Stocks are flattish as earnings season kicks off. Bonds and MBA are up.
I am at the MBA in Chicago and the mood seems to be cautious. Everyone is worried about the effect that last month’s surge in interest rates will have on pipelines and volumes. Mortgage bankers are putting together their budgets for next year, and volume forecasts are difficult. Lots of vendors out and about, and everyone is pitching some AI solution.
The week ahead will be dominated by the CPI on Wednesday and the PPI on Thursday. The Street is looking for a 0.6% monthly increase and a 3.6% annual jump on the headline rate and a 0.2% MOM / 2.5% increase on the core rate. In addition to the inflation data we will get retail sales and existing home sales. Retail sales will contain the back-to-school shopping season which is usually a good indicator for the holidays. Consumption is just under 70% of the US economy, so it can move the GDP estimates.
Q3 earnings season kicks off this week with the big banks reporting.
JP Morgan reported earnings per share of $5.57, a 10% increase from a year ago. Revenues were up 8% YOY. JPM took a special charge of $500 million on investment losses. Credit losses ticked up to $2.7 billion compared to last quarter however they were down compared to last year.
The $668MM pretax charge in investment losses came from corporate, and they didn’t specify what specific investments caused the losses. Perhaps they will get into it in the call, but this sector is where the their RMBS would live, and my guess is that widening MBS spreads might be the culprit.
Mortgage origination volume was $20.4 billion compared to $16.9 billion a year ago. Charge offs were flat sequentially and down substantially compared to a year ago. On the overall state of the economy, JP Morgan CEO Jamie Dimon said: “The U.S. economy continued to be fueled by strong business investment and ongoing consumer spending. However, large fiscal deficits, sticky inflation, elevated asset prices, rising interest rates and geopolitical conditions continue to shift under the surface. These forces may be manageable, but we remain prepared for a wide range of outcomes.”
Consumer sentiment fell slightly in October according to the University of Michigan Consumer Sentiment Survey. “While year-ahead expectations for personal finances and business conditions crept up slightly, buying conditions for durables plummeted amid high prices and borrowing costs. Increases in sentiment among Democrats and Republicans were offset by a decline among independents this month. Overall, sentiment for lower-income consumers and those with smaller stock portfolios dropped steeply this month, groups that have fewer resources to weather increases in prices. Frustration over cost-of-living continues to mount, as consumers across the political spectrum believe that the trajectory of the economy has weakened since the beginning of the year.”
Inflation expectations rose 10 basis points for the year ahead and for longer-term. Cleveland Fed President Beth Hammack yesterday said “Long-run inflation expectations have stayed remarkably well anchored despite actual inflation being above target for more than five years,” Hammack said. “But I’m not taking that for granted. With each passing month, persistently elevated inflation raises the risks of an inflationary mindset becoming entrenched in the economy”
Inflationary expectations become embedded in two ways. The first is the wage-price spiral where workers demand higher wages, which flows into higher prices for the goods they produce. This was a highly prevalent in the 1960s and 1970s when a huge chunk of the US labor force was unionized. CPI forecasts would be written into contracts, which was one of the drivers of 1970s inflation. Today, that is probably less of a concern.
The other vehicle is consumers and producers front-loading purchases in order to beat price increases, which exacerbates supply chain issues. This is probably the more clear and present danger as businesses front-load commodity purchases which drives up prices. This could be steel, diesel or any host of inputs.
The University of Michigan inflation expectations is a concern, however if it doesn’t translate into a behavior change then it doesn’t really matter all that much. As always keep in mind that consumer sentiment numbers are often nothing more than a measure of gasoline prices.
The Wall Street Journal discovers the DSCR loan.
Small business optimism decreased in September, according to the NFIB Small Business Optimism report. The uncertainty index increased while the labor index fell. Capital spending plans decreased and remained below their 52 year historical average. This is surprising given the massive investment in AI and data centers. The number of companies increasing prices was the same as last month. The most commonly reported single biggest problem was labor quality followed by inflation.
“The Fed raised its policy rate as most observers expected, and market rates followed suit. Small business borrowers reported higher rates on their recently received loans. Higher rates are supposed to restrain borrowing. Those who continue to finance spending will inevitably raise prices. Consumer spending has been resilient, boosting sales and profits. Strong profits have energized the stock market, making strong capital gains available to support spending.
Inflation pressures on Main Street remained stubbornly high, with nearly a third reporting raising their selling prices in recent months. The historical average raising prices is net 14%. Nearly 31% plan to raise prices, strong pressure on future prices.
On employment, the AI boom hasn’t done much in changing the overall jobs landscape. Hi-Tech activities are not labor-intensive, and small business owners have not been aggressive employers. Job openings for skilled workers fell, while openings for unskilled workers rose.
Overall, consumer spending and the AI boom will help keep the
economy growing at a healthy pace for the rest of the year. However,
major uncertainties remain to be resolved, including the mid-term
elections and the Iran war. Much will depend on how these play out.
