Download - LPL Economic & Market Commentary 2011-10-17

Member FINRA/SIPC of 4

LPL F INANCIAL RESEARCH

Weekly Economic Commentary

This week is a busy one for financial market participants, with corporate earnings reports, economic data and policy all competing for the market’s attention. The European fiscal situation remains at the top of the list of worries for markets, as policymakers scramble to hit a self-imposed early November deadline to have a grand plan in place to address Greece and European banks’ exposure to Greek and other troubled sovereign debt. As we have noted in several of our recent commentaries, markets are still crying out for bold, coordinated policy actions here and abroad. Markets in the past week or so have become increasingly confident that such actions will be taken — although the devil is in the details.

But this week, a barrage of third-quarter corporate results (including guidance for the fourth quarter and next year), key data on housing, inflation and manufacturing in the United States, as well as several speeches from Federal Reserve officials (including Ben Bernanke) will all also compete for the market’s attention. The most closely watched report of the week is likely to be the Fed’s Beige Book, a qualitative assessment of business and banking conditions in each of the 12 Federal Reserve districts (Boston, Richmond, Dallas, Kansas City, Cleveland, etc.), compiled eight times a year prior to each of the Federal Open Market Committee (FOMC) meetings. China completes the release of its September and third-quarter data early in the week, with the third-quarter report on gross domestic product, as well as the September reports on industrial production and retail sales.

The Sentiment Data Versus the “Hard Data”: The Debate ContinuesWe have written extensively over the past several months about the conflicting messages being sent by the “hard” data on the economy, and the

“soft”, or sentiment, data on the economy. Hard data statistically measures what consumers or businesses are doing, for example:

� How many homes were sold?

� How much revenue did a company generate?

� What were a company’s earnings after expenses?

� How much did consumers spend on groceries, or computers or television sets?

� How many cars were produced and sold?

Hard Data Versus Soft Sentiment: The Sequel

October 17, 2011

John Canally, CFAEconomist LPL Financial

Highlights � A busy week for financial market

participants lies ahead, with Europe and corporate earnings data competing with economic and policy events.

� The tug of war between the soft readings on sentiment-based data and the solid readings on the hard data continues this week.

Monday, October 17 NY Fed Empire State Mfg Oct

Capacity Utilization Sep

Industrial Production Sep

Tuesday, October 18 PPI Sep

NAHB Housing Survey Oct

Ben Bernanke speaks in Boston

Wednesday, October 19 MBA Mortgage Applications Index wk 10/14

Housing Starts Sep

CPI Sep

Fed’s Beige Book

Thursday, October 20 Initial Claims wk 10/08

Trade Balance Aug

Treasury Statement Sep

Economic Calendar

LPL Financial Member FINRA/SIPC of 4

WEEKLY ECONOMIC COMMENTARY

� How many jet engines were exported overseas?

� How many new orders for business equipment were placed?

� How many jobs were created (or lost)?

� How much oil or gasoline was produced and/or consumed?

On the other hand, the “soft” data are reports that measure sentiment, and do not actually measure anything other than how people or businesses feel.

The mood of consumers or businesses is, of course, greatly influenced by what they see around them every day. It is also impacted by what they see on television, in newspapers, on the Internet, on talk radio or from friends, neighbors and colleagues. And of course, lately, the media has been full of bad news on virtually every topic. However, the media itself is thriving on the bad news with some of the highest ratings, readers and listeners in history.

In recent months, the hard data has painted a stronger picture of the U.S. economy than that reflected by the sentiment data. But at times, the opposite is true, and the sentiment runs far ahead of the actual data, as was the case in 1999 and 2000 at the peak of the tech bubble and in the mid-2000s as the housing bubble was just about to burst.

We expect, however, that the trend of the hard data painting a better picture of the economy than the soft data will continue this week. Ultimately, it is the hard data — not the sentiment (or soft) data — that will tell us whether or not we have re-entered a recession, have started to shed jobs again, or seen an uptick in inflation. However, poor sentiment (in both the consumer and business oriented segments of the economy) can feed on itself, and lead to a pullback in spending, which would then begin to negatively impact the hard data. We have not seen that yet, but those in the marketplace calling for a recession believe that the transition from poor sentiment to poor data is inevitable. We do not and continue to place the odds of recession in the near term at about one in three.

As this report was being prepared, we received hard data for September (industrial production) and sentiment for October (the Empire State Manufacturing Index). Often, the sentiment data has the benefit (from the market’s perspective) of being timelier. For example, for the most part, this week’s hard data on the economy references September, but the week’s sentiment-based data is measuring sentiment in October.

