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Economic Update

Posted by Jeremy Merchant on Mar 1, 2016 5:18:03 PM
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Jeremy_branded_small_with_words.jpgDuring the final week of February we learned that Q4-2015 GDP was a modest 1%. This modest growth was slightly stronger than consensus estimates because of a technical alteration in how inventories were calculated.

A bigger than expected stockpile of inventories occurred in the 4th quarter of 2015, which suggests that companies got stuck with more unsold goods than expected. The value of inventories overall, which adds to GDP, rose by $81.7 billion instead of $68.6 billion as initially reported by the Commerce Department.

Looking into the GDP report further, we see that business spending fell sharply in the 4th quarter. Investment in equipment sank a revised 6.6% and outlays on structures (such as drilling rigs and office space) dropped nearly 2%. The combination of lower business spending and crowded warehouse shelves might not bode well for 1st quarter 2016 growth statistics.

Overall, the U.S. grew at 2.4% in 2015 for the second year in a row. 2015 marks the 10th straight year in which the economy has failed to reach at least a 3% growth rate. Looking ahead to 2016, it is doubtful that economic growth will increase from today's levels. Most expect economic growth to remain at these low levels and continue to be held in check by a stronger dollar, weak exports and lackluster business investment.

If we look at the index of leading economic indicators (LEI), we see that softness should continue in the near term. Recent LEI reports indicated negative growth for two consecutive months in December 2015 and again in January 2016. These negative monthly back-to-back readings have only happened one other time (August-September 2011) since the great recession of 2008.

In addition to monitoring leading economic indicators, we are also closely watching trends in the monthly manufacturing and non-manufacturing surveys. Currently, the monthly manufacturing (ISM) survey is in negative territory (contraction territory is any reading below 50), with a January reading of 48.2. The non-manufacturing (Non-ISM) survey for January was still slightly positive with a reading of 53.5. However, we are watching the non-manufacturing (service sector) closely as it is trending towards contraction territory. The ISM and non-ISM readings are noted in the graphic below.

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Looking into the service sector further, we see that in late February (February 24th), the service sector flash Purchasing Managers' Index (PMI) reading was negative at 49.8. This late February update for the service sector slipped below the breakeven level of 50, and was the weakest reading since the government shutdown in October 2013. This reading is the most recent indication of what is happening in the private sector services economy.

If we combine all of the above economic statistics with the corporate profit recession, we continue to conclude that a defensive posture is most appropriate for the portfolios. Overall, we remain underweight equities and remain overweight cash (money market). For the near term, the equity allocation within the portfolios will remain over-allocated to market neutral type positions and under-allocated to higher beta (higher volatility) positions. Avoiding higher beta positions in smaller cap stocks and emerging market stocks will be something we continue into the second quarter of 2016. From a fixed income perspective, we will continue to avoid high yield bonds and floating bank debt. The fixed income allocation will simply be a combination of traditional intermediate bonds and approximately 10-12% money market exposure.

Please contact us at (972) 684-5923 if you have any questions.

 

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Disclaimer: This blog is intended for informational purposes only and should not be construed as individual investment advice. Actual recommendations are provided by RAA following consultation and are custom-tailored to each investor’s unique needs and circumstances. The information contained herein is from sources believed to be accurate and reliable. However, RAA accepts no legal responsibility for any errors or omissions. Investments in stocks, bonds, and mutual funds may increase or decrease in value. Past performance is no guarantee of future results. Any of the charts and graphs included in this blog are not recommendations for the purchase and sale of any security. 

Topics: Investment Updates