Consumer confidence metrics hit a rare trifecta

Shopping centre data hit new highs, auto sales broke all expectations in June despite strong headwinds, and pending home sales made one of their biggest jumps in the recovery.

Robert Johnson, CFA 7 July, 2014 | 6:25PM
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Note: I was traveling Thursday when the employment and trade reports were released. I will comment on the trade report next week when I return. I also dispensed with my normal markets summary because I wasn't around Thursday, and Friday was a holiday in the United States.

Economic data from the past week revealed some positive trends, with upbeat employment numbers for June being the biggest headline. However, remember that the employment report is often revised and outlier months in one direction are usually balanced by outliers in the other direction during the months following. Also keep in mind that Thursday's employment report was just one of many readings on the employment situation.

Many other reports, including the job openings report and initial unemployment claims data, were pointing to a rather healthy employment market regardless. Too, employment data is generally a lagging indicator and some of this week's leading indicators are painting a much better economic picture in the months ahead. I am presenting my normal updated employment chart package, and my colleague Tim Strauts offers the following commentary on the employment report:

"The June employment report was strong as the economy added 288,000 total jobs compared with the 12-month average of 208,000. Professional and business services, which tend to be higher-paying jobs, were the strongest sector with a gain of 67,000 versus a 12-month average of 53,000. The job numbers for April were revised up by 22,000 and May was revised up by 7,000. Average hours worked was unchanged at 34.5 hours for the fourth consecutive month, but average hourly earnings ticked up 6 cents to $24.45. Over the past 12 months, average hourly earnings have risen by 2.0%. Despite all the positive news, the longer-term private payroll growth rate, using an average of three months of data compared year over year, ticked up to 2.1%, which is right in line with the slow and steady pace we have experienced over the past two years."

The unemployment rate ticked down 0.2% to 6.1%. The labor force participation rate was unchanged at 62.8%, which is a positive because it means that the unemployment rate went down because of increased employment and not workers leaving the job force. Over the past year the unemployment rate has dropped 1.4%.

My consumer confidence metrics hit a rare trifecta

Regular readers know I disdain conventional consumer confidence polls as nearly worthless popularity contests, unduly influenced by newspaper headlines. Instead, I use a combination of shopping centre sales, auto sales and housing data to predict short-term, medium-term and long-term consumer confidence, respectively. Weekly shopping centre data from the ICSC have now broken out to new highs; auto sales broke all expectations in June despite some strong headwinds, and pending home sales made one of their biggest jumps in the history of the now 5-year-old recovery. To have all three metrics moving up so nicely at the same time on a quasi-sustained basis is highly positive news for the economy. (Recall that consumers represent nearly 70% of all U.S. economic activity.) I haven't been this bullish on the economy in some time. I do caution that demographics, the law of large numbers and the overall length of the recovery are still likely to keep a lid on annual GDP growth rates, in the 2% to 2.5% range. That said, I am hoping that second-quarter GDP growth will get close to 3%.

Inventories, a huge clinker in the first-quarter GDP report, appear to be poised to add almost as much to GDP growth in the second quarter as they subtracted in the first quarter (a subtraction of 1.8%). Manufacturing inventories (about a third of the inventory calculation) were down substantially in the report for May released this week.

Pending home sales rocket higher, bode well for housing market

Pending home sales measure home sales when housing contracts are signed. To count as an existing-home sale, the purchase needs to close and the title transferred to the new owner. The process generally takes 30-60 days and involves procuring a mortgage, completing an inspection, an appraisal, and any other contingencies included in the original contract.

Therefore, pending home sales are an outstanding indicator of existing-home sales that in turn drive housing-related expenditures an additional two or three months down the road. The relationship can temporarily change with market conditions. Last summer the lag time decreased dramatically as people raced to close sales more quickly to lock in low interest rates. Conversely, the relationship showed a bigger lag at the end of the recession as it took longer to get mortgages approved and adapted to the new appraisal process.

All of that said, May pending home sales data appeared to be the breakout number that I had been waiting for. On a month-to-month basis, pending home sales were up 6.1%, the best performance since mid-2010 when some government tax credits were expiring. (Keep in mind, this is month-to-month data and is not annualized.) Additionally, the monthly index has now been up for three months in a row, so this is not a flash in the pan.