True to recent form, the industrial production data revealed that overall industrial output (factories, utilities, and mining) increased by a modest 0.2% between August and September, and that output of factories alone increased by 0.4%. Industrial production, a key gauge of whether or not the economy is in or out of recession, is up nearly 4% from a year ago and continues to push higher. Overall, industrial production in the manufacturing sector has increased in 24 of the past 27 months since the end of the Great Recession in June 2009 [Chart 1].

On the other hand, the Empire State Manufacturing Index, which measures how manufacturing contacts in New York state feel about their overall business (as well as employment, shipments, orders, etc.), remained below

01 070605040302 0908 10 11

18

12

6

0

-6

-12

-18

40

20

0

-20

-40

Industrial Production: Manufacturing% Change - Year to Year, Seasonally Adjusted, 2007=100 (Left Axis)Empire State Manufacturing Survey: General Business Conditions: Diffusion IndexSeasonally Adjusted, % Bal (Right Axis)

1 Sentiment Based Empire State Manufacturing Index Shows Contraction, While Hard Data Based Industrial Production Shows Moderate Growth

Source: FRB, FRBNY, Haver Analytics 10/17/11

(Shaded areas indicate recession)

We have not seen that yet, but those in the marketplace calling for a recession believe that the transition from poor sentiment to poor data is inevitable. We do not and continue to place the odds of recession in the near term at about one in three.

LPL Financial Member FINRA/SIPC of 4


zero in October, indicating that manufacturing in the New York state region contracted for the fifth consecutive month. The good news here is that the contraction has not picked up momentum.

The other examples of hard data (mainly for September and early to mid-October) due out this week include:

� Producer Price Index (PPI)

� Consumer Price Index (CPI)

� Housing starts

� Building permits

� Existing home sales

� Initial claims for unemployment insurance

� Weekly retail sales

� Weekly mortgage applications and

� Weekly car and light truck production

This rest of the week’s sentiment based data (for September and October) includes:

� The National Association of Homebuilders Sentiment Index

� The Fed’s Beige Book

� The Philadelphia Fed Index

In addition, the index of leading economic indicators (LEI) for September is due out at the end of the week. The index is a compilation of ten data series. Seven of the components of the LEI are hard data, with two being sentiment based. The final component of the LEI is the stock market (as measured by the S&P 500 Index), which is hard data of course, but is often driven over short periods of time by sentiment. The LEI is expected to increase by 0.3% month-over-month in September, which would leave the index a robust 6.0% above its year-ago reading, a clear sign that despite the negative sentiment, the economy continues to grow, albeit modestly.

2011200620011996199119861981

15

10

5

0

-5

-10

125

110

95

80

65

50

Consumer Confidence (Left Axis)Index of Leading Indicators (Right Axis)

2 Hard Data (Leading Economic Indicators) Continue to Point to Growth, While Sentiment Data Points to Recession

Source: LPL Financial, Bloomberg Data 09/14/11


Member FINRA/SIPC of 4

RES 3361 1011Tracking #1-013906 (Exp. 10/12)

Not FDIC or NCUA/NCUSIF Insured | No Bank or Credit Union Guarantee | May Lose Value | Not Guaranteed by any Government Agency | Not a Bank/Credit Union Deposit

This research material has been prepared by LPL Financial.

The LPL Financial family of affiliated companies includes LPL Financial and UVEST Financial Services Group, Inc., each of which is a member of FINRA/SIPC.

To the extent you are receiving investment advice from a separately registered independent investment advisor, please note that LPL Financial is not an affiliate of and makes no representation with respect to such entity.

IMPORTANT DISCLOSURES The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance reference is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly.

Stock investing involves risk including loss of principal.

Manufacturing Sector: Companies engaged in chemical, mechanical, or physical transformation of materials, substances, or components into consumer or industrial goods.

International investing involves special risks, such as currency fluctuation and political instability, and may not be suitable for all investors.

The Consumer Price Index (CPI) is a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services.

The Producer Price Index (PPI) program measures the average change over time in the selling prices received by domestic producers for their output. The prices included in the PPI are from the first commercial transaction for many products and some services.

Empire State Manufacturing Survey is a monthly survey of manufacturers in New York State conducted by the Federal Reserve Bank of New York.

