• Headline PPI decelerated -50bps sequentially to +2.6% year-over-year in December.
• Core Price Growth also decelerated -10bps to +2.3% Y/Y as average oil/gas prices were down sequentially in December and Energy PPI slowed.
• Energy prices have largely retraced the December retreat thus far in January so we’ll see where this thing is trending come month-end.
CPI print for December completed the deceleration trifecta as Headline CPI decelerated -10bps to +2.1% YoY and Core Price growth (+1.8% Y/Y)
• Headline: Decelerates -10bps to 2.1% Y/Y.
• Core: Accelerates +10bps to +1.8% Y/Y.
• Energy = -2.5% M/M and decelerates -250bps on a Y/Y to +6.88%.
• Shelter = largely flat at +3.2% Y/Y (marginal support in that it didn’t actually decelerate this month).
• Core Goods and Services Pricing => Still no mojo across the core subaggregates.
• Breadth = breadth of underlying CPI componentry moving towards deceleration again in the latest month.
Headline Retail Sales chased strong sequential gains in Oct & Nov with a +0.4% M/M increase (+5.4% Y/Y) in December.
• Retail Sales Control Group: Even more notably, Control Group Sales continued their acceleration and finished 4Q at a dizzying +8.6% (Q/Q annualized basis) with the trending RoC acceleration remaining in full effect (i.e. Control Group down slightly to 5.6% Y/Y but check out the 3-month and 6-month moving averages in the chart below). (The Retail Sales Control Group is the best proxy for the input to U.S. GDP.)
• Industry: Strength remained fairly broad despite the e-commerce led consumption bonanza comp in November. Half of industries showing accelerating Y/Y growth with e-commerce and housing related (building materials & furniture) leading gains.
• Inventory to Sales: Inventory to Sales ratio’s across both wholesale and retail remain in retreat.
The consumer and the consumption economy “are who we thought they were.”
• Headline Retail Sales chased strong sequential gains in October and November with a +0.4% M/M increase in December, taking year-over-year growth up to +5.5% Y/Y in 4Q, marking the fastest pace of growth in 6 years.
• Control Group: Same acceleration story for the GDP input series as Control Group Sales rose +0.3% M/M on the back of last months outsized 1.4% sequential gain. On a Q/Q annualized basis, Control Group Sales finished 4Q at a remarkable +8.6%. On a year-over-year basis, growth closed 4Q at +5.1% Y/Y, marking the fastest rate of increase since 3Q11.
• Industry Level: Strength remained fairly broad despite the e-commerce led consumption bonanza comp in November. Half of industries registered accelerating Y/Y growth with e-commerce and housing related (building materials & furniture) leading gains.
• Inventory-to-Sales Ratio’s across both the wholesale and retail channels remain in retreat. The ISM inventory readings are telling a similarly lean(er) story, suggesting nearer-term production activity should remain solid.
Industrial Production growth came in at +0.9% month-over-month and 3.56% year-over-year with 2-year comps continuing to accelerate as New Orders and Capex demand remain solid and Utilities Production (up +5.7% month-over-month via weather-related distortion) supported the headline growth.
A few important things to note:
• The Good: The Polar Vortex should continue to support Utilities production in the January data as should ongoing strength in manufacturing production. The Empire Manufacturing Series – the 1st of the January series, released yesterday – showed New Orders rising +5pts sequentially and the Capex Plans Index rising to a new 92-month high.
• Something to Be Aware Of: The comps get increasingly difficult in the months to come (expect mean reversion inevitability particularly in the ISM data).
QoQ SAAR backtest:
The headline was decidedly underwhelming but, unless you model companies on a QoQ SAAR basis, the year-over-year remains more relevant and, on that score, GDP growth Y/Y accelerated for a 6th consecutive quarter to +2.5% Y/Y.
- The internals were very good:
- Consumption growth accelerated on the back of rising aggregate hours and accelerating aggregate income growth.
- Investment growth was stronger with both energy and tech/productivity investment continuing to improve and Resi investment rebounding strongly alongside very strong new construction and sales activity.
- Inventories were the primary drag on Investment growth, contributing a sizeable -0.7 pts to the headline and reversing last quarters outsized positive contribution. This dynamic probably reverses again next quarter as demand remains solid and inventory-to-sales ratio’s across both wholesale and retail channels retreat.