Outside the two tax-related spikes and last summer's mortgage rate-induced rush, the index has not been higher for the entire recovery. In the past 12 years the Pending Home Sales Index has ranged from a low of 79 to a high of 128. The current reading of 103 is just about in the middle of that range. This strong reading should begin to show up in existing-home sales in the near future. Existing-home sales already appear to be on the mend, even before the May pending home sales report was released.

The regional pending home sales data from the four major geographies showed relatively uniform improvement. The regions ranged from 4% improvement in the South to 9% in the Northeast. I was particularly encouraged by data from the Western region that were up 8%, one of the best performances in some time for this very important region. Even with this month's performance, only the West region index is below its level as of January 2012.

The year-over-year data on pending home sales that readers know I normally favour is failing me at the moment because of that huge, multimonth mortgage-related spike last spring and summer. However, the decreasing gap between pending and existing-home sales growth rates has been closing sharply all the way back to October. Also, the year-over-year decreases in pending and existing-home sales have finally moderated.

Hurray! Home price increases are beginning to moderate

The   CoreLogic  CLGX Home Price Index for May and a preliminary estimate for June (based on pending sales indexes) were released this week. They finally are showing some moderation in home price increases, which I had expected to kick in a month or two earlier. The year-over-year, three-month average was up just 9.9% for May and 8.8% for June. That's down from its peak of 11.5% price appreciation last fall. Still, I am expecting a further decrease to 6% or less in the months ahead. It doesn't take a rocket scientist to see that coming--the single month (not averaged) price growth reading for June alone was up just 6% year on year. Overall, prices are now just 13% under the previous peak (2006) after being 20% or more below peak levels.

In fact, 10 states, including the populous state of Texas, are now at all-time highs. Although slowing, some price increases also broadened out and the rapid increases in California have cooled. Just two of the most improving city level markets were in California. The Top 10 list for May home price increases included Atlanta, Chicago, Dallas and New York, to mention a few examples.

So why am I cheering? With home price growth so high, (the CoreLogic index is up almost 30%, just from February 2012) affordability ratios were falling like a rock. Now the employment and income portions of the report are showing better improvement and mortgage rates are down from the beginning of the year. Just moderating home price increases are necessary to stabilize and even improve affordability indexes again. I will do a complete review of the National Association of Realtors Affordability Index when it is released next week.

Most housing metrics beginning to improve

I have been writing about an improving housing market as far back as March, topped by my May 23 column provocatively titled "Housing Bears About to Get Mauled." Even before that, I warned that long selling cycles and normal lead times in economic releases would make it difficult to sort out weather effects from industry fundamentals until May or June. May and June have arrived and lo and behold, the housing indicators are looking broadly better over several months, as shown below. To make the point more visible, I am using month-to-month data, not averaged data points.

Fundamentals (mainly affordability and too-low inventories) along with terrible winter weather combined to destroy housing-related statistics in the winter months. Now some of the statistics are on jet fuel as improved weather, stabilizing affordability ratios, lower lending standards, and higher inventories are all beginning to help the data at the same time.

Auto sales on fire

For the first time since the auto recovery began in 2009, monthly sales hit the 17 million mark in this June's report and are now within spitting distance of the industry's interim 2006 peak of 17.6 million units (which excludes two outlier months in summer 2005). This is the fourth consecutive month that sales have been above 16 million units compared with the four prior months when sales averaged a very uninspiring 15.3 million units. I need to eat a little crow here. I chastised the auto industry earlier for boosting winter production levels in the face of slumping demand. Its market research was better than mine, and sales have come soaring back. The graph below, even on an averaged basis, showed a huge gap in February, which has now begun to close sharply. June sales are actual numbers, and production is estimated to be a small increase, which will not be released until mid-July.

The June numbers were quite a surprise at 17.0 million units with a consensus figure of just 16.4 million units. Some of that pessimism was based on May being a strong month but with the help of extra weekend sales days and a well-placed holiday. As usual, new models, trucks, SUVs and crossover vehicles helped boost overall sales in June while conventional passenger cars were less strong. Companies on the wrong side of this divide (  Honda  HMC and Volkswagen) did less well.

