Economic Update for September with Sean McCreery

Transcript

Man: Welcome to the “What Matters Most,” podcast presented by First United Bank & Trust. That’s My Bank. Visit us today at mybank.com.

Eric: Hello, and welcome to “What Matters Most,” a podcast all about finances, community, savings, and security for you, your family, and your business. This podcast is brought to you by the helpful folks at My Bank, First United Bank & Trust. I’m your host, Eric Nutter. And in today’s episode, what matters most is our monthly economic update. And for this helpful discussion, I’m happy to be joined again today by Sean McCreary, wealth investment officer from the wealth management department of First United. Good morning, Sean. How’s it going?

Sean: Good morning, Eric. It’s going good so far.

Eric: Good. So you’re hanging in there. You’re still working from home?

Sean: Yup.

Eric: Yeah. So how’s things been?

Sean: It’s been good. And luckily, the market has been nice to us through the end of August but things have went well. Getting used to working from home.

Eric: Yeah, me too. Well, as is tradition with our monthly economic updates when we talk with either Brad or Megan or yourself, we kinda touch on a couple of different points. We start off with, you know, especially since we started kind of doing this in this format, the coronavirus has been with us the entire time. So we start off with what’s the…give us the bad news first, then we’ll get into the positives in the market and then get into your final thoughts. So kick us off with the negative impacts in the market right now.

Sean: Okay. Yeah. And I mean it’s kind of why we frame it this way is just because at this time, we kind of think within at least the economic data and the economic news, the negatives kind of outweigh the positives right now. So, of course, in the path of the COVID-19 virus really remains kind of the most important economic growth driver over the next most likely 12 to 18 months and how the uncertainty from it really continues to be a headwind for the economy. News thought headlined and kind of followed the virus hotspots as they migrated again, originally from coastal states to Southern Midwestern to kinda Sun Belt States and then kind of the newly hot Midwest.

In overseas, Europe is beginning to see somewhat of a second wave with cases rising to levels last seen in April. Similar to the U.S., as we’ve seen most recently, it tends to be with the kind of the younger population. And at least more recently it has been less deadly with that second wave in Europe and the most recent kind of hotspots here in the Midwest. But a lot of non-Asian emerging markets such as India and Brazil kind of are still struggling with a pretty deadly first wave. So it continues to kind of be one of the things we’re monitoring and we continue to hope for a vaccine.

A lot of our research partners are kind of looking at that first quarter of 2021 as kinda when many expected a vaccine to come to market but we’ll see. Again, I mean, as a reminder with the most recent coronaviruses that the globe kind of dealt with in the early 2000s with SARS and MERS, there was never a vaccine actually created for those. Similar to what we have thus far, are some therapeutics to help deal with it but no vaccine.

So, of course, COVID is the kind of the main driver right now, and a lot of uncertainty around it. Next kind of we look at the job market and I kind of split this into two parts because there has been some recovery but it’s still so from pretty ugly numbers. So the part I have kind of negatives as initial jobless claims, which comes out on a weekly basis. Most recently fell by 130,000 to a seasonally adjusted 801,000 in the last week of August. So 881,000 new people receiving jobless claims or unemployment and continuing jobless claims.

So people that have already receiving benefits and remain receiving benefits fell to a seasonally adjusted 13.25 million in the week of August 22nd from 14.49 million in the prior week. So that is a little bit of a lag there but still very high levels and a lot of it, again, due to the virus. The thing that we’re really kind of paying attention to now is the Congress has been able to pass a new fiscal stimulus bill after the CARES Act, which had the extra unemployment benefits and some other support measures expire there at the end of July.

We’re kind of waiting to see how the economy and specifically since we are kind of a more consumer-driven economy, how the consumer deals with the high unemployment, those lessened unemployment benefits as we go forward from July. And so far we are seeing consumer confidence somewhat down reflecting that and also reflecting some of those hotspots that have popped up recently. And also, we’ve seen retail sales still be subdued here through the month of August. Though it had a pop there in June, sales rose positively but only at a 1.2% level in July, missing the consensus call for a 2% growth level. And we saw August basically at a flat level.

So we’ll see how that continues and how that goes forward especially as…I mean typically, we get that kind of back to school spending taking place, we’ll see if that actually took place and then obviously we start to get into the holiday season. So the hope is that the consumer, as we’ve seen from a lot of the parts of the economy, has been fairly resilient. Hopefully, that resiliency remains but we’ll see.

The next thing that we’re kind of keeping track of is U.S-China relations. They really remain strained president…complete decoupling from China. This was kind of expected for us. We continued to expect through at least November kind of the rhetoric back and forth between the two countries to be heightened just because the tough stance on China is kind of one of the president’s more important features of his reelection bid.

So one thing that we have continued to kind of really keep track of is the trade negotiators and the commentary from both sides, China and the U.S. and to kind of make sure that that phase-one trade deal remains intact. And thus far the most recent commentary is just that that so far U.S. has been happy with the amount of purchases of U.S. goods that China has made. And so far the phase-one trade deal remains intact but still heightened strained relations there.