- The Sub-Aggregates were all notably stronger sequentially
- Real Final Sales (GDP less Inventory change) and Gross Domestic Purchases (GDP less exports, including imports) both accelerated sequentially
- Real Final Sales to Domestic Purchasers (GDP less exports less inventory change) – which provides the cleanest read on overall, domestic private sector demand – rose to +4.2% Q/Q = the strongest level since 3Q14. Strength here won’t be lost on the Fed but the soft headline will allow them to lean (rhetorically) whichever direction serves the narrative du jour.
The simple net of the above is that the headline was belied by distinctly stronger internals. Growth was solid where it mattered as consumption and investment both accelerated and domestic, private sector demand was stronger than its been in years. Inventories can’t be dismissed outright but it’s notoriously volatile (and likely to reverse next quarter) and the retreat in the trade balance was against the hardest comp in 4 years and very much a function of the current level of private sector demand.
A visual summary below …
- Earnings Growth: With 133/500 companies having reported earnings so far for Q4, sales and earnings growth are +8.0% and +10.9% Y/Y respectively. The Y/Y comp from Q3 to Q4 2017 is steeper, and those comps get most difficult in Q1. Regardless, the two-year comp is running hot at +8.6%, which is the steepest 2yr quarterly trend in 3 years. In other words, the underlying trend continues to improve in the face of steeper year-over-year compares.
- Broad-Based Momo: At the sector level, growth accelerating remains broad-based. Sales growth has accelerated in every sector, and earnings growth is positive in very sector with the exception of Industrials
- Operating Momentum: 72% of companies have reported a sequential acceleration in sales growth – tracking at the highest level we’ve seen in years.
- Sales Growth Surprises: Sales growth trends may be the ultimate, pure-play growth accelerating indicator. Running at +8.0% Y/Y, Aggregate sales growth for the S&P 500 has so far beat estimates by 1.2%. Like the 2yr earnings growth rate, this is the widest sales beat margin in 3 years.
- Information Technology Earnings: Earnings growth continues to crush expectations for the fourth consecutive quarter despite the steep upward revisions for the sector as a whole. Information Technology earnings have so far beat estimates by 8.1% compared to a 5-yr average of 4.4%. Earnings beat rates for the S&P 500 in aggregate have come in lower than average at just 2.2%
- Muted Forward Multiple Expansion: Double Digit earnings growth that is shooting below estimates reveals something about forward expectations despite very difficult comps in Q1 (+14.6% growth in Q1 2017). The market’s forward multiple is less than a turn above where it was a year and 23% ago. If you have listened to us for more than a day, you know we believe run-of-the-mill multiple math has some holes. At some point expectations will create opportunity in overshooting, but we’re not making that call today.
- Income ↑ …. Aggregate Private Sector Salary and Wage Growth accelerated to +5.2% Y/Y, marking the fastest pace of growth since November 2015. Recall, the income and consumption data in 4Q16 was revised sharply lower (and probably understates the underlying reality) so the comp was exceeding easy, but the 2Y comp continues to accelerate as well –> signaling that the year-over-year acceleration wasn’t singularly base effect driven.
- Savings Rate ↓ …. The Savings Rate plumbed new cycle lows at 2.4% in December. The decline in the Savings Rate over the past year has been a notable support to consumption growth alongside flattish aggregate income growth. The Savings Rate has been falling ~80-100 bps year-over-year and unless we continue to plumb new lows (pushing towards new all-time lows), the tailwind to consumption growth will progressively recede.
- Confidence ↑,Savings ↓: Rising Confidence and Consumption alongside a declining savings rate are hallmarks of late-cycle expansion. The notable decline in the savings rate can be viewed from two perspective. First, it could be an attempt by consumers to maintain consumption in the face of a relative rise in costs. Or, second, it could reflect improved optimism around forward prospects. Those two factors aren’t (necessarily) mutually exclusive but both the hard and soft data argue in favor of the latter at present.
- Transitory …. Month 68 | Core PCE inflation has now held below target for 68 consecutive months. While recurrent bouts of energy/commodities inflation/disinflation have pushed the Headline readings around, continued weakness in core goods pricing and, more recently, the crest and roll in Shelter Inflation (~32% weighting in the CPI basket) have stymied the advance in core pricing growth. Solid growth and non-urgent remain, of course, the #Goldilocks dynamic.
