Private sector firms across the US signalled an unprecedented expansion in business activity in May. Growth was driven by the fastest service sector upturn on record, with the increase in manufacturing output also accelerating amid stronger client demand.
Adjusted for seasonal factors, the IHS Markit Flash U.S. Composite PMI Output Index posted 68.1 in May, up from 63.5 in April. The rate of expansion was unprecedented after surpassing April’s previous series record. Goods producers and service providers alike noted stronger paces of activity growth midway through the second quarter.
The rise in new orders quickened for the fifth month running in May, with improvements in demand stemming from greater customer confidence and the further reopening of the economy. Some manufacturers also noted higher order volumes from clients due to material shortages and efforts to stockpile amid rising costs. At the same time, new export business rose at the fastest pace since the series covering both manufacturing and services began in September 2014.
Increasing cost burdens continued to be keenly felt, as the rate of input price inflation soared to a new survey record high, often linked to a further marked worsening of supplier performance. Commonly noted were increases in PPE, fuel, metals and freight costs amid significant supplier delays.
The steep rise in costs fed through to the sharpest increase in output charges since data collection began in October 2009, with record rates of inflation registered for both goods and services as soaring demand boosted firms’ pricing power.
Although a solid expansion in staffing levels eased some pressure on backlogs in the service sector, manufacturers registered the fastest rise in work-in-hand on record amid raw material shortages. While job creation was again seen in the goods-producing sector, the rise was the slowest for five months, linked in part to difficulties filling vacancies. Measured overall, employment rose for the eleventh straight month, but the rate of increase eased from April’s survey high.
Business confidence across the private sector improved in May, with the degree of optimism stronger than the series average. That said, the pick-up in sentiment largely stemmed from the service sector. Manufacturers expressed concern regarding raw material shortages, which it is feared could extend through 2021, and unsustainable demand conditions.
The seasonally adjusted IHS Markit Flash U.S. Services PMI™ Business Activity Index registered 70.1 in May, up from 64.7 in April. The rate of expansion was the sharpest since data collection for the series began in October 2009. Firms linked the upturn to stronger client demand amid greater customer confidence and the reopening of non-essential businesses.
New order growth also accelerated to the fastest on record. Total sales were supported by the sharpest increase in new export business since August 2020.
Inflationary pressures continued to mount in May, as rates of increase in input prices and output charges quickened to the steepest on record. Companies commonly noted efforts to pass through soaring costs to clients, with prices of oil, PPE and transportation often cited as fuelling the uptick in expenses.
Outstanding business at service providers increased modestly in May and at a slower pace than that seen in April. Backlog growth was eased by additional hiring, with employment rising solidly.
Meanwhile, business confidence picked up in May, buoyed by hopes of further success in the vaccine rollout, and a return to normal client interactions by the end of 2021.
Goods producers registered a record rate of improvement in operating conditions during May, as highlighted by the IHS Markit Flash U.S. Manufacturing Purchasing Managers’ Index™ (PMI™) posting 61.5, surpassing April’s previous series high of 60.5.
The uptick in the headline figure was supported by faster expansions in output and new orders, with new orders also rising at the sharpest rate on record. Nonetheless, a further marked deterioration in vendor performance limited operating capacity and reportedly held back output growth.
Subsequently, backlogs of work accumulated at the fastest pace since data collection for the series began 14 years ago, as firms were constrained by raw material shortages. Companies meanwhile sought to expand staff numbers, but the rate of job creation eased to the slowest for five months.
At the same time, input costs rose in May at a pace not seen since July 2008. The uptick in inflation was widely attributed to higher logistics, raw material and fuel costs, with firms commonly reporting soaring vendor prices and difficulties sourcing materials amid a further severe lengthening of supplier delivery times. Companies made efforts to pass higher cost burdens on to clients, causing output charges to rise at the steepest rate on record.
Although strong, business confidence slipped to a seven-month low in May. Firms stated that optimism stemmed from stronger client demand and success of the vaccine rollout. That said, manufacturers highlighted that strain on capacity and raw material shortages are expected to last through 2021.
Home Buying Slows Down as Prices Climb to Record The nationwide house-buying frenzy eased in April, as home prices rose to highs and the supply of available properties remained low.