The next thing that we’re really keeping a track of has to do a lot with our fixed-income side of the portfolios and the tax-free bonds that a lot of our clients have is the state and local government finances, which really continue to deteriorate sharply. The expectation was in the next fiscal package was to see a decent amount of support for state and local governments. The Congress has not agreed on that yet and because of all the unemployment, the state and local government are receiving reduced revenue because of lower tax revenues. So we’re kind of keeping track of that.

So far we haven’t seen anything largely impactful, but as time goes on, state and local governments, one of their biggest expenses is headcount. So they don’t have that extra support. Unfortunately, they might have to start laying off a large amount of people. So that’s a potential headwind, again, for the labor market kind of heading into the fall and winter that we could be dealing with if there’s no more support extended for state and local government finances.

Eric: Right.

Sean: The kind of big thing and what’s kinda talked about with the amount of spending that the government is laying out right now is that June’s budget deficit alone reached $864 billion nearly as large as all of 2019. And recently rating agency, Fitch, revised its U.S. outlook for its kind of rating of U.S. treasury bonds or federal bonds, government bonds to negative. It estimates that federal debt will exceed 130% of GDP by 2021.

That level not too long ago was where Italy kind of was. A lot of people described that as a potentially dire situation. So that is a concern for us and something we will have to deal with later, most likely by higher taxes or reduced spending or both. But so far, the government spending that has taken place we think is needed to kind of bridge the gap while this pandemic is going on but we will have to pay for it later. And it could cause a higher inflation at least over the medium to longer term. Currently, we’re worried a little more about deflation but something to definitely keep an eye on.

Eric: Right. Certainly a lot of concerns in the market. Do we have positives to talk about?

Sean: Yeah, we do. We definitely do have positives. Obviously, we had seen good recovery by the markets, overall. And a lot of that has to do with… What I keep saying to our clients and our teammates is that if you were to chart a lot of this data, we did along with the markets, we made a bottom there in late March. And it’s kind of been trending up into the right as we go along here. And similar with that to the labor market, it continues to heal but again, from very bad numbers and we’re still at very bad numbers. So the U.S. did add 1.37 million jobs in August and the unemployment rate fell for the fourth straight month to 8.4%. So the economy has now regained nearly 50% of the jobs lost between February and April.

So we continue to see gains there but we would say with those, kind of the support from the….the fiscal support from the government still being discussed in Congress. The next phase, the next few months should see…it won’t be easy to reduce that unemployment rate from that near 15% where it was to that now basically 8.4%. It won’t be nearly as quick as a recovery as these past months. So it’ll be much more of a struggle. But we’re continuing to make gains. We’re continuing to show those signs of healing.

The next thing we look at is the Institute of Supply Management, their manufacturing and service indices. Basically, what this Institute of Supply Management does, they go out and survey the executives from companies, and they kind of split it into the manufacturing and services areas, which we would typically say service is about 70% to 75% of the economy and manufacturing is about 25% to 30% of the economy. So what this is, is the diffusion index. So if it’s above 50, it’s showing expansion. If it’s below 50, it’s showing attraction.

And why we look at this is this is one of the few kind of forward-looking indicators that we can look at. A lot of the data we look at is more rear-facing, rear-looking. You’re looking at what happened in the past. So this is one of the few forward-looking indicators. And in the most recent month of August, it did remain in expansion territory. And actually, both sides, manufacturing and the service index are showing what we call exceptional growth levels, which is above 55%.

And again, anything above that 55% correlates with GDP growth of 5% to 6%. So that’s not saying we’ll get that from the most recent quarter though we do expect a nice pop-back in GDP from that poor second quarter. But if we were to get a whole year of these indices remaining at these levels, that’s kind of where we would expect a GDP growth to be at in a normal year. This is definitely not a normal year.

So a lot of the indices and the numbers kind of that make up those overall indexes are stuff like new orders, production, a backlog of orders, new export orders. For both manufacturing and the service index, those are all at very high levels at 60 or above, or at least above that 55% level again, basically deemed exceptional growth. What we look at in each report is kind of the commentary from the people that are given these questionnaires. And overall, they’re really generally optimistic. They still have concern about the path of the virus. And a lot of this kind of depends on what industry you’re looking at.

Obviously, if you have kind of the entertainment, the social industries where you need large amounts of people to really have good business, those industries are still saying dire things, that they need more support. But for the majority of them, most commentary is generally optimistic. They’re seeing more demand. They’re seeing a recovery in demand. And though the going forward is uncertain, they are seeing better things going forward and continue to see good orders and good demand for their products and services.

And then the final thing, the thing that has kind of been the bright spot of this recovery from the March lows has been and kind of continues to remain the housing market and especially new single-family homes. The most recent homebuilder confidence metric that we saw actually jumped by 6 points to 78 for August. And this is the highest level that this home builder confidence survey has been in the 35-year history of the survey series matching a record set in December of 1998. So the low rates and even though prices for homes have gone up because of this high demand with low rates and low inventory, home builders continue to be positive. And this is only one of many data points about the housing market that continues to be fairly positive.

