US Perspectives: Tech to the Rescue

Offsetting mixed economic data, results from the tech sector last week offered a clear indication that businesses are back in a spending mood.

Robert Johnson, CFA 29.03.2011
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Market participants remained in an almost euphoric mood last week. Less negative news out of Japan and the Middle East gave investors renewed courage to invest. Even mostly disappointing economic data and more bad news on the European debt crisis (Portugal again) couldn't stop the market's party.


The market has managed an increase in six of the last seven sessions. Improved initial unemployment claims was one piece of economic news that moved the market along last week. That bodes well for this week's jobs report.


Real estate market reports were uniformly terrible, potentially challenging my thesis that the housing market is so small that it could do no further harm to the economy, at least in the short run. If one looks hard enough, however, there are at least a few regional signs that some improvement might come in the months ahead.


Durable goods reports last week were another big disappointment, but those results were plagued by a sharp decline in military orders.


Corporate earnings news from the likes of Oracle, Red Hat, and Accenture were decidedly more bullish than the news from the government statistics mills.


Tech to the Rescue

Positive news last week out of the tech sector buoyed the markets even as the government economic data painted a bleaker picture. Cloud computing pioneer Red Hat reported 25% revenue growth and boosted its forecasts for the future. What makes this notable is that the company closed 30 deals during the quarter for more than $1 million. Even large corporations don't take an investment of that size lightly.


After several years of hype, cloud computing (data stored remotely instead of on individual computers) is finally benefiting from an improving economic environment. Oracle, with one of the widest software product lines in the industry, also reported stunningly good results last week and raised its dividend. Oracle results were strong across all geographies and product types, after more divergent results in the previous quarter. Together, we take the Red Hat and Oracle results as clear indicators that businesses are back in an investing mood, which is great for the economy.


Housing Slump Continues

As our housing analyst Eric Landry notes below, backward-looking housing data last week looked bleak. I suspect that seasonal factors, bad weather, and the small starting base of home sales probably overstated the negative case, and we may see subsequent revisions in the months ahead. However, forward-looking data from Mr. Landry, better news on new-home contracts and inventory in the Chicago region, and increasing rents all suggest the months ahead will look better. Our video last week discusses some of the green shoots that we're seeing in the housing market.

New and existing home sales in February were awful, contrary to what we've been hearing and seeing on the ground. New homes sold at an annual rate of 250,000 units last month, a new record low dating back to the 1960s. The result was 17% below upwardly revised January data and 28% below year-ago figures, illustrating just how terrible things have been in the homebuilding industry so far this year. Leading the plunge was the Northeast region, falling 57% from January to just a 15,000-unit annual rate. The Midwest was down 28% sequentially, leading us to believe the figures may have been influenced by February's poor weather. Even accepting this, the picture is not great on the surface. Inventories of new homes now sit at 186,000 units, unchanged from January. Only three months in the early 1960s show less inventory than today, while the number of actual households sits at roughly double the level. As we've mentioned many times before, it won't take much to exhaust what little inventory sits around today if the industry sees even a little uptick. Existing homes clocked in at a similarly pathetic annual rate of 4.88 million units in February, down almost 10% sequentially and 3% year over year. Both the new and existing home sales figures contradict what we've been hearing on the ground, with both the realtors and builders we hear from voicing a fair bit of optimism about the spring selling season. We'll have to see how it shakes out, but we are hoping for a reversal or revision in the current trends in the coming months.


As for pricing, we weren't all that surprised to see both new and existing home pricing continue their dives in February. Even so, we consider last month's trajectory to be more reflective of the end of a trend than the beginning or even the middle. Prices are firming rapidly according to our latest readings of multiple listing service real-time pricing data across dozens of metro areas. This follows horrendous December, January, and February readings from the same MLS database. We're hopeful this indicator reflects the fact that home prices have seen the worst of the current cycle, and we wouldn't be surprised to see Case-Shiller numbers (for January) slightly contradict the current downtrend in prices.

Fourth-Quarter GDP Revised Up to 3.1% Growth

The third and final reading on fourth-quarter GDP growth was revised up to 3.1%. While the headline numbers had been on a roller coaster 3.3%, then 2.8%, and now back to 3.1%, the key underlying theme remains intact: The consumer is back. All three of the reports showed consumer spending at close to 4% in the fourth quarter. Spending on consumer durables led the way, growing 21% on an annualized basis, while nondurable goods grew 4.1% and consumer services remained mired in the mud, growing just 1.5%. The source of all the GDP revisions has been revised inventory levels and trade deficit levels combined with slightly greater business investment spending. For the full year 2010, GDP grew at a 2.9% rate.


