Key Takeaway: While easy to lose track of trends across domestic macroeconomic data during earnings season, one thing’s for sure and two things are for certain: U.S. economic growth continues to slow and the economic expansion itself is now well past-peak. The risk to “risk asset” prices embedded in 2016E nominal GDP and earnings growth forecasts remains great.
It’s earnings season and we know you’re busy, but that doesn’t mean macro catalysts cease to exist. That being said, it’s neat when the top-down and bottom-up signals are implying the same conclusion: the domestic economy is mired in industrial and earnings recessions.
A quick update on the latter recession:
- Though Q3 earnings season to-date, 387 of 500 S&P 500 companies have reported.
- Sales growth decelerated to -5.3% YoY from -3.4% YoY in Q2.
- EPS growth decelerated to -4.3% YoY from -1.9% YoY in Q2.
A quick update on the former recession:
- We received three key data points regarding the broad health of the domestic manufacturing and production economy over the past three trading days: OCT Markit Manufacturing PMI, OCT ISM Manufacturing PMI and OCT Factory Orders. No, we do not consider the ISM Milwaukee PMI, MNI Chicago PMI or ISM New York PMI as indicative of the health of the broader economy. Each represents little more than opportunities to cherry pick data to form-fit an existing narrative and we do not believe in cherry picking data.
- The former key data point (Markit Manufacturing PMI) registered a sequential acceleration in OCT and is now accelerating ever-so-slightly on a trending basis.
- The latter two key data points (ISM Manufacturing PMI and Factory Orders) registered sequential decelerations in OCT and SEP, respectively, and both continue to decelerate on a trending basis.
Aside from the fact that Real GDP growth slowed on queue against steepening base effects in Q3, the [other] critical risk to broader economic growth remains the likelihood that the aforementioned recessions spillover into an eventual consumer-led downturn. That would be in line with how a typical business cycle works:
- Inflation peaks, then slows;
- CapEx and Manufacturing growth peaks, then slows;
- Employment and Wage growth peaks, then slows; and finally
- Consumption and Services growth peaks, then slows.
Given that those catalysts have all played out in order since the start of 2014, we retain confidence in reiterating our view that domestic economic growth is likely to slow into a full-blown recession by mid-2016. For those of you who remain skeptical of this view, we encourage you to review the following presentations – each refreshed as of today:
- U.S. GIP Model Summary (45 slides): http://docs3.hedgeye.com/macroria/Hedgeye_U.S._GIP_Model_Summary.pdf
- U.S. Economic Cycle Indicators (10 slides): http://docs3.hedgeye.com/macroria/Hedgeye_U.S._Economic_Cycle_Indicators.pdf
- Global Demographic Analysis (17 slides): http://docs3.hedgeye.com/macroria/Hedgeye_Global_Demographic_Analysis.pdf
Going back to the most recently reported data, a quick update on the fourth business cycle catalyst highlighted above:
- In the past three trading days we received three key data points regarding the broad health of the domestic consumption economy: SEP Real PCE, OCT University of Michigan Consumer Sentiment and OCT Passenger Vehicle Sales.
- The former key data point (Real PCE) recorded a modest sequential acceleration in SEP to its trend line (i.e. 3MMA), but the aforementioned trend has now decidedly stagnated.
- Consumer Sentiment recorded a decent sequential acceleration in OCT, but is still decelerating on a trending basis; meanwhile, Passenger Vehicle Sales growth continued its trend of acceleration with a sequential uptick in OCT.
The key takeaway here is that broad consumption growth remains overwhelmingly positive from an absolute perspective (e.g. the current 3MMA of Real PCE growth is in the 91st percentile of all readings on a trailing 10Y basis). Given that Real PCE represents over two-thirds of U.S. GDP, the real risk to the economy is that the consumer slows alongside the trend in employment growth. Friday’s OCT Jobs Report will be telling in that regard.
Also telling is the fact that growth in the 77.7% of the U.S. economy that falls within the Services Sector has negatively inflected and is now driving broader measures of economic momentum lower as of OCT:
Source: Bloomberg L.P.
Source: Bloomberg L.P.
One key risk to our bearish call on the economic cycle is that credit remains a-plentiful and keeps consumption growth elevated as it traverses a series of difficult growth compares through 2Q16. If, however, the Fed’s 4Q15 Senior Loan Officer Survey results are telling, credit too is now moving past-peak with respect to this economic expansion:
- Hedgeye Financials Team: 4Q15 SENIOR LOAN OFFICER SURVEY | SIGNS OF A SLOWDOWN (11/3)
- Moody’s: “U.S. Corporate Defaults to Hit a 4-Year High…” (11/2)
- FT: “M&A Volumes Weaken in October Despite Megadeals” (11/1)
Sticking with the theme of threes, the critical risk to domestic “risk asset” prices are threefold as well:
- Bad news becomes bad news again (as implied by the now-positive 1M correlation between the S&P 500 and the Implied Yield on the Fed Funds Futures Contract 1Y Out) – just as it had been during the previous two economic downturns;
- Equity sentiment is likely now pervasively bullish, insomuch as it had been pervasively bearish at the AUG/SEP lows (we currently have data though 10/27; on Friday we will receive data through today's close); and
- At this new “all-time high” (for all intents and purposes), market breadth continues to confirm the now-obvious degradation of recent micro trends, as well as the dour nature of our macro outlook.
Source: Bloomberg L.P.
Source: Bloomberg L.P.
Current Hedgeye Extreme Sentiment Monitor:
End-of-September ESM Refresh:
All told, while easy to lose track of trends across domestic macroeconomic data during earnings season, one thing’s for sure and two things are for certain: U.S. economic growth continues to slow and the economic expansion itself is now well past-peak. The risk to “risk asset” prices embedded in 2016E nominal GDP and earnings growth forecasts remains great:
Furthermore, another round of Deflation’s Dominoes remains a critical risk to manage over the NTM: “Are You Prepared for a Deepening of the Global Earnings and Industrial Recessions?” (10/22)
When will asset markets start to broadly discount investor consensus being wrong on the domestic economic cycle again? We don’t know. The best thing we can do in the interim is continue to remain grounded in the data.
Enjoy your respective evenings,