Consumer Sentiment: WOMP.

Consumer Sentiment is a measure of how people feel about their wealth and how happy they are.  What the below graph reveals is that people feel worse than average 27 months after the peak in economic activity as defined by the National Bureau of Economic Research (NBER).

The graph below reveals that the general populus aren't feeling that their situation is all that hunky-dory .  This may be due to a bunch of things: their net worth has fallen with respect to their home values, they are in serious debt, their spouse left them for another, younger version of themselves and maybe there even unemployed.  But whatever the reason the bottom line is that people still feel like doo doo.

Consumer sentiment is low. Thats undoubtable.  My guess is that they'll feel significantly better if jobs were more readily available and their real disposible incomes were higher, maybe even significantly higher.  As mentioned in a previous post- wage growth has been rather stagnant.

Keep dancin'

Steven J.

TIPS: A Gauge Of Inflation Expectations

Treasury Inflation Protection Securities or TIPS, are indexed bonds or bonds whose interest and principle payment are adjusted for changes in the price level.  The interest rate on these bonds provides a direct measure of a real interest rate. 

Using the Fisher equation:

i = ir + E(P)
where:
i - nominal interest rate
ir - real interest rate
E(P) - expected inflation

We can re-arrange the terms to get:

Expected inflation rate for the next 10 years  =  ( (i) - Ten Year Treasury Constant Maturity Rate, monthly) - ((ir)- 10 Year TIPS, Monthly)

Using FRED:

So the expected inflation rate for the next 10 years is around 3.2%.

Chicago Purchasing Managers Index: Demand For Oil Dispersant Is Outstripping Supply

The Chicago Purchasing Managers Index (or Chicago Business Barometer) measures business activity in the Midwest.  The Chicago Business Barometer is an extremely timely index as it comes out right before the ISM manufacturing index (which comes out tomorrow).  On a month-to-month basis this index moves about 60% of the time with the ISM manufacturing index with a correlation close to 90% in the size of the change.

ISM-Chicago, an affiliate with the Institute for Supply Management, questions about 200 purchasing managers from Illinois, Indiana and Michigan on business activity in their districts.  Answers received are compiled and a diffusion index is produced based on a weighted average of the five sub-component indexes:
1) new orders - 35%
2) production - 25%
3) order backlogs - 15%
4) employment - 10%
5) supplier deliveries - 15%

How does one go about interpreting this index?
The diffusion index functions like the ISM manufacturing survey index:
A reading above 50 indicates expansion, while one below 50 hints at contraction

Here is what the latest report has to say:

"The Chicago Purchasing Managers reported the CHICAGO BUSINESS BAROMETER indicated the breadth of expansion showed little change, and chalked up a ninth month of growth."

The index read 59.1 for June as compared to 59.7 in May, which means that although business is still growing it is growing at a slower rate than last month.

In a look at how the Gulf Coast Oil spill has impacted the Midwest economy, one of the general comments at the end of the report noted that demand is outstripping supply for the chemicals used to create oil dispersant:

"There has been an increase in order time for products which are purchased to make finished products. This is related to the chemical industry and the requirements for many components used in finished fluids for oil dispersants used in the Gulf Coast Oil spill." 

S&P Case-Shiller Home Price Index: Your Home Is Still Pretty Much Worthless

The S&P/Case-Shiller home price index tracks monthly changes in the value of residential real estate in 20 metropolitan regions across the U.S.  This index is based off of repeat transactions meaning it tracks the same homes from month-to-month and is calculated as a 3 month moving average to smooth out the volatility in the series.  The index is published with a two month lag so timeliness is a factor.   The latest report can be located here. 

This quarterly index captures approximately 75% of U.S. residential housing stock by value and covers single-family home prices for the nine U.S. Census divisions. In addition, the 10 and 20 city composite indices also measure single family home prices and are calculated monthly. Furthermore, the condominium indices track condominium prices in Boston, Chicago, Los Angeles, New York, and San Francisco. 