Existing-home sales fell 2.7% in April from March to a seasonally adjusted annual rate of 5.85 million, the National Association of Realtors said Friday. April marked the third straight monthly decline, the longest downward stretch since last spring, when Covid-19-related lockdowns eased and have boomed in the past year. (…)
The median existing-home price rose to $341,600 in April, the highest on record, NAR said. The annual price appreciation of more than 19% was the strongest in data going back to 1999. (…)
Economists surveyed by The Wall Street Journal expected a 0.2% monthly increase in sales of previously owned homes, which make up most of the housing market. (…)
There were 1.16 million homes for sale at the end of April, up 10.5% from March and down 20.5% from April 2020. At the current sales pace, there was a 2.4-month supply of homes on the market at the end of April. (…)
First-time buyers accounted for 31% of sales in April, down from 32% in March, NAR said. All-cash transactions made up 25% of sales, up from 23% in March.
Sales continued to be especially strong at the high end of the market, as sales of homes priced over $1 million more than tripled in April compared with a year earlier, according to NAR.
(Haver Analytics)
In a decision on Friday for preliminary new rates, the Commerce Department raised the combined duties for most Canadian lumber producers to 18.32 per cent, compared with the current 8.99 per cent. (…)
The proposed rates will not take effect immediately since they are subject to further review over the next six months before final duties are set.
Two-by-fours made from Western spruce, pine and fir sold last week for a record US$1,640 for 1,000 board feet, according to industry newsletter Madison’s Lumber Reporter. Those benchmark prices stayed flat this week, but they have shot up 340 per cent since mid-May of 2020.
The Commerce Department’s latest move is based on scrutinizing data from 2019, when lumber traded mostly between US$300 and US$400 for 1,000 board feet. (…)
U.S. lumber production accounts for only 70 per cent of its domestic demand. Canada provides most of the balance of lumber supplies sought by the U.S. (…)
Canada has repeatedly won cross-border trade arguments on appeal in the long-running lumber battle dating back to 1982. (…)
After reviewing data from 2017 and 2018, the Commerce Department reduced the duties for most Canadian producers in late 2020 to 8.99 per cent, compared with 20.23 per cent previously. (…)
Receipts fell 5.1% last month after many provinces introduced strict measures to curb virus cases, according to preliminary data from Statistics Canada released Friday. The drop reverses two strong months of gains, including a 3.6% increase in March.
Canadian retailers are likely to remain weak throughout most of May as lockdowns continued. Despite the setback, analysts expect a quick rebound for the economy in June once containment measures have been lifted — as was the case after previous lockdowns.
Retail sales are still well above pre-pandemic levels, with April figures about 5% above sales numbers in February 2020.
Vaccines Aren’t Main Driver of Spending Revival, Data Show Spending and foot-traffic data suggest higher vaccination rates haven’t been the primary driver behind the early economic recovery, but this dynamic will likely change in coming months as more people are vaccinated.
(…) The vaccinated are “proceeding with cautious optimism,” said Derrick Fung, chief executive of Cardify. “They’re still not really comfortable doing live entertainment where there’s crowds of people.”
People who aren’t vaccinated, on the other hand, tend to be more risk tolerant and are already living a relatively normal life, Mr. Fung added. “As places open up, they’re the ones leading the charge.”
Spending at entertainment venues was up 20% among consumers who don’t plan to get the vaccine in April compared with January 2020. It was up just 10% among vaccinated people during that same period, according to Cardify.
Across the country, foot traffic—a proxy for spending—at many providers of in-person services such as airports, hotels and theaters is still below pre-pandemic levels. But it is up from the winter, and has climbed more rapidly in states with Covid-19 vaccination rates below 45% as of May 3 than in states with higher rates, according to an analysis by data company Earnest Research. (…)
Visits to airports, hotels and theaters in less vaccinated states had recovered in April to 71.2% of pre-pandemic levels versus 52.7% in more vaccinated states, Earnest data show. Gym visits had bounced back to 87.3% of pre-pandemic levels in less vaccinated states versus 68.5% in more vaccinated states. (…)
Vaccinated consumers’ restaurant spending was up about 10% in April 2021 compared with January 2020. As recently as February of this year, their restaurant spending was down 40% from January 2020, Cardify data show. (…)
TECHNICALS WATCH
My favorite technical analysis service keeps trying to stay positive amid a narrowing equity market as the increasingly volatile NDX, S&P 600 and Russell 2000 indices struggle to revisit their Q1 peaks. The “hope” is that the market will work out its short-term concerns and eventually reconfirm its bullish trends. Otherwise, a “serious re-evaluation” will be needed.