The Philadelphia Fed Survey is a business outlook survey used to construct an index that tracks manufacturing conditions in the Philadelphia Federal Reserve district. The Philadelphia Fed survey is an indicator of trends in the manufacturing sector, and is correlated with the Institute for Supply Management (ISM) manufacturing index, as well as the industrial production index.

The Industrial Production Index (IPI) is an economic indicator that is released monthly by the Federal Reserve Board. The indicator measures the amount of output from the manufacturing, mining, electric and gas industries. The reference year for the index is 2002 and a level of 100.

Member FINRA/SIPCPage 1 of 3

Jeffrey Kleintop, CFAChief Market Strategist LPL Financial

LPL F INANCIAL RESEARCH

Weekly Market CommentaryOctober 17, 2011

A More Durable Rally

HighlightsThere are several reasons why this stock market rally may be more durable than those that preceded it in recent months.

It is possible that the substantial developments in Europe are taking the fear of a repeat of the financial crisis of 2008 off the table and solid economic data in the United States is taking the fear of a double-dip recession off the table.

Other signs that this rally may be more durable include: global cyclical sector leadership, declining European “TED spread”, and the rising yield on the 10-year Treasury note.

The stock market, as measured by the S&P 500 Index, has returned to the high-end of the trading range of the past two months, as you can see in Chart 1. This is the fourth time the Index has rebounded to around the 1220 level. Each of the prior three rebounds were reversed as the market was pulled lower again by fears of financial crisis and recession. Rather than retreat back to the low end of the trading range over the next week or two, there are several reasons why this rally may be more durable than those that preceded it in recent months and may sustain much of the of the gains, as the S&P 500 Index takes a volatile path back toward a modest, single-digit gain for the year.

The substantial positive policy developments in Europe are taking the fear of a repeat of the financial crisis of 2008 off the table. In addition, solid economic data in the United States are taking the fear of a double-dip recession off the table. These positive developments may allow the stock market to breakout of the range to the upside, given support from still very low valuations.

Other signs that this rally may be more durable that those that preceded it over the past couple of months include:

� Global cyclical sector leadership – The global economically sensitive Energy and Materials sectors have led the rally while these sectors were in the middle of the pack during prior rallies.

JunMayAprMarFebJan SepAugJul Oct

1400

1350

1300

1250

1200

1150

1100

1050

S&P 500 Index

1 S&P 500 Index Back at Top of Two Month Trading Range

Source: LPL Financial, Bloomberg 10/14/11

The S&P 500 is an unmanaged index, which cannot be invested into directly. Past performance is no guarantee of future results.

Global Cyclical Sectors Materials and Energy No Longer Stuck in the Middle

Current Stock Market Rally 10/3-10/14 Average of Three Prior Stock Market Rallies*

Sector % Gain Sector % Gain

Materials 17.2 Financials 8.7

Energy 16.3 Industrials 8.4

Consumer Discretionary 14.2 Consumer Discretionary 8.0

Information Technology 14.1 Information Technology 7.6

Industrials 13.3 Energy 7.3

Financials 11.9 Materials 7.3

Health Care 6.8 Health Care 6.2

Consumer Staples 5.4 Utilities 5.6

Telecommunications 3.8 Consumer Staples 4.4

Utilities 3.3 Telecommunications 4.0

*S&P 500 Rallies 8/10/11-8/15/11, 8/22/11-8/31/11, 9/9/11-9/16/11 Source: LPL Financial, Thomson Financial, Bloomberg data as of 10/14/11

Past performance is no guarantee of future results.

WEEKLY MARKET COMMENTARY

LPL Financial Member FINRA/SIPC Page 2 of 3

� Declining European “TED Spread” – The key gauge of stress in the financial sector during the financial crisis in 2008 was the widely-watched TED Spread, which measured banks’ willingness to lend to one another. The European equivalent of the TED Spread (EURIBOR less the EONIA rate) had been rising during the stock market rallies that failed to break out of the trading range over the past couple of months. However, over the past three weeks, the European “TED Spread” has been on the decline as financial risks recede in Europe, as illustrated in Chart 2.

� Rising yield on 10-year Treasury note – The 10-year Treasury note yield had been steadily declining during the summer stock market rallies that failed to break out of the trading range. Stocks are unlikely to make a sustainable rebound when yields are low and falling. The fear of impending economic doom in the United States weighed on the yield, pulling it to levels last seen just prior to the United States entering WWII. However, economic data providing evidence that the United States was not in a recession nor likely to experience a return to recession anytime soon helped to change the direction of Treasury yields. [Chart 3]

While the current stock market level has marked an attractive point to sell over the past couple of months as stocks returned to the lows of the year, we believe signs increasingly point to a market that is likely to retain much of the powerful 10% gain achieved over the past two weeks as it begins a volatile, upward-sloping path back to a gain for the year. Key drivers to watch this week regarding the prospects for a breakout are: the start of the flood of third-quarter corporate earnings reports and announcements surrounding the October 23 European summit.


