It is the interest rate at which banks lend and borrow among themselves, using the Federal Reserve as their banker – the “lender of last resort” – an expression that has gotten way too much airtime in recent years.
Interest rates are the price the market charges you to use money. In an easing scenario, the Fed wants to make money cheap in order to stimulate spending and grow the economy. Greenspan’s heir, Ben Bernanke, inherited interest rates that were already at around 1%, so when he decided the economy needed further stimulus, there was not much room to ease. Standard open market operations can’t bring interest rates below Zero, so Bernanke had to figure out a way to pay banks to keep their own money. Taking a page from an economics textbook that had not yet been written, the Fed initiated a program of Quantitative Easing, or “QE.”
Simply put, QE means buying a variety of financial assets besides Treasurys, not as a way of directly setting interest rates, which open market operations do in the Treasurys market, but as a way of putting more money to work in the economy. The aim of QE is to flood the markets with cash to stimulate lending, borrowing and economic growth. Right now, Bernanke’s QE program consists of the Fed buying $85 billion a month of various bonds. This week Bernanke said Congress (fiscal policy) is hurting economic growth. This means QE may actually expand if the Fed believes the economy needs a stronger dose.
Bernanke is only slightly less deadpan in his delivery than his predecessor, but he is often easier to understand. To his credit, he is on record from the early days of QE as saying “we are in uncharted territory,” acknowledging there is no assurance that QE will work. Some observers believe it was awfully shrewd of Bernanke to move the goalpost, targeting unemployment at 6%, rather than any particular interest rate levels before it terminates QE. Others think this is positively daft.
But if Bernanke has already crowned himself World Heavyweight Champion on inflation, what’s left if not Employment?
Hedgeye was the first to go on record saying Bernanke will get his “6-handle” a lot sooner than anyone expected. Jobs are up, Unemployment is down. Housing is up. Consumption is up. Did QE work? Talk is that Bernanke will step down by the end of this year and no doubt wants to go out on a high note. This explains how all our tax dollars keep turning into Zeroes.
If you didn’t know, now you know.
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Takeaway: It’s a bull market. And consensus is nowhere near Bullish Enough.
This note was originally published May 03, 2013 at 11:18 in Macro
POSITION: 10 LONGS, 4 SHORTS @Hedgeye
Fundamentally, the most important data point this week was yesterday’s jobless claims report of 324,000. Our non-consensus bull case for US Equities continues to get more bullish as the market is rising. Weird, but cool.
Across our core risk management durations, here are the levels that matter to me most:
In other words, our model is now consistently signaling higher (all-time) highs of resistance and higher-lows of support. It’s a bull market. And consensus is nowhere near Bullish Enough.
Takeaway: U.S. employment improving is bullish for domestic consumption and positive for the U.S. dollar as Japan and Europe continue to ease.
The April Payroll data improved sequentially, confirming the acceleration observed in the NSA Jobless Claims numbers in recent weeks. Private and Nonfarm Payrolls both improved sequentially, the Unemployment Rate dropped to 7.5% alongside accelerating job growth across most age demographics, Temp employment growth accelerated and State & Local government employment growth continued to improve. Notably, the February & March NFP estimates saw a large positive revision with Feb revised from +268K to +332K and March revised from +88K to +138K for a combined 2M revision of +114K.
Below we revisit the idea of seeing a 6-handle in unemployment in 2013 and provide a summary review of the April employment trends observed across both the Current Population Survey (Household Survey), which drives the Unemployment Rate, and the Establishment Survey (CES) which drives the NFP Number.
6-Handle? Back in January, we examined the extent to which the variables driving the unemployment rate would have to move to push unemployment below 7% over 2013 (Will We See 6.5% Unemployment in 2013? ). The early conclusion was that while a sub-7% unemployment rate probably wouldn’t represent our baseline case, we wouldn’t view it as a tail probability either.
So, where do we stand currently?
Over the last 4 months, we’ve followed a path that pushes the probability a little closer to the heart of the curve. If we make the simplifying assumptions of stable population growth and a static Labor Force Participation Rate from here (the lowest level since May of ’79), we need to average net payroll adds of 233K/mo over the next 8 months to breach 7% on the downside in December.
If we use Nonfarm Payrolls as our proxy for monthly employment gains (note: the unemployment rate is determined using the Households survey of employment. The Household & Establishment survey, which produces the NFP number, can vary considerably on a month to month basis, but tracked closely on a trend basis) year-over-year growth would need to average ~1.85% over the balance of the year. With NFP employment growth averaging 1.58% and 1.62% over the last 6M and 12M, respectively, this equates to ~25bps acceleration from current levels.