The repeat sales methodology used for the monthly index can be found here:

"The repeat sales methodology measures the movement in the price of single-family homes by collecting data on actual sale prices of single-family homes in their specific regions. When a home is resold, months or years later, the new sale price is matched to its first sale price. These two data points are called a “sale pair.” The difference in the sale pair is measured and recorded. All the sales pairs in a region are, then, aggregated into one index. Sales pairs are carefully screened for any data points that would distort the index, such as non arms-length transactions."

In layman's terms::

"The monthly S&P/Case-Shiller Home Price Indices use the “repeat sales method” of index calculation – an approach that is widely recognized as the premier methodology for indexing housing prices – which uses data on properties that have sold at least twice, in order to capture the true appreciated value of each specific sales unit."

Here is Detroit's depressing HMI:

Nationwide home prices seem to be improving:

"Data through April 2010, released today by Standard & Poor’s for its S&P/Case-Shiller Home Price Indices, the leading measure of U.S. home prices, show that annual growth rates of all 20 MSAs and the 10- and 20-City Composites improved in April compared to March 2010. The 10-City Composite is up 4.6% from where it was in April 2009, and the 20-City Composite is up 3.8% versus the same time last year. In addition, 18 of the 20 MSAs and both Composites saw improvement in prices as measured by April versus March monthly changes."

But this is not true because these numbers still reflect the effects from the home buyer tax credit.  Because of this next months release should shed some more light on the true state of home values.

The Chicago Fed National Activity Index: The Economy Has Been Tested Positive For Contracting Recovery

What is this Chicago Fed National Activity Index(CFNAI) and what does it tell about the economy?  This index reflects the performance of 85 monthly national indicators drawn from four categories:
1) production and income
2) the job market and hours worked
3) personal consumption and housing
4) sales, inventories and orders

How does one go about interpreting the index?
A value of 0 means that the economy is growing at potential and inflation pressures are steady.  Greater than > 0 and demand outstrips supply and we see inflation pressures flare up.  Less than < 0 and the economy is growing below potential which can lead to rising unemployment.

The Chicago Fed National Activity Index was released today with the 3-month moving average reading 0.28.  What does that mean exactly?

First of all we like to look at the CFNAI-MA3 (3-month moving average CFNAI) because it is less volatile than the month-to-month value and revisions in the data have already been incorporated.  The following have been observed:

< -.7 = chance of recession has risen substantially
< -1.5 = in a recession
> 0.2 = recession likely over
> 0.7 = inflation is in danger of accelerating

A reading of 0.28 therefore implies:
0.2 < 0.28 < 0.7
Which in words means that the recession is likely over and the economy is in no danger of inflation.

Double-Dip: Financial Conditions Index Shows Pre-Lehman Reading

Check this out.

May New Residential Sales Drop 32.7% From April

This is not a positive sign as it will probably lead to a further drop in construction of new homes.  300,000 new homes were sold in May which is a 32.7% drop from April's numbers.  For the Current Press Release.  It is now estimated that it will take 8.5 months for all new homes to sell given current inventory and sales, this is a significant jump from last months 5.8 months.  We have also seen a drop in the amount of homes for sale.  One possible explanation: depressed housing values and demand has led to home builders waiting for current inventory to clear and demand to pick up.  This is not good news for durable goods producers as it means depressed demand for all the things that usually go along with a new house.

Reactions to the data from WSJ can be found here.

Relationships Don't Last Forever: A Story of Divorce

Economist's View recently pointed out the relationship between capacity utilization and unemployment.  This graph shows the relationship of capacity utilization vs. unemployment:

An increase in  capacity utilization is usually immediately followed by a decrease in unemployment.  Economist's View makes the claim that :

"That is, in past recessions an upturn in capacity utilization was matched by an upturn in employment, there was no delay in the relationship, but in recent recessions there has been about a half year delay before unemployment reacts to changes in capacity utilization (or perhaps even a bit longer)."

