US yet to reach economic escape velocity and in muddling through mode

3rd May 2013


Charles Schwab says the US is not going to reach escape velocity – i.e. a self sustaining expansion just yet – but is likely to fall back.

In a note, the brokerage says the US is still in muddle through mode with weaker growth in Europe and China. However it says there is unlikely to be a severe downturn in the US and it points out that the rally has been led by defensives.

The note adds: “We don’t believe a severe downturn is in the cards. Sentiment has never suggested an enthusiastic embrace of the impressive bull market over the past four years. Cyclical sectors that usually lead in such a move, such as energy, materials and industrials, have lagged; while defensive industries—often with “bond-like” characteristics, such as utilities, consumer staples and health care—have led.”

It says that this lack of enthusiasm for typical market bull run stocks suggests the pullback will be relatively benign.

“Most down days over the past few weeks have been followed by gains, which indicates cash still wanting to get off the sidelines. Additionally, earnings season has been lackluster, with bottom line earnings ahead of expectations, but revenues and forward guidance below expectations. Additional selling is certainly possible, but we wouldn’t suggest waiting for a pullback of the magnitude of the previous three years to add to equity positions as needed. Money has to go somewhere. The US equity market has risks, but when compared to most other investment options, i.e. China, commodities (lately), cash, Treasuries, etc., it looks pretty good.”

The note adds the US data is still mushy and highlights a number of indicator. It adds: “There is little doubt that recent economic readings for the US have reinforced the muddle along scenario, and that escape velocity still eludes us. Some regional manufacturing surveys reinforced the US national survey and still point to growth; but perhaps at a reduced rate as the Empire Manufacturing Index fell to 3.05 from 9.24 and the Philly Fed Index surprisingly dropped to 1.3 from 2.0 (with a reading above zero in both surveys indicating expansion). And while industrial production rose by a solid 0.4%, the rise was due to a 5.3% gain in utilities, which was attributed to the abnormally cold weather.

“Even housing, which has been a bright spot and which we continue to believe will be a linchpin of growth in 2013, saw mixed results. The National Association of Home Builders (NAHB) Survey fell to 42 from 44, building permits dropped 3.9%, and while housing starts posted an impressive 7.0% rise, it was entirely due to multi-family construction as single family starts actually fell 4.8%. Finally, the Index of Leading Economic Indicators fell 0.1%, the first decline since August of last year.”

It does believe the soft patch will be limited.

“While disappointing, there are enough positive offsets in our view that any “soft patch” will be relatively limited. Despite the somewhat disappointing data in the US housing market as of late, nothing goes up in a straight line and it’s quite possible that the cold weather mentioned above also contributed to a pause in activity that will reverse itself. We continue to believe housing will be a positive contributor. Additionally, as mentioned above, weak global growth has weighed on commodity prices, including crude oil, corn and wheat. This should help to bring down the prices of various items, putting some extra money back into consumers’ pockets.”


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