Financial Advisor News Highlights

  • Fitch became the second major credit rating agency to downgrade the U.S. from the top AAA rating, citing the growing fiscal debt burden and an erosion in governance.
  • The U.S. economy added 187k new jobs in July, representing the slowest pace of hiring in over two years.
  • The Federal Reserve’s Senior Loan Officer Opinion Survey showed credit standards tightened across the board in the second quarter, weighing on loan demand.

Tighter Credit Weighs on Resilience

Financial Advisor Chart 1: The chart shows the U.S. ISM purchasing managers' index (PMI) for manufacturing and services for the past year. The manufacturing index entered contractionary territory, indicated by an index value below 50, in November and has trended lower ever since. The services index has remained in expansionary territory (50+ index reading) for most of the past year, with December being the only contractionary month. The services index looked to be slowing between March and May but ticked up again in June.

In this weeks news from the world of a financial advisor, nearly twelve years to the day of the first U.S. credit rating downgrade in 2011, Fitch became the second major rating agency to lower its evaluation of the government’s creditworthiness. Fitch’s rationale was related to growing fiscal deficits in the near-term, medium-term fiscal challenges stemming from aging demographics, and a multi-decade erosion of governance. Since the decision was announced on Tuesday, Treasury yields rose and equities fell, with the ten-year Treasury up 11 basis-points (bps) and the S&P 500 down 1.8% as of the time of writing. Broader implications are expected to be muted as the U.S. economy continues to have strong fundamentals, however it comes at a time when credit standards are already tight.

Monday’s Federal Reserve’s Senior Loan Officer Opinion Survey (SLOOS) showed that a significant share of banks had tightened business and consumer lending standards in the second quarter. Unsurprisingly, demand for most loan types fell over the period, with the only exception being credit card loans, which saw no change in demand. The economy is clearing feeling the effects of the rapid rise in interest rates over the past 17 months.

Despite tightening credit conditions, pockets of resilience remain. The ISM PMI data this week continued to show a notable divergence between the manufacturing and service sectors, with the former contracting for a ninth consecutive month and the latter expanding for a seventh straight month in July (Chart 1). Employment growth in both sectors slowed last month, but the services sector is still creating jobs as demand remains robust, whereas the manufacturing employment subindex hit its lowest level in three years.

Financial Advisor Chart 2: The chart shows the monthly change in non-farm payrolls over the past year, including a breakdown by private goods, private services, and government. The aggregate pace of job gains has slowed over the past year, with the most recent data dropping below 200k for the first time in 2.5 years. Private services remain the largest contributor to job gains, but all three categories (private goods, private services, and government) have seen slowing job gains in recent months.

Looking more closely at the most recent labor market update, 187k jobs were created in July, which along with the revised reading for June, represent the slowest pace of job creation in over two years (Chart 2). While this puts job growth on a more sustainable footing, the labor market remains tight, as evidenced by the 4.4% year-on-year(y/y) growth in average weekly earnings in July. The moderation in hiring will be seen as a positive development by the Federal Reserve, but it is unlikely that they will take the prospect of further policy tightening off table until the sustainability of the trend is determined from a financial advisor perspective.

The Fed will get another important indicator next week in the form of the CPI inflation reading for July. June’s print showed core CPI fell below 5% y/y for the first time since December 2021 and the Federal Reserve will be looking to see further progress. With preliminary evidence that the cumulative effects of past rate hikes are working to cool inflationary pressures, we expect that the FOMC will leave the policy rate unchanged when they meet in September. However, they are likely to continue to emphasize the importance of incoming data on determining the future path of interest rates as the ultimate form of ‘landing’ for the economy becomes clearer.

Andrew Foran, Economist | 416-350-8927

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