We can definitely see this delay in the 2001 recession.  Notice how capacity utilization turns up and unemployment is initially very slow to drop.  The argument is being made that we are going to see the same thing this time around, where capacity utilization rates improve but unemployment won't drop for at least half a year.

A look at housing starts vs. unemployment:

Residential investment usually pick up at the end of a recession but not this time because of excess housing inventory.  There are too many existing properties for sale so we are not going to see strong housing starts data for a while.  This may lead to a slow decline in the unemployment rate as a growing housing sector usually creates jobs.

Calculated Risk explains the following:

"Usually housing starts and residential construction employment lead the economy out of a recession, but not this time because of the huge overhang of existing housing units. After rebounding a little in early '09, housing starts have mostly moved sideways"

Housing Starts Data: Not A Surprise

For X.U. Economics blog readers the drop in housing starts does not come as a surprise but is still discouraging.  Yesterday we looked at the Housing Market Index which warned us that this would happen.  Housing Starts and Building Permits data essentially just records the number of new homes being built and permits being issued for future construction.

When browsing over the data it is important to note the performance of "single-family housing start" as opposed to "multi-family starts." This is because single-family home building is based on consumer confidence and demand, while construction for multi-unit apartments can be subject to speculation and changes in the tax code.  The most recent release indicates only 468,000 single-family housing starts in May as compared to the slight pick-up of 565,000 found in April's release ( Current New Residential Construction Press Release).

 One possible explanation is the disappearance of the home-buyers tax credit and with it a vanishing act by demand.  Another reasonable explanation is that growing families are looking to rent as opposed to purchasing a new home- especially with job stability being a hard thing to count on.  Whatever the reason may be the drop in single family housing starts is not a good sign for those betting on a V-shaped recovery.

A look at Building Permits:
We have to keep close tabs on building permits because they are the precursor to housing starts.  Although the issuance of a housing permit does not necessarily result in new construction, as you can see the two series do move together over time. 
For other reactions to the housing start data.

Today's Housing Market Index (HMI): An Ominous Precursor to Tomorrow's Housing Starts

Today we are looking at the National Association of Home Builders/Wells Fargo Housing Market Index.  This index is of interest because of its timeliness (released the same month it reports on) and ability to foreshadow other important housing indicators (like the Census Bureau's next day release of housings starts).  It also has a proven track record of being a decent leading indicator of future home sales.  How does one go about interpreting this index? Any index number above 50 is interpreted as "there are more builders who view conditions as good than there are builders who view conditions as poor." Any number below 50 and we have more builders viewing conditions as poor than those who see conditions as good.

There are three main components to the Housing Market Index (HMI):
 ( Table 3. NAHB/Wells Fargo National HMI Components History)

1) Single-Family Sales: Present
This section usually does a better job of predicting housing starts in the short term (next couple months) than the official HMI.  This index number is back down to 17 in June after hitting 23 in May, this verifies that the housing industry is still getting pounded.  This also reflects that the small glimmer of hope that the home buyer tax credit brought is now gone.

2) Single-Family Sales: Next 6 Months
This reflects future expectations of single-family home sales over the next 6 months given current assumptions on economic growth and interest rates.  The next six months looks bleak as well as we see a downward movement in the index from 27 in May to 23 in June.  

3) Traffic of Prospective Buyers
This number gauges the number of buyers walking onto new home sites. With this index reading of 14 housing conditions will be mute for sometime to come.

By looking at today's HMI we can get a feel for what the Census Bureau's housing starts will look like.
The Census Bureau will release housing start data tomorrow at 8:30 a.m.  The feeling I get (based off of todays HMI) is that the housing start numbers will be really weak.

Empire State Manufacturing Survey for June: Slightly Better?