1009080706050403020100

3 Month EURIBOR Less EONIA


4.00

3.50

3.00

2.50

2.00

1.50

10-Year Treasury Yield

2 European “TED Spread” No Longer Rising

3 Yield on 10-Year Treasury Note Stopped Falling



IMPORTANT DISCLOSURES

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance reference is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly.

The economic forecasts set forth in the presentation may not develop as predicted and there can be no guarantee that strategies promoted will be successful.

Bonds are subject to market and interest rate risk if sold prior to maturity. Bond values and yields will decline as interest rates rise and bonds are subject to availability and change in price.

Government bonds and Treasury Bills are guaranteed by the U.S. government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value. However, the value of a fund shares is not guaranteed and will fluctuate.

The Standard & Poor’s 500 Index is a capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.

Stock investing may involve risk including loss of principal.

Because of their narrow focus, sector investing will be subject to greater volatility than investing more broadly across many sectors and companies.

Consumer Discretionary Sector: Companies that tend to be the most sensitive to economic cycles. Its manufacturing segment includes automotive, household durable goods, textiles and apparel, and leisure equipment. The service segment includes hotels, restaurants and other leisure facilities, media production and services, consumer retailing and services and education services.

Consumer Staples Sector: Companies whose businesses are less sensitive to economic cycles. It includes

WEEKLY MARKET COMMENTARY

Member FINRA/SIPCPage 3 of 3

RES 3360 1011Tracking #1-015699 (Exp. 10/12)

Not FDIC or NCUA/NCUSIF Insured | No Bank or Credit Union Guarantee | May Lose Value | Not Guaranteed by any Government Agency | Not a Bank/Credit Union Deposit

This research material has been prepared by LPL Financial.

The LPL Financial family of affiliated companies includes LPL Financial and UVEST Financial Services Group, Inc., each of which is a member of FINRA/SIPC.

To the extent you are receiving investment advice from a separately registered independent investment advisor, please note that LPL Financial is not an affiliate of and makes no representation with respect to such entity.

manufacturers and distributors of food, beverages and tobacco, and producers of non-durable household goods and personal products. It also includes food and drug retailing companies.

Energy Sector: Companies whose businesses are dominated by either of the following activities: The construction or provision of oil rigs, drilling equipment and other energy-related service and equipment, including seismic data collection. The exploration, production, marketing, refining and/or transportation of oil and gas products, coal and consumable fuels.

Financials Sector: Companies involved in activities such as banking, consumer finance, investment banking and brokerage, asset management, insurance and investment, and real estate, including REITs.

Health Care Sector: Companies are in two main industry groups—Health Care equipment and supplies or companies that provide health care-related services, including distributors of health care products, providers of basic health care services, and owners and operators of health care facilities and organizations. Companies primarily involved in the research, development, production, and marketing of pharmaceuticals and biotechnology products.

Industrials Sector: Companies whose businesses manufacture and distribute capital goods, including aerospace and defense, construction, engineering and building products, electrical equipment and industrial machinery. Provide commercial services and supplies, including printing, employment, environmental and office services. Provide transportation services, including airlines, couriers, marine, road and rail, and transportation infrastructure.

Materials Sector: Companies that are engaged in a wide range of commodity-related manufacturing. Included in this sector are companies that manufacture chemicals, construction materials, glass, paper, forest products and related packaging products, metals, minerals and mining companies, including producers of steel.

Technology Software & Services Sector: Companies include those that primarily develop software in various fields such as the Internet, applications, systems and/or database management and companies that provide information technology consulting and services; technology hardware & Equipment, including manufacturers and distributors of communications equipment, computers and peripherals, electronic equipment and related instruments, and semiconductor equipment and products.

Telecommunications Services Sector: Companies that provide communications services primarily through a fixed line, cellular, wireless, high bandwidth and/or fiber-optic cable network.

Utilities Sector: Companies considered electric, gas or water utilities, or companies that operate as independent producers and/or distributors of power.

Download - LPL Economic & Market Commentary 2011-10-17

Top Related