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The great June sales report comes with two caveats

Now let me throw two small wet blankets over the great monthly auto numbers. First, combining all the year-to-date months, sales are up around 4% at the halfway point, down from 13.4% and 7.5% for 2012 and 2013, respectively. With the forecast mostly still in the 16.0 million-16.5 million unit range growth for all of 2014, annual sales growth should be just under 5%. That is a nice help to the economy, but less helpful to overall economic growth than a year ago.

The second thing the industry is quietly touting is that it has managed to accelerate growth without throwing on crazy incentives. Indeed, cash incentives remain muted. However, the battle over lower monthly payments is being waged through an increased number of leases and seven-year financing deals. Buyers seem more enamored of monthly payments than the cash price of a car. Seven-year or more auto loans now make up 31.8% of all auto loans, up from 30.2% just a year ago, according to J.D. Power. Meanwhile, leases are currently up to 26% of all transactions versus just 23.8% for the first half of 2013, also according to J.D. Power. I can't help but occasionally notice cars advertised with $199 monthly payments. I had an interest-free loan on $6,000 worth of furniture that was almost more than that. My son's monthly car insurance in California is almost that much, too.

The long wait for retail sales improvement is finally over

I am sorry for not only continually posting the weekly shopping centre data chart, but also a chart that has suddenly gone vertical.

I thought this would have happened back in March or April when the weather got better. However, I guess it took shoppers awhile to figure out what to buy with the money that they saved up during the awful weather months (or conversely, the money they no longer had to spend on heating and electric bills.) I alluded to a potential spending breakout, based on an unusually high savings rate just last week. The International Council of Shopping Centers has gone radio silent on the recent improvements that have appeared out of nowhere. The single-week growth rate is now at 4.6%. About the only comment that I can find is that the improvement is unusually broad-based, with only high-priced groceries holding back the index from even bigger jumps.

Manufacturing sector continues to hold its own

The overall ISM Manufacturing Purchasing Managers Survey was basically flat in June with an elevated 55.3 reading, off just a fraction from May's 55.4 reading. The comment section of that report noted that a lot of the recent improvement was due to spillover from a strong auto industry. The data was a little lopsided this month with new orders, the most forward-looking metric, up sharply (56.9 to 58.9). The other four subcomponents used to construct the index were either flat or down, including employment. Slightly troubling were export orders that were down sharply. While still in growth mode (over 50) the improvement shrank from 56.5 in May to 54.5 in June. That's not what the economy needs at a time the trade deficit has widened a bit for a large part of 2014. A slight shrinkage (61 to 60) in the current Industrial Production Index could also weigh on the June industrial production report.

Next week, a large number of normally ignored reports deserve your attention

Next week brings a lot of reports that don't get much attention, but have indeed influenced some of my more optimistic thinking recently. Those reports include small-business confidence, the job openings report, housing affordability, and a report on June's federal deficit. Of these, the Housing Affordability Index is probably the most important. Housing affordability (higher is better) got as high as 211 in February 2013 and quickly deteriorated to 156.8 by August 2013 on higher mortgage rates, higher prices, and stagnant incomes, essentially stopping the housing rally. The affordability ratio, which is currently only available through March looks a little better at 168. At a minimum I am hoping not to see much, if any, deterioration in the April data to be released on Friday. Job openings were particularly strong last month and broke out to a new recovery high. For the record, the April report was unusually strong with 4.5 million openings, so a little backtracking in the May data wouldn't be shocking to me. The budget data has stabilized recently with year-over-year deficit comparisons showing little improvement recently, following some huge gains early in the fiscal year. Consumer tax collections have been lagging a bit and I will be watching that closely. Spending has also been stuck in neutral because of slowing defense spending. Let's see if spending restraint continues in June. The spending restraint is a double-edged sword--it helps the long-term budget situation but subtracts short-term GDP growth.

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Robert Johnson, CFA

Robert Johnson, CFA  Robert Johnson, CFA, is director of economic analysis for Morningstar.

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