OCTOBER 6, 2004
UNCERTAINTIES LINGER, BUT MARKETS PERK UP
I. SEPTEMBER 2004
COMMENTS...STOCKS
ADVANCE...BONDS HOLD
THEIR GROUND...WEATHER,
ENERGY, ELECTIONS
AND EMPLOYMENT SEND
MIXED SIGNALS
- Stock prices moved higher
for much of September
but encountered selling
pressure late in the month.
Prices resumed their upward
march as October began.
- Bond prices were flat
in September while the
Federal Reserve raised
the fed funds overnight
rate to 1.75%. The next
meeting is scheduled for
just after Election Day.
- Oil prices reached new highs of $50 a barrel after trading down to the $42 area earlier in the month. Concerns over possible supply disruptions from politically unstable areas in Africa, the Middle East and South America continue to affect prices. A series of hurricanes buffeted Florida and the U.S. Southeast and damages were extensive and costly. Oil supplies from the Gulf of Mexico were also interrupted on several occasions.
- Following the first Presidential debate, the election race remains exceptionally close. Observers believe the Republicans will remain in control of the House of Representatives but are uncertain about the outcome in the Senate.
- Employment trends provide some reason for optimism. While new employment claims have been affected by hurricanes, the Manpower survey of employment intentions suggest employers will be hiring. 20% of surveyed firms plan to hire workers during the final quarter of 2004. Historically, this would be consistent with monthly payroll growth of about 240,000 jobs.
II. ECONOMIC OUTLOOK ...GDP GROWS...CAPEX LEADS...CHINA RESUMES GROWTH
- GDP grew at an upwardly revised 3.3% annual pace in the second quarter. Third quarter results are expected to be in the area of 4%. Consumer spending is a touch weaker than in early spring but business investment in plant & equipment and technology has been quite strong.
- In recent years, the lack of business investment and aggressive cost control held the economy back. However, restored balance sheets, rebuilt cash balances, and inventory growth should support renewed business investment and GDP growth.
- Auto sales seem likely to be soft in the months ahead. Homebuilding may slow a bit, especially since nearly 70% of households are now homeowners. This is a record level.
- US industrial production has rebounded from the very low levels seen late in 2001 with orders for capital goods especially strong this year, especially at smaller firms. Most developed nations are also showing strong industrial production results.
III. FIXED INCOME OUTLOOK ...INFLATION LOWER...MONEY GROWTH SLOW...BANK LOANS STRONG...CONSUMERS RESIST PRICE HIKES
- Consumer prices rose 0.1% in August. The core rate, excluding food and energy, also rose 0.1%. Gasoline prices were lower, as were apparel, certain food items, transportation, and recreation costs. Producer prices fell 0.1%. Raw materials and commodities declined for the first time since August 2003.
- Non-farm business productivity rose 2.5% in the June quarter. For the same period, unit labor costs rose 2.1%. Manufacturing productivity rose a strong 6.9% suggesting that manufacturers absorbed the earlier rise in commodity prices without comparable increases in finished goods prices.
- Money supply growth has been slow since mid-year but total bank loans are growing at an 11% pace as business capital spending continues strong.
- Demand for commodities in China has resumed its upward trend, adding to price pressures for steel, copper, nickel, fertilizer, food and ocean shipping, not to mention oil. On the other hand, inexpensive Chinese exports of various consumer and technology products, and their sale in outlets like Wal-Mart, has constrained domestic inflation and the ability of many U.S. businesses to raise prices. In addition, consumers appear to be resisting higher prices in an array of industries. Rising energy costs may be forcing consumers to opt for less expensive goods and services elsewhere.
IV. STOCK MARKET OUTLOOK ...EARNINGS SEASON BEGINS...MUTUAL FUND TAX YEAR ENDS OCTOBER 31...FOCUS ON EARNINGS & DIVIDENDS...PRESIDENT SIGNS TAX-CUT EXTENSION
- Legislation was passed and signed into law extending the child tax credit and modifying the marriage penalty while deferring for one year the scheduled increase in the Alternative Minimum Tax (AMT). Extending these benefits will help prevent a slowdown in consumer spending next year.
- Most mutual fund tax years end October 31. This month is often volatile as funds adjust positions to realize desired capital gains. Seasonal factors in general suggest a strong October-January period.
- Earnings reports will start to flow by mid-month and most analysts expect a slower rate of profit increase than seen earlier in the year. There have been several high-profile announcements of expected shortfalls in personal products, beverages and drugs but these appear related to company-specific issues. Earnings should generally make good reading in the weeks ahead.
- We continue to favor companies with strong earnings growth and favorable dividend trends. As the fourth quarter progresses, stocks stand to benefit from reduced uncertainty regarding the employment picture and the elections. Oil remains a wild card.
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