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Quarterly Economic Update

Solid Economic Data and Earnings Buoy Growth and Market Gains During Third Quarter

Third-quarter economic data were partially skewed by Hurricanes Harvey and Irma, yet the U.S. economy continues to chug along in one of its longest expansions on record. While the U.S. is in the later stages of the business cycle, many other countries’ economies are also demonstrating growth amid low inflation and improved employment figures. In turn, stocks continue to rally and test or exceed record highs.

This despite, at least in the U.S., Europe and England, what appears to be the last legs of supportive central bank policies in the form of bond-buying programs that helped inject liquidity into troubled financial markets following the global financial crisis.

A mixed picture of sorts is emerging for the Chinese economy, though, one of the engines of global economic growth. The country’s central bank in early October lowered the amount banks have to keep on reserve, hoping to fuel more commercial lending. That initiative came even as China’s policymakers have sought to restrain credit growth, banking leverage and property prices. The move appears aimed at allocating more capital to small- and medium-sized enterprises as opposed to larger, state-owned companies.

Hurricanes Affect U.S. Jobs Report – Payrolls Fall For the First Time in Seven Years

Total nonfarm payrolls declined by 33,000 in September, the first time since 2010 that U.S. employment growth contracted. The Bureau of Labor Statistics noted sharp declines in food services and drinking establishments (employment fell by 105,000 in September, compared to a monthly average of 24,000 new jobs during the past 12 months) and below-trend growth in some other industries, likely reflecting the impact of Hurricanes Harvey and Irma.

Despite the decline, the unemployment rate fell to 4.2% and the number of unemployed persons fell by 331,000 to 6.8 million. Average hourly earnings rose by 12 cents to $26.55. Wage growth was faster than expected and may be a result of workers at electric utilities in Florida and Texas receiving overtime pay.

Meanwhile, the Commerce Department’s final reading on second quarter gross domestic product (GDP) revised growth upwards to 3.1% from 3.0% on an annualized basis. Private inventory investment increased more than expected, the Commerce Department said. The storms will likely impact third-quarter GDP.

As noted below, Harvey impacted home sales and home building during August, while Irma also slowed the pace of the housing market in storm-affected areas in Florida. Economists estimate third-quarter GDP growth of about 2.2%. Rebuilding efforts, though, are expected to have a positive impact on fourth-quarter economic growth as well as into early 2018.

The effects of the hurricanes have already filtered through to auto sales, as those impacted by the storms replace vehicles. U.S. auto sales rose by 6.1% in September compared to a year ago, according to Autodata Corp.

The hurricanes also caused some supply chain disruptions and increases in input costs and raw materials for manufacturers, though overall activity continues to be strong. The Institute for Supply Management’s purchasing managers index (PMI) increased to 60.8 in September, up from the August reading of 58.8. September’s reading marked the 13th consecutive month of expansion in the manufacturing sector and was the highest reading since May 2004.

Consumer confidence fell slightly this past month, though consumers’ assessment of current conditions remains quite favorable and their expectations for the short-term suggest the economy will continue expanding at its current pace, the Conference Board said. Its Consumer Confidence Index fell to 119.8 in September, down from 120.4 in August.

Affordability and Availability Continue to Impact U.S. Housing Market

Hurricanes Harvey and Irma added to factors that have hampered the housing market for much of the year: namely, low available and affordable inventory, rising building material prices, a shortage of skilled workers and suitable land for new starts. Much the same trends, as well as the devastating storms, are expected to impact new and existing home sales for the remainder of the year and into early 2018.

Buyer interest, however, remains strong and sales figures are still generally positive compared to those of a year ago. Recent figures from the Commerce Department show that new home sales fell 3.4% in August from July’s revised figures to a seasonally-adjusted annual rate of 560,000. Figures weren’t complete, however. Information on the sales status at the end of August was collected for only 65 percent of cases in Texas and Florida counties that were federally declared disaster areas, compared to a normal response rate of 95 percent, the Commerce Department said.

While the new home sales figures represented the lowest sales reading since December 2016, new home sales are still up year to date by 7.5%, compared to the same period a year ago, according the National Association of Home Builders (NAHB). More good news is that new housing starts are beginning to pick up which could begin to ease some of the inventory shortages that are occurring, particularly in the existing home sales market. New housing starts for single-family homes rose 1.6% in August from the previous month, but are 8.9% higher than they were a year ago.

The NAHB also noted that August’s single-family activity represented a post-recession high on a three-month average basis. Data for the coming months, though, may be volatile as building areas affected by Hurricanes Harvey and Irma represent 14% of national production.

Existing home sales, meanwhile, declined by 1.7% in August compared to the previous month, to a seasonally-adjusted annual rate of 5.35 million. August’s sales pace was only 0.2% above that in August 2016 and the slowest since then, according to the National Association of Realtors (NAR).