Each month the Federal Reserve Bank of New York releases the Empire State Manufacturing Survey (ESMS) which tracks manufacturing activity in New York.  Although this particular survey does not necessarily shake markets up, the nice people at the Federal Reserve like to look at the ESMS because it provides hints on the forthcoming (and highly influential) Institute for Supply Management (ISM) Manufacturing Index (for a quick refresher).  It is designed to gauge the present condition of New York's manufacturing industries, as well as what company execs believe they will do in the next six months.
Positive index number indicates that more respondents believe that the index will move higher than lower.  A negative index number tells us that more respondents were expecting that variable to decrease than increase.

Things to notice when looking at the Empire State Manufacturing Survey:

1. General Business Conditions Index- where a positive index number is a sign that factory activity is strengthening. This index edged up slightly from 19.11 in May to 19.57 in June. 

2. New Orders Diffusion Index- where a jump in new orders is a good sign that factories will keep on producing.  We see a nice increase in new orders with the index rising from 14.3 in May to 17.53 in June. 

3. Unfilled Orders- which measures how overburdened (or under burdened) manufacturers are.  The larger the index number the more businesses may want to spend to expand production capacity to satisfy customers with snappier deliveries.  We have seen a nice improvement here as this index went from -7.89 in May to -1.23 in June.

4. Prices Paid- because the first signs of inflation appears here as factories ultimately pass higher costs onto consumers.  Keep in mind that the Fed monitors this section closely (price stability is part of the Federal Reserve's dual mandate).  Inflation does not seem to be as eminent on the horizon as it was last month but input prices are still expected to increase as this index moved from 44.74 in May to 27.16  in June.

5. Prices Received- as these help to forecast changes in corporate earnings. There is little change here as the index moved slightly downward from 5.26 to 4.94. 

6. Number of Employees- which is the earliest indicator available on labor conditions for the month.  This is where you preview changes in manufacturing jobs that could be seen in the official employment situation report.  Unfortunately we don't see the enthusiasm we saw last month in this indicator as it contracted from 22.37 in May to 12.38 in June.  This means that more firms this month than last month will be looking at lowering their number of employees and reducing their search for new hires.

From the NY Fed:

"The Empire State Manufacturing Survey indicates that conditions for New York manufacturers improved in June. The general business conditions index edged up from its May level to 19.6, extending its string of positive readings to eleven months. The new orders and shipments indexes were also positive and higher than their May levels. The inventories index remained near zero for a second straight month, indicating that inventory levels were little changed."

The Inventory to Sales Ratio and the Business Cycle

What is the Inventory-to-Sales Ratio and what can it tell us about where we are in the business cycle?  The inventory/sales ratio is put out every month in a report called the Manufacturing and Trade Inventories and Sales report by the United States Census Bureau and reflects the demand for goods by showing how sales are moving in relation to inventories.  Increasing sales relative to inventories is a positive sign because it means businesses are being outstripped by current demand.  A declining inventory/sales ratio is usually good news for the economy since it means that sales are increasing faster than inventories. Businesses respond to meet the increase in sales by speeding up orders and production rates. Therefore, a downturn in the inventory/sales ratio is a leading indicator that business conditions are improving and that interest rates are reaching cyclical troughs.

A rising inventory/sales ratio means that inventories are rising faster than sales.  In this scenario, businesses become overstocked and they respond to this unintended buildup of inventories by postponing orders and cutting production rates.  An upturn in the inventory/sales ratio is a leading indicator that business conditions are deteriorating and that short-term interest rates are approaching a cyclical peak.

So what are we seeing right now? Well the inventory/sales ratio has been decreasing which indicates that business conditions are indeed improving, but the inventory adjustment process may be over.  We are not going to see this contribution to GDP be as prolific as it has been in the recent past.  This has been highlighted by the blog Calculated Risk:

"It now appears the inventory adjustment is over.  Further growth in inventories will depend on increases in underlying demand."

The April report reveals that the ratio is 1.23 which means that it would take 1.23 months to completely clear inventories at the current level of sales.