Jobless Claims Fall to 382,000

After a year of making almost no progress, I can definitively say that new claims have broken out of their rut and moved to new recovery lows. Even the less-volatile four-week moving average dropped to 385,250, the lowest level since mid-2008. Recall that claims got as high as 674,000 in early 2009. It is also worth noting that the 300,000-350,000 claims level is the best we can hope for even in good times. Reduced claims bode well for this week's jobs report.


New Orders for Durable Goods Puzzlingly Weak

In place of the expected gain, durable goods orders fell by 0.9% last month. Even stripping out the volatile transportation sector, orders still declined 0.6%. This doesn't fit with what we've been hearing from our companies; they act a lot more bullish than these order numbers would seem to indicate. Part of the problem was that new orders for defense products fell 20%. Without these military orders, durable goods orders were up a more respectable 0.4%. I would also note that there were a lot of up categories this month, so it certainly wasn't a one-way downward spiral. Some of the category findings seemed to contradict themselves, too. Primary metals were up, fabricated metals were down. Machinery was down, but electrical equipment and appliances were up. In any case, this metric seems to have gotten more volatile over the last year and has lost some of its predictive value. Again, we all should really be watching the larger consumer sector and pay less attention to the manufacturing sector. Those manufacturing orders must eventually come if the consumer continues to take things off the shelf.


Jobs Report on Tap for This Week

Steadily falling initial unemployment claims and a strong manufacturing sector are pointing to a decent but not exceptional March jobs report. The consensus is for gains of 200,000 or so jobs, but I think a range of 150,000-200,000 jobs makes more sense. An improvement of much more than that is hard to see until both the homebuilding and construction industries improve. Recall that 20%-25% of the jobs lost this recession were in construction. That figure doesn't include the furniture that goes into those buildings, the agents that sold them, or even the mortgage brokers. As detailed above, a rapid return to a housing boom doesn't seem to be in the cards.


The purchasing managers' report from the ISM will also be out this week. Lately the PMI data, both regionally and nationally, have been almost ebullient even as durable goods orders described above and the industrial production report which announced earlier have painted a more cautious picture. Consensus is for a flat PMI number for March: 61.4. Watch Thursday's Chicago PMI number for some early clues on the national number. However, a barn-burner February in Chicago's PMI calculation means a little fall-off is to be expected.


Auto Sales Still on a Roll?

Auto sales have been on a roll lately, and the expectations are for continued improvement. The consensus predicts an increase to 13.5 million units, up from 13.4 million seasonally adjusted annual units in February. One would have thought negative headlines and gas prices would sink the auto sector. Instead, I'm hearing that consumers sitting on the fence are racing to showrooms to pick out new cars and beat any supply interruptions from Japan. I would also expect some downward pressure on March expectations because the February number was at least 0.5 million above expectations and was helped along by some GM incentives. Anything in the 13.0 million-13.5 million range would make me happy and clearly show that the consumer is still hanging in there.


Personal Consumption Data Will Point the Way to New GDP Forecasts

Personal income data and spending data are due earlier in the week and will result in a final round of first-quarter GDP forecast changes. Although the consumption number is important in and of itself, it is the linchpin of quarterly GDP forecasts. So far, we have only one month of consumption data (consumption generally represents 70% of GDP), and even that month is expected to be radically revised. Even as we approach the last day of the first quarter, GDP estimates for the period vary from 2.0% to 4.0%. Until we actually see monthly consumption numbers, those are probably equally good guesses.


Much higher inflation rates (that are calculated in a unique way for the GDP estimate and real consumption estimates) and highly volatile import numbers will also wreak havoc on the all-important GDP forecast. I suspect those 4% forecasts will be going by the wayside over the next few months. If the market remains in its euphoric mood, they just might look past those reductions and focus on corporate earnings news, which will begin pouring in over the next month.



Please note: There will be no Reading Indicators column next week, as Bob will be on vacation.


This is an edited version. The article originated from Robert Johnson’s column at

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Robert Johnson, CFA  Robert Johnson, CFA, is director of economic analysis with Morningstar.

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