But if I knew how to manage my portfolio safer and smarter than most hedge fund managers, I could realistically grow my wealth.
The National Federation of Independent Business Optimism Survey is a finger on the pulse of small business
The National Federation of Independent Business is a monthly report which contains a wealth of information regarding trends for small businesses. It examines labor markets, plans for capital expenditures, credit availability, inventory and sales data, inflation, earnings, