FINANCIAL NEWS HIGHLIGHTS OF THE WEEK

  • Despite heightened political uncertainty it was another good week in equity markets, with the three U.S. benchmarks reaching peaks mid-week before retracing somewhat ahead of the weekend.
  • U.S. data came in well above expectations with survey indicators from the NFIB, as well as the New York and Philly Federal Reserve Banks rising to multi-year highs. The optimism was also prevalent across harder data, with retail sales as well as consumer and producer inflation metrics surprising to the upside.
  • Together with the stronger data, Chair Yellen’s testimony where she indicated it “unwise” to wait too long to remove accommodation, boosted the odds of a March hike. Nevertheless, we continue to anticipate the Fed will wait until mid-year to raise rates next.

 

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ANIMAL SPIRITS CONTINUE TO TRUMP ANXIETY

Investors continued to be enamored by the potential for growth-inducing policies of President Trump this Valentine’s Day week despite relatively few details. While politics continued to drive headlines, financial markets were more focused on healthy earnings and robust economic data. The three main U.S. equity indices hit record highs on Wednesday, before paring back some gains through this morning. The sell-off in the bond market, which saw the U.S. 10-year Treasury rise near 2.5% by mid-week as Janet Yellen testified to Congress, also reversed course recently, with the
benchmark falling to 2.4% by this morning. Oil remained largely range bound, as the support from realized cuts by OPEC were offset by rapidly rising inventories in the U.S. where production has been recovering in recent months.

News across the Atlantic was largely lackluster this week. The economy of the Eurozone area grew by 1.6% in the final quarter of last year, missing expectations for a 2.0% pace of growth. The U.K. economy also exhibited signs of weakness, with retail sales declining in January. The result missed expectations for a rebound from December’s large decline, and suggests that Brexit anxiety and rising prices related to the falling pound are beginning to affect U.K. consumers who previously appeared unfazed by the vote results. Greece is also beginning to make headlines as a rift between European officials and the IMF looks to delay the next disbursement of much needed funds, while anxiety about upcoming elections in France is having investors rethinking holding French bonds.

Political uncertainty remained on the back-burner in the U.S. as investors focused on healthy earnings growth with U.S. corporate profits looking to grow by over 6% after three quarters of declines. Moreover, the animal spirits that have been driving stock markets since the election appear to also be showing up in the economic data.

Much of the positive sentime nt can be found in survey data. This week, the NFIB’s Small Business Optimism index surprised to the upside, rising to the highest level since December 2004, while both the Empire and Philly indices – the earliest indicators of February activity – rallied strongly (Chart 1), with the latter at a more than three-decade high. The positive news was not limited to survey data, however, with retail sales also surprising to the upside in January, rising by 0.4% on the month from an upwardly revised 1.0% gain in January. This performance suggests that the consumer is becoming increasingly confident to spend and should remain a key support for the U.S. economy this year as job gains eat up slack and push wages higher.

The reduction in slack also appears to be manifesting in higher prices. Both the core CPI and PPI measures surpassed expectations, rising by 0.3% and 0.4% in January, respectively, with the headline consumer inflation measure accelerating to 2.5% (see Chart 2). The hotter-than-expected data is adding pressure on the Fed to not fall behind the curve. In her testimony to Congress this week Chair Yellen highlighted that waiting too long to remove accommodation would be “unwise,” suggesting that the Fed could raise rates in the near-future. While a March or May hike is not off the table should the data continue to come in above expectations, we remain of the view that the Fed will wait until June to raise rates.

Michael Dolega, Senior Economist

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