We’ve kinda been hoping that we get some better news over this kind of last recovery from the great financial crisis. And the home building area just never really kinda got to the past levels that we had seen. But now it is starting to look very good and we hope it can kind of lead us out of this recession.

Eric: Wow. All right. Well, Sean, what about final thoughts? So like, how do you wrap up all of these disparate thoughts that we’ve got going on here, the negatives and the positives? What are your feelings there?

Sean: So, I mean, we kind of say, “Okay,” well, we’ve seen this recovery in the markets and really the kind of broad rally and markets continued for August and really supported by central banks, not only here in the U.S. by the federal reserve but central banks around the globe being fairly accommodative. The bulls clearly remain in control. The path of least resistance for the markets remained higher, this consecutive month of positive returns following so often the first quarter. With a lot of this economic data, the fascinating thing is it has kind of continued to steadily and repeatedly outperform expectations actually based on several different ways to measure this outperformance. The last three months has actually seen one of the best runs of economic data relative to expectations that we’ve ever seen.

The question, I mean, really for us at this point is with Congress not passing more fiscal support, will the consumer and really this economic recovery we’ve seen this far be able to continue? Or will the still high levels of unemployment and uncertainty surrounding the path of the virus erode the gains that we’ve seen thus far as we enter the following winter? So currently at this stage, I mean, in our portfolios, we remain pretty conservative, neutral to modestly underweight equities, basically a neutral position on fixed income, neutral on cash.

We believe that kind of balances the young and fragile economic recovery and the historical monetary accommodation that the central banks around the globe have given with the kind of looming political uncertainty coming in in the beginning of November and the kind of the constant unfolding of the coronavirus story. So we’re still staying pretty conservative. We continue to like what we see in this recovery but we think there’s a lot of uncertainty out in the market and we’re still playing it staying pretty cautious.

Eric: Yeah. Well, Sean, we actually do have a listener question that came in that we were hoping we could get your thoughts on. A listener mentioned that they heard the Federal Reserve was making a shift in policy. Can you give us an idea of what that change is that the federal market committee is making?

Sean: Yeah. And I think what that listener is commenting on is the most recent, is usually a bunch of central bankers and economists going to Jackson Hole at the feds annual symposium. They actually did that virtually this year. And the fed chair, Jay Powell, gave his typical speech and kind of commented on the shift in policy that the fed was making. So overall, they really can’t change their overall core drive, which is kind of maintaining low unemployment and steady prices. That’s, like, their core, their dual mandate, low unemployment, and steady prices. They kind of say that as they want to see inflation near that 2% range.

The small shift that they did was what they are calling…agreed to a policy of average inflation targeting. So basically what this is, is they’re saying because inflation has been below their 2% target for some time, if they were to see unemployment get to that very low level, what the economists kind of call full employment, which is there’s no real technical level of it, but they kind of say down to that 3% to 4% level of unemployment instead of kind of proactively starting to lift rates. Because the thought is if once unemployment gets so far we’ll start to see inflation. They’re not really going to start raising rates until they truly start seeing that inflation come.

They might actually, because of the average inflation targeting, let that inflation run a little higher above 2% [inaudible 00:23:19] for all the amount of time we’ve had recently of below 2% inflation. So to us, the main thing that we focus on here is kind of what does that mean? What are they really saying there? And to us, that means that they’re going to…they remain at their lower bound for their depository rate, the 0% to 0.25% for a, long, long time. They’re kind of committed to that while we’re in this uncertain economic environment. They’re going to leave it there and it most likely won’t raise it for quite a while.

And so to us, that allows us in our management of the fixed income portion of our client’s portfolios to go a little longer out on the maturity range to get a little more yield. But we are careful because inflation can come at any time and it could be a few months, it could be a year. And once they see that inflation, they’re running above that 2% level, they will start to hike rates. So to us, again, it just means that they’re going to remain accommodative for quite some time by keeping the rate that they control at that lower bound for a longer time.

Eric: Got it. All right. Well, Sean, thank you so much for joining me and providing such helpful insights to our listeners. If anyone has questions like our listener that had the question about the Federal Reserve, or if they want to learn more, what’s the best way they can reach out and get the support they need?

Sean: I think the biggest way is going to our website. There’s more of other ways to contact us but I would say go to our website. There’s a lot of information there, audible ways, contact us and then questions you can ask just there on the website.

Eric: Great. All right. Well, thanks again. I really appreciate it. And that brings us to the end of our show. You can always find more episodes by visiting mybank.com/podcast or find us on your favorite podcast app. And we’re on basically all the podcast apps now. So you can subscribe there. You can also leave us feedback. Ask a question for someone like Sean or any of our other guests that we’ve had, or request a topic for us to discuss by sending an email to podcast@mybank.com. And finally, if this show has been helpful for you, you can help us by leaving us a five-star review on one of those podcast services.

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