Concerned by Recent Economic Data? Look Closer …

We’ve seen a lot of GDP data recently that, at first look, may seem a bit concerning. But if we take a moment for analysis, much of the news is actually good for the economy and the markets.

  • The Q4 U.S. GDP number actually decreased 0.1%. When you break down the components of this GDP number you see that the private sector actually expanded, around 2 1/2%, consistent with its rate of the last few quarters, while the public sector contracted after a strong Q3 – not unusual after an election.
  • The inventory contribution was negative because the final sale of goods has actually increased to 5.6%, driving inventories down. This is actually a very good number. It means that the U.S. economy in the private sector is actually accelerating. We think that these falling inventories will probably rebound in the first quarter, which will be better than what most people expected.
  • We had a reduction in disposable income in the first part of the year, because of all the tax increases. To see that the economy is able to expand despite this increase in taxes is very important. We have also seen an improving employment number, which is consistent with an improving economy.

So I don’t think there is any reason for concern in this data, as the expansion of the private sector in the U.S. seems to continue. This is good for equity markets and for spreads in general.

Don’t get me wrong – taxes will continue to be an issue and I don’t expect a very strong GDP number in the first part of the year. However, some positive counter effects to this increase in taxes are important, because we need them in order to sustain the rally that we are experiencing in all risk assets.

We have also seen better PMI (Purchasing Managers Index) numbers both in the U.S. and Asia, and China in particular. This is consistent with a continued Chinese recovery (we saw the first signs of improvement around September or October 2012).

Some Concerns Remain . . .
On the negative side, we saw a resurgence of the political risk in Europe. The market in Europe corrected significantly two weeks ago and continued the correction last week. This was driven primarily by some political turmoil in Spain and in Italy. In addition, I would say that the tremendous volatility we’ve seen in currencies since the end of last year is concerning.

So I count this volatility as a risk factor when I look at the overall market. I would summarize our top down outlook as positive with some rising concerns, especially coming from the political cycle on the European side.

All data as of 2/4/13 .

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