Is a moderate acceleration in employment growth probable from here in the face of a negative seasonal distortion, a well-advertised fiscal policy drag and a slowing EU/China? Similarly, can we expect the marked (arguably surprising) accelerating improvement in the Initial claims data to extend itself further? I don’t know.
Economies are certainly reflexive and three important components – Labor, Housing, & Confidence – all continue to accelerate while household debt and debt service levels continue to decline. With the U.S. macro data looking good on an absolute basis, better than good on a relative basis, and equities in Bullish Formation from a quantitative Risk Management perspective, we’re continuing to manage gross and net exposure with a bullish bias towards domestic consumption oriented sectors and equities. We currently positioned 10 Longs, 4 Shorts in our Real-time Alerts with immediate term upside to 1626 in the SPX.
Non-Farm Payrolls (Establishment Survey): NonFarm Payrolls rose 165K in April on expectations of 140K and 88K prior with y/y growth accelerating 10bps sequentially to +1.6%. Private payrolls rose 176K on expectations of 150K and 95K prior (revised from 246) with y/y growth accelerating 5bps sequentially to +1.9%. Notably, the February & March saw significant positive revisions with Feb revised from +268K to +332K and March revised from +88K to +138K for a combined 2M revision of +114K.
Household Employment: BLS’s Household survey of employment showed total employment increased 293K sequentially with y/y employment growth accelerating 30bps sequentially to +1.3% y/y.
Unemployment Rate: The Unemployment rate dropped to 7.5% from 7.6% m/m. With Total Employment rising +293K and Total Unemployed declining -83K the dynamics driving the change in the unemployment rate improved vs. March where the decline was principally a function of the total unemployed (-290K) declining more than the decline in employed (-206K).
Labor Force Participation: The Labor Force Participation rate (LFPR) was essentially flat, ticking up to 63.32% in April vs 63.28% in March, holding at the lowest level since May of 1979. As a reminder, the LFPR = Total Labor Force (Employed + Unemployed)/Civilian Non-institutional Population. The Civilian non-institutional population was up +180K m/m (+1.0% y/y) while the total Labor Force rose by 210K (+0.5% y/y). A positive denominator and a slightly more positive numerator = a marginal increase in the Labor Force Participation Rate.
Employment By Age: With the exception of the 25-34 year old cohort, employment growth across all age buckets accelerated sequentially in April. Of note, and as it relates to our expectation for a recovery in births, employment growth within the key 20-34YOA female demographic remained positive, accelerating 80bps sequentially to 1.3% y/y.
Part-Time & Temp Employment: Part-time employment (household survey) increased 107K m/m while Temp employment (establishment survey) rose 31K in April. While the growth trend in part-time employment remains one of deceleration, growth in Temp Employment accelerated on both a 1Y and 2Y basis in the latest month.
One thing to consider as it relates to a payroll growth over the balance of the year is the potential for accelerating part-time and temp employment. Anecdotally, instances of companies managing labor hours and temp staffing requests for part-time workers are picking up as businesses look to manage costs associated with Healthlaw implementation and the requirement that companies provide health insurance or pay a fine for any employee working at least 30 hours a week. We’ll be taking a closer look at this dynamic to gauge the potential for any notable, prospective impact to employment trends.
State & Local Gov’t Employment: The slow grind higher for state & local government employment, after a four year run of negative growth, continued in April with growth coming in at -0.1% y/y. Aggregate State Tax revenues surpassed the 2008 peak in nominal terms in 2012 with further positive growth expected in 2013. The continued recovery in revenues should be a tailwind for employment and investment, however, sequestration and uncertainty around impending fiscal policy and budget decisions at the federal level may be weighing on hiring decisions at the state/local gov’t level currently.
Average Weekly Hours: Average weekly hours for private employees ticked down to 34.4 from 34.6 in March, declining 0.6% m/m and flat y/y on a sequential basis. We’ll be monitoring the trend here in conjunction with the trend in temp and part-time workers as it relates to businesses managing the SWB line ahead of ACA implementation (described in Part-time Employment section above)
BLS Household Survey Data
BLS Establishment Survey Data
Christian B. Drake
In preparation for NCLH's F1Q 2013 earnings release tomorrow, we’ve put together the recent pertinent forward looking company commentary.
YOUTUBE FROM 4Q CONFERENCE CALL
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