As has been the case for several months, existing home sales haven’t been able to break out due to inadequate inventory levels across much of the country and the upward pressure that it’s putting on prices. That is despite strong buyer interest amid steady employment gains, slowly rising income levels and low mortgage rates, the NAR said.

Total housing inventory is down 6.5% from a year ago, while the median existing-home price for all housing types is up 5.6% from August 2016, according to NAR. Similarly, the S&P CoreLogic Case-Shiller U.S. National Home Price NSA Index, covering all nine U.S. census divisions, posted a 5.9% annual gain in July.

Looking ahead, the Fed’s attempts to shrink its balance sheet could lead to higher mortgage rates while supply pressures may continue to add upward momentum to home price appreciation. Mortgage rates remained relatively unchanged from previous weeks, though rising compared to rates a year ago.



Global Markets: Stocks End the Quarter Higher

Confidence in economic growth and solid earnings in the U.S. and abroad sparked strong performance in stock indexes across the globe during the third quarter. In the U.S., benchmark indexes tested and exceeded record levels on numerous trading sessions, amid narrow trading ranges and low volatility. For the third quarter through September, the Dow was up 4.9%, while the S&P 500 ended up 4.0%, and the Nasdaq gained 5.8%.



With the exception of consumer staples, real estate and utilities, the remaining eight sectors of the S&P 500 all finished in positive territory. Buoyed by higher oil prices, the energy sector finished the quarter up by about 6.0%, though the sector is still down by about 8.6% for the year through September. The growing “risk-on” trade, in which investors gravitate toward higher-risk investments, was notable as so-called defensive stocks like utilities fell 3.0% in September, and consumer staples declined by nearly 1.2%.

Markets have all but priced in expectations, 86.7% as of October 9, that the Federal Reserve will raise short-term interest rates in December, based on trading activity in Fed Funds futures contracts. The yield on the 10-year Treasury note has increased to about 2.36% through October 9, up from about 2.05% in early September when President Donald Trump agreed with Democratic congressional leaders to a temporary increase in the debt-ceiling level as part of an aid package for Hurricane Harvey victims.

Steady corporate earnings, prospects for tax reform and expectations of continued economic growth have been underpinning the strong gains that U.S. stocks have been posting, particularly in recent weeks. Third-quarter earnings of S&P 500 companies are expected to increase 5.5% from the third quarter of 2016.

Excluding the energy sector, which is forecast to report significant earnings growth, the earnings-growth estimate declines to 3.6%. Through October 3, of the 18 companies in the S&P 500 that have reported earnings, 83.3% have reported earnings above analyst expectations. This is above the long-term average of 64% and above the prior four quarter average of 72%, according to Thomson Reuters I/B/E/S.

In Europe, the Stoxx Europe 600 ended the quarter up by 2.3%. The benchmark of small, middle and large-cap stocks across 17 countries in Europe is up by about 16.5% (in U.S. dollar terms) for the year through October 9. Economic sentiment in the eurozone reached its highest level since July 2007. The Economic Sentiment Index for both the eurozone and European Union hit 113.0, up from 111.9 in August, with higher industry, retail trade and construction confidence.

In Japan, the Tokyo Stock Price Index, or TOPIX, gained 3.9% for the third quarter, and has returned about 11.0% this year through the first week of October, according to data from Bloomberg. Real GDP has been rising since mid-2015, and the Japanese economy grew by 1.4% in the second quarter on an annualized basis compared to a year ago, according to data released by the Bank of Japan in late September.

Commodities: Oil Prices, Metals Give Up some Gains Toward Quarter’s End

After settling in to what could be considered near-bull market gains toward the end of the third quarter, oil prices have been range-bound in recent weeks. Despite the havoc from Hurricanes Harvey and Irma, and more recently, Nate, which shut down much of the crude output on the Gulf Coast the first weekend in October, supply issues continue to weigh on the markets.

WTI and Brent prices have already fallen by more than 5.0% from late September through the first week of October. Extraordinary measures may have to be taken to ensure the oil market is in balance over the long term, the secretary general of the Organization of Petroleum Exporting Nations (OPEC) said in early October. That would include potentially extending output cuts past a March 2018 agreement and convincing other oil-producing nations to join the pact when OPEC meets in late November.

West Texas Intermediate (WTI) futures rose by 12.2% for the third quarter, but had peaked at $52.22 in the last week of September, up 18.1% from a low during the quarter on July 7. U.S. crude oil exports recently reached record levels and are in demand, in part, because it is cheaper than other grades. That has contributed to somewhat of a price discount to Brent Crude which closed out the third quarter at $57.54 per barrel.

Industrial metals continued to post gains in the third quarter, due in part to what had been a falling dollar. Prices lagged toward the end of the quarter as weaker indications of China’s fixed-asset investment growth sparked a decline in copper prices. The Bloomberg Industrial Metals Subindex Total Return, which tracks prices on futures contracts on aluminum, copper, nickel and zinc, rose 9.9% for the third quarter. And the S&P GSCI Energy Index was up 9.3% during the third quarter.





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