A Chill In The Air

“Happy Christmas to all, and to all a good night!” – ‘Twas the Night Before Christmas, attributed to Clement Clarke Moore

Per custom, the Christmas and New Year’s issues of MarketWeek will be holiday-length (some might call this my gift to readers). It’s a good exercise in being concise.

After I heard President Obama’s somewhat testy tone on fiscal cliff questions at a Tuesday press conference, I started buying index puts and selling equities. Upon listening to deputy whip Representative Kevin Brady (R) from Texas Friday evening on Bloomberg television, it looks to me as if we are going over the cliff and I should have bought more puts.

This is not a political column, so I am not going to argue anyone’s position. Suffice to say that the political calculus for the House of Representatives is always different than that of the President (any President) and Senate, or their party’s national committees. Listening carefully to both sides, it appears that they are going to stick to their guns. The tones have subtly shifted: Before, each side was trying to appear reasonable while suggesting that the other side is intransigent. That’s still mostly true of course, with the difference being that the tone is shifting from laying the blame for what might happen, to a kind of weary resignation and blame for an event that has already happened.

I now doubt that a deal will be struck before the new Congress is seated, and even the latter event will only marginally improve chances. The outlook for the debt ceiling battle now appears much worse. However, there is still a decent chance at some kind of continuing spending resolution before year-end that tries to avoid cuts to defense and unemployment benefits. Both that deal and the process are likely to be ugly.

A resolution just might be enough to steady markets in the last few days of the year, as Friday afternoon’s buying made it clear that there is still a fair amount of money with an interest in propping up the tape until year-end. Others are convinced that the Santa Claus rally is a law of nature, and some are in both camps. However, the resolution is likely to be ugly enough, and the standoff deep enough, that the chances for an unpleasant market episode over the next three months have gone up considerably. The last five trading days will be more a roll of the dice.

US markets close early on Monday, December 24th, with a 1:00 PM close for the stock market. Banks and financial markets are closed on Christmas Day. I wish the merriest of Christmases to all!

The Economic Beat (in holiday time)

As usual, the data releases were neither as bad nor as good as popular headlines made them out to be. Last week I said that the consensus estimates for the New York and Philadelphia Fed surveys were suspiciously low (around zero, give or take) when some Sandy rebound effect should have been expected. The Philadelphia Fed district includes south New Jersey and Delaware, so why the consensus was around minus one is beyond me. The actual result of +8.1, and +10.7 for new orders, is a modestly decent recovery number.

The New York district was minus (-8.1), but it wasn’t from an increase in respondents reporting declines. Rather, a chunk of respondents went from reporting “higher” orders to “same.” Taken together, the reports indicate no real change in their regional economies.

New orders for durable goods in November (+0.7%) also beat a doubtfully low consensus, with the business investment category reporting a second month of increase in a row at 2.7%. As usual, media talking heads fawned over the number, and as usual they were wrong. Capital spending had been suppressed for several months, and I had written earlier that we were due for some restocking. Add in a little more rebound effect from Sandy, the expiring investment tax credit (50% bonus depreciation goes away) and the need to use up 2012 budgets, and we should see a third month of increase in December. Yet spending is still flat year-over-year with one month left to go.

Even so, we are likely to soon hear talk again of the economy reaching “escape velocity” after 3rd quarter GDP was revised all the way back up to 3.1%. It will again be wrong, and just turn out to be more oscillation around the basic trend. With our roughly 2% annual growth rate, we get some quarters near 1%, and others near 3%. The third quarter got a big lift from increased government spending and a decline in imports, with the former clearly transient and the latter not a sign of a healthy economy. Non-residential fixed investment continues to decline, with the silver lining being that someday, somewhere we should get a rebound. I didn’t see anything in the underlying components of the GDP data that suggest a sea change. The Chicago Fed National Activity index had a Sandy bump, but the 3-month average remains negative.

The rebound in personal income (0.6%) was nice, but it was a rebound. October-November combined produced an increase of about 0.3%, which is in line with the very modest 2012 trend. What’s more, there is some disturbing weakness lately in the weekly claims data that is being masked by rather large adjustment factors. Claims have been remarkably consistent in 2012, running about ten percent better than last year. The difference has dropped in recent weeks to about five percent or less (in unadjusted terms), and the latest 4-week moving average is only four percent better than a year ago. Some of it is due to dates not overlapping perfectly, and it’s too brief yet to call it a trend, but it worries me.

The housing data was in-line and remains modestly better, while retail sales appear to be mixed. The Kansas City Fed reported a small increase in its manufacturing index, but the Leading Indicators declined.

Reports of interest next week include new home sales on Thursday, pending home sales on Friday, and the Chicago purchasing manager’s index on Friday.