This chart of the Russell 2000 illustrates the challenge ahead for small-caps:
(Chart-of-the-Day)
NASDAQ is particularly affected by the 13.5% setback by its stalwarts (NYFANG) since February 16 but erratic sideways trends on declining volumes in smaller cap indices suggest investors seek to increase the liquidity of their portfolios.
On the other hand, large caps continue to perform reasonably well, not only in the USA but also in Canada and Europe.
Meanwhile, the MSCI China index is down 18.6%, the MSCI Emerging Market index is off 11.3% and the MSCI Japan index is down 6.0% since their mid-February peaks.
Highly speculative behavior is waning: since mid-February, the Morgan Stanley Unprofitable Techies index has cratered 38%, the ARKK fund 34%, the SPAC index 27% and the IPO index 25%.
The speculative crowd, newbies or oldies, margined or not, are bruised, to say the least.
(…) Ark’s exchange-traded funds have endured a torrid few weeks, with the flagship fund down more than 32% from its Feb. 12 peak. Yet outflows have remained modest, even though tens of billions in late-arriving investments are underwater.
This means the money manager has had time for an orderly adjustment of positions, rather than being forced into a panicked liquidation. (…)
In fact, since the end of February, the family of funds — six actively managed and two tracking indexes — has lost only about $1.2 billion. They have still taken in a net $15.1 billion year-to-date.
“That speaks to the conviction of Ark investors,” said Nate Geraci, president of the ETF Store, an advisory firm. “Investors aren’t running for the hills, they appear to be in it for the long haul.” (…)
Hmmm…we shall see what “long haul” means if performance does not turn soon.
EARNINGS WATCH
From Refinitiv/IBES:
Through May. 21, 476 companies in the S&P 500 Index have reported earnings for Q1 2021. Of these companies, 87.2% reported earnings above analyst expectations and 10.5% reported earnings below analyst expectations. In a typical quarter (since 1994), 65% of companies beat estimates and 20% miss estimates. Over the past four quarters, 78% of companies beat the estimates and 19% missed estimates.
In aggregate, companies are reporting earnings that are 22.8% above estimates, which compares to a long-term (since 1994) average surprise factor of 3.7% and the average surprise factor over the prior four quarters of 15.2%.
Of these companies, 77.7% reported revenue above analyst expectations and 22.3% reported revenue below analyst expectations. In a typical quarter (since 2002), 61% of companies beat estimates and 39% miss estimates. Over the past four quarters, 69% of companies beat the estimates and 31% missed estimates.
In aggregate, companies are reporting revenue that are 4.0% above estimates, which compares to a long-term (since 2002) average surprise factor of 1.1% and the average surprise factor over the prior four quarters of 2.3%.
The estimated earnings growth rate for the S&P 500 for 21Q1 is 52.0%. If the energy sector is excluded, the growth rate improves to 52.8%. The estimated revenue growth rate for the S&P 500 for 21Q1 is 13.3%. If the energy sector is excluded, the growth rate improves to 14.2%.
The estimated earnings growth rate for the S&P 500 for 21Q2 is 62.2%. If the energy sector is excluded, the growth rate declines to 49.6%.
Trailing EPS are now $158.07, only 3.9% below their pre-pandemic peak. The trailing P/E is 26.2, up from 20.6 in February 2020 while the Rule of 20 P/E is 29.2 vs 22.9.
Using “normalized EPS” of $189 (2021 estimate), the conventional P/E becomes 22.0 while the R20 P/E is 24.9, both still considerably expensive. If we get very forward looking and accept 2022 EPS of $212, the conventional P/E declines to 19.6 and the R20 P/E to 22.5, both still well above historical comfort levels.
Amid exploding costs, analysts remain upbeat on earnings, although some restraints are emerging on smaller companies:
Encouragingly, corporate guidance has not deteriorated. In fact, 13 more companies have volunteered guidance amid the costs turmoil and none of them were negative.
So, if investors are not worried about profits, the lack of buying enthusiasm suggests rising concerns about valuations amid rising inflation (however transitory) and interest rates.
The speculative fervor peaked in mid-February after rates spiked back to their pre-pandemic range. The jump in core inflation has opened a wide “transitory” gap that will need to close, one way or the other.
That gap needs to close quickly and favorably because the S&P 500 real earnings yield falling to or below zero has historically not been equity friendly:
(Bloomberg’s Dave Wilson)
The Fed, like many other observers, was surprised by the jump in the CPI last month. It is also surprised by the speed of the economic recovery. So this statement from the recent FOMC minutes is important:
A number of participants suggested that if the economy continued to make rapid progress toward the Committee’s goals, it might be appropriate at some point in upcoming meetings to begin discussing a plan for adjusting the pace of asset purchases.
How many is “a number of participants”? More than 2, which would be “a couple”. So at least 3, out of 11.
Unless inflation calms down, “ a number” could become “many” or “most” pretty rapidly. Investors would then need to deal with a hawkish Fed possibly behind the curve fighting a roaring economy on fiscal steroids.
In credit as in stocks, the good news from the fight against the virus has created a level of justified optimism. The current direction of travel seems to be justified. What remains far harder to discern is whether the incredible valuations of both credit and equity can possibly be sustained if central bank support were to be removed. (John Authers)
Jamie Dimon is not a central banker, but he’s a banker central to the economy. From JPM’s latest conf. call:
“…we are going to enter a booming economy. It’s happening as we speak….I have little doubt that excess savings, huge deficit spending, more quantitative e.g., a new potential infrastructure bill, a successful vaccine, and the end of the pandemic, that the U.S. economy will lightly boom, and this boom run to 2023 because all of the spending could extend well into 2023.”
China stepped up its fight against soaring commodities prices, summoning top executives to a meeting that threatened severe punishment for violations ranging from excessive speculation to spreading fake news.
The government will show “zero tolerance” for monopoly behavior and hoarding, the National Development and Reform Commission said after leaders of top metals producers were called to a meeting in Beijing with multiple government departments on Sunday.
The push to rein in surging metals prices rippled across markets — with steel dropping as much as 6% and iron ore tumbling by close to the daily limit — before prices steadied later in the session. Most base metals were also under pressure. (…)
Issuance of Bundles of Risky Loans Jumps to 16-Year High Sales of collateralized loan obligations, securities backed by bundles of risky corporate loans, are hitting records, lifted by a recovering economy and demand from yield-starved investors.
Issuance of new collateralized loan obligations, which buy up loans to companies with junk credit ratings and package them into securities, totaled over $59 billion as of May 20, according to data from S&P Global Market Intelligence’s’ LCD. That is the highest ever figure for that period in data going back to 2005.
The prospect of rising inflation and a shift away from the Federal Reserve’s easy money policies are making bonds tied to so-called CLOs attractive to a wider range of investors, analysts said. Many are expecting strong growth to prompt Fed tightening, eroding returns on corporate bonds. Yields on CLO bonds typically rise with interest rates. (…)
CLOs have become a $760 billion market, accounting for 70% of new leveraged loan purchases last year, according to Citi. Because CLOs’ loan holdings are diversified, the bonds can achieve higher credit ratings than the underlying loans, making them popular among institutions restricted to investment-grade debt, such as banks and insurers. (…)
Just six nonfinancial, junk-rated companies defaulted during the first quarter of this year, according to Moody’s Investors Service—the lowest level since 2018. The ratings agency expects the trailing 12-month default rate to fall to 3.9% by the end of December, from 7.5% in March.
Ratings firms are now putting some CLO securities on review for possible upgrade, which analysts say could spur demand in the months ahead. (…)
BlackRock Inc. said in a note it has recently pared CLO exposure, seeking to reduce holdings of debt with limited upside. Some CLO tranches haven’t traded consistently, wrote KKR analysts in a recent note, a sign that there could be some fragility lurking underneath the market’s surface. (…)
Still, around two-thirds of respondents to a recent JPMorgan survey said they plan to add CLO holdings to their portfolio in the next six months. In Japan, where low and negative interest rates have made investors there some of the biggest buyers of CLO debt in recent years, the market has started to come back, analysts said, after scaling back purchases in 2020. (…)
(Credit Benchmark via John Authers)
U.S. Global Minimum Corporate Tax Proposal Gathers Momentum Germany and France welcomed the Biden administration’s new acceptance of a minimum corporate tax rate as low as 15%, possibly smoothing the way to a global agreement as soon as July that could transform how international businesses are taxed.