- (Still) Long The Rich …. If you own assets, you like asset price inflation and all-time highs in equities. Given the sensitivity of high ticket discretionary consumption to asset market volatility, you like daily ATH’s + peak Sharpe Ratio’s even more. As we’ve highlighted, confidence and consumption trends at the high end are more than a cutesy talking point as the top quintile of households (by income) account for ~40% of consumer spending. Luxury goods consumption was up +8.8% Y/Y in December and closed full year 2017 +8.3% Y/Y, marking the best year of luxury consumption growth of the cycle.
18 States increase minimum wages in 2018, Tax withholding changes will take place sometime in February and distribution of widely announced, tax-reform related bonuses will follow as well.
These development are particularly relevant now because:
- Payroll growth will continue to slow and without progressive wage inflation, aggregate income growth will remain largely flat-lined. With the savings rate likely to trough, flattish income growth caps any large scale upside to acceleration in consumption growth (absent further credit acceleration). With wage growth running ~+2.5% Y/Y, even a 1% increase in after-tax income – in demographics with high marginal propensities to consume – isn’t inconsequential. A mini-step function increase in aggregate private sector wage growth/DPI will help buoy the rate-of-change data over the NTM and …..
- Bridging the Gap: The notion of a re-imagined Phillips Curve that re-emerges more conspicuously as unemployment breaches some critical, ultra-low threshold has been pretty well advertised and with some empirical underpinning (see, for example: WSJ). If tax law changes buy the economy some rate-of-income growth buffer while the labor market continues to tighten over the next year, there exists a higher probability that organic wage inflation really begins to percolate and could take the hand-off from tax related gains in income growth in 2018.
Compensation Percolation: Like the latest rise in yields, the central questions around prospective wage inflation remain ‘how far’ and ‘how fast’ – the answers to which carry discrete allocation implications as too high/too fast augurs expedited policy tightening in the latter case and a divorce from macro fundamentals and (at some point) a negative feedback loop to equities in the former.
Anyway, one need not be a slope savant or stable genius to recognize the rampant up-and-to-the-right’ness below. This morning’s ECI data for 4Q showed growth in employee wage and salaries accelerating to +2.6% Y/Y, marking a new cycle high. Continued acceleration and new cycle highs also characterized growth in Total Compensation (wages + benefits).
Of course, wage growth remains depressed on an absolute/historical basis, particularly for this point in the cycle, and trudging and choppy improvement in labor market fundamentals remains a hallmark of the present expansion but the larger 2nd derivative trend in the ECI is clear.
With minimum wage increases hitting in January, tax withholding and ATI changes hitting in February alongside tax reform related bonus distributions, the path for organic wage inflation is of particular interest at present.
Capex & New Orders: With all the regional Fed Survey’s in for January ahead of the ISM data tomorrow, our Capex Plans Composite Index continues to make new highs while the New Orders Composite reflected some modest retreat off of the recent cycle peak/all-time high in activity. Whether the confluence of harder comps (post-hurricane rebound activity in Sept-Nov) and extreme weather conditions to start January provided some underlying distortion is difficult to say.
In any case, the New Orders Composite is signaling some modest backslide in the correspondent ISM series and with ISM New Orders printing a 167-month high in November and marking a 7th consecutive month >60, some level of giveback – in an inherently mean reverting series that never sustainably holds current levels – is increasingly inevitable.
Productivity growth decelerates -35 bps sequentially, slowing for the 1st time in 5 quarters in 4Q as comps begin to steepen. Underlying the trend remains decent, however, as 2Y comps continue to accelerate.
This was a passive-aggressive slowing on the headline ISM Manufacturing. It dipped -0.2 pts as Current Production, New Orders and Employment retreat modestly off of nosebleed levels.
A couple other notables:
- Supplier Deliveries and Inventories both Increased. Recall, a gain in the Inventory series = inventory build & vice versa. In isolation, a build in inventories isn’t positive for forward production but at current levels it’s not that high on a historical basis and New Orders, Export Orders and Backlogs both remain (very) strong
- Prices Paid …. On the reflation front, Prices Paid jumped +4.4 pts to 72.7 on the Index = 80 month high as price increases were pervasive. Release Commentary below:
“The Business Survey Committee noted price increases continue in metals (steel, stainless, brass, aluminum, copper and scrap), intermediate chemicals, corrugate, crude oil, natural gas, various wood based products and plastic resins. There was a significant increase in items short, during the period,” says Fiore. A Prices Index above 52.4 percent, over time, is generally consistent with an increase in the Bureau of Labor Statistics (BLS) Producer Price Index for Intermediate Materials…..All 18 industries reported paying increased prices for raw materials in January.”
Source: Hedgeye Macro