The winter Olympics is set to begin Friday and attention will shift to an odd sport, curling. For those not enlightened, curling is a game played by teams of three on a sheet of ice. One member of the three man team will ever so gingerly slid forward a large polished granite stone towards a scoring zone. The path of the stone will be aided by the two other team members either scraping or sweeping the ice in front of the stone in order to assist or impede its path in order to get closest to a mark. Odd as it sounds, it’s a fairly exciting game.
2014 saw its first major casualty when PIMCO’s Co-Chief was sacked, I mean retired. Mohamed El-Erian grew to fame during the financial crisis prognosticating economic gloom along with market return projections of 5-6% for decades forward as the new normal. He has since proven spectacularly wrong as the market bottomed in 2009 and doubled from there. The economy seems to have entered a path towards normalcy after years of prodding by Federal Reserve stimuli. The US GDP came in at a 4.1% pace in the fourth quarter after having clocked in at 3.2% in the third quarter. This gave the Federal Reserve confidence to cut their monthly asset purchases from $85 billion to $65 billion and announced plans to continue cutting at a pace of $10 billion a month going forward as data allowed. So, by year end the Federal Reserve’s QE program will have ended, the training wheels will have been removed for the US economy and we’ll be able to see if we can stay the course on our own.
Where We Are:
Institute for Supply Management Manufacturing (ISMM). ISMM for January came in at 51.3 the 8th straight month of expansion. Any number above 50 points toward growth and expansion. So, while 51.3 is solidly above 50 it is down from Decembers 56.5. The major components registered growth such as new orders and production although off their highs. There was noted weakness in inventories . Many respondents pointed to adverse weather for the drop-off and optimism and increasing volumes in the early stages of 2014.
Institute for Supply Management Non-Manufacturing (ISMNM) ISMNM for January posted a respectable 54 again above the 50 neutral level. January’s figure of 54 is up from December’s 53. The new orders and employment components both showed expansion pointing to positives for both going forward. Eleven of the twelve reporting non-manufacturing industries reported growth. So the expansion was broad based.
Industrial Production (IP). IP rose .3% in December the 5th consecutive rise. Year over year IP registered a rise of 3.7%. Capacity Utilization moved up to 79.2 the highest rate since mid-2008 as companies ramped up production. Cap U still is 1% lower than its long term average leaving slack capacity acting as a buffer from inflationary pressures.
Leading Economic Indicators (LEI). LEI increased .1% in December following a 1% rise in November. This figure also suggests a gradually strengthening economy through the first half of the year.
Housing Starts: Starts fell 9.8% in December while the November release was revised up to a six year high. For all of ’13 housing starts climbed 18%+ to 923,400 the best since 2007.
Building Permits: Permits fell to an annualized run rate of 986,000 lead by a drop of 4.8% in single family permits. For the year 2013 permits rose 17.5% to 974,000 again at multi-year highs.
Going Forward:
The market is clearly experiencing a bout of profit taking as recent data being digested appears to show a slowdown in growth. We will be watchful of this profit taking,5-10% morphing into more of a correction. We don't sense this happening yet. Domestic data was most likely impacted by multiple cold weather snaps that sent both workers and consumers scurrying for cover and staying home. Global growth is stabilizing in major market such as China. China’s January PMI stayed positive at 50.5 vs. 51 in December. The Eurozone PMI posted its best figures in 2 ½ years at 52.9 vs. 52.1 in December. Hotspots remain in Emerging market economies amid cooling commodity prices in Brazil and overly generous social program spending in Brazil, Argentina and Venezuela. Bottom line. The market propelled nearly 30% higher in 2013, so a bit of give back of 5-10% while uncomfortable is longer term health restoring. One potential catalyst adding to the selling pressure? The normal year end profit taking and loss harvesting that typically takes place got pushed forward. Back in 2012 with the planned expiration of the Bush tax cuts, we saw many investors book profits to take advantage of the 15% capital gains rates before they jumped to 20%-23.8 in 2013. At that point those same investors must wait the mandatory 30 days under the “wash rule” to repurchase many positions. Flash forward, those January purchases cannot be sold until 1 year later shifting that selling from December to January at the earliest. For now we look at the 40 week moving average at 1700 on the S&P 500 as major support and will maintain our bias to the long side as long as that level holds. The main focus for our positive stance being 1.An improving domestic economy. 2. An improving Eurozone economy. 3 Stabilizing major Asian economies. 4.Aggressive Central Bank monetary policies. So, while we’re going through a patch of rough ice currently, we most likely simply require a bit more of a clearing broom (Continued Central Bank support) rather than a scraper to get us through.
Thank you for your continued confidence in these very challenging times.
Yours in pursuit of the KWAN
James Byrne Chief Investment Officer