The Treasury’s new position, announced Thursday, would see businesses pay a minimum tax rate of 15% on their overseas profits, below the 21% level it has been seeking for U.S.-based companies’ foreign income. (…)
Big tech firms argue that they need certainty in tax rules, rather than a patchwork of national taxes—and some privately accept that a global deal may mean a hike in their tax bills. They support the OECD talks.
Ireland is one of the countries that resisted the early U.S. proposal for a minimum tax rate. (…) Ireland’s tax rate stands at 12.5%, not far below the new minimum proposed by the Treasury. (…)
(…) A number of major American companies make more than 50% of their income internationally, and have both foreign effective tax rates and consensus 2022 effective tax rates below 15%, according to an analysis by Goldman Sachs. That list includes NVIDIA Corp. , Broadcom Inc., Las Vegas Sands Corp. and Microchip Technology Inc. The analysts see fewer impacts in Europe, where the vast majority of companies already pay above 21% as it is. (…)
Relatively less-taxed sectors of the equity market have outperformed considerably since the global financial crisis, something which hasn’t been unnoticed by policy makers. Even if we leave the idea of a global minimum tax aside, the Biden administration plans to double the tax on global intangible low-tax income repatriated from abroad, known as Gilti. (…)
Bitcoin, Ether Fall After China Spurs Regulatory Fears Cryptocurrency prices extended the week’s selloff after Chinese authorities said tighter regulation was needed to protect the financial system, including taking action against bitcoin mining and trading.
(…) China’s government is cool toward bitcoin mining, leaving the activity in a gray market short of being officially outlawed. The central government’s planning agency, the National Development and Reform Commission, in 2019 described the mining of bitcoin and other cryptocurrencies as a restricted industry in a draft policy, but dropped the designation when the final report was published.
While Beijing has in the past warned about the financial stability and investor protection risks related to speculative assets, Winston Ma, a specialist in China’s digital economy who teaches at New York University, said, “For the first time, the top regulator talked about mining.” A State Council reference to mining is significant, Mr. Ma said, and is likely to result in stricter enforcement of current rules and possibly new regulations to limit cryptocurrency mining in China and may stem from Beijing’s commitments to limit its carbon footprint. (…)
The statement appears to stop short of ordering a ban on bitcoin mining. Past crackdowns, following problems in the stock market and insurance industries, broadened after top officials addressed risks to the financial system. (…)
China Hones Control Over Manganese, a Rising Star in Battery Metals China is tightening its grip on the global supply of processed manganese, rattling a range of companies world-wide that depend on the versatile metal—including the planet’s biggest electric vehicle makers.
China produces more than 90% of the world’s manganese products, ranging from steel-strengthening additives to battery-grade compounds. Since October, dozens of Chinese manganese processors accounting for most of global capacity have joined a state-backed campaign to establish a “manganese innovation alliance,” setting out in planning documents goals and moves that others in the industry say are akin to a production cartel. They include centralizing control over supply of key products, coordinating prices, stockpiling and networks for mutual financial assistance.
The squeeze sent prices soaring in metal markets world-wide, snagging steelmakers and sharpening concern among car makers. China’s metal industries already dominate the global processing of most raw materials for rechargeable batteries, including cobalt and nickel. Three-quarters of the world’s lithium-ion batteries and half of its electric vehicles are made in China.
High-purity forms of manganese have increasingly become crucial for battery-powered automobiles, touted by Volkswagen AG and Tesla Inc. in recent months as a viable replacement for other, more-expensive battery ingredients. (…)
While manganese ore is relatively abundant around the world, it is almost solely refined in China.
The manganese alliance notched a success this year in throttling the supply of key products, mainly steel-strengthening additives, sending their prices soaring more than 50% in three months. Miners and buyers say the squeeze didn’t target battery-grade sulfates critical for EV cathodes, which account for just 2% of manganese production—though sulfate prices also edged higher, commodity pricing databases show. (…)
By replacing cobalt, manganese could help auto makers produce 30% more cars with the same amount of nickel, analysts say. (…)
Nine non-Chinese projects to produce battery-grade sulfate are being planned around the world, including Element 25 and others in Africa and Europe, as investors seek to avert overreliance on China, which plans another 12, Mr. Yarham said.
Still, analysts say such projects outside China might take years to start and heavy cost investments to develop. Viable bases of manganese ore are often located in remote regions, which require expensive infrastructure to ferry and process extracted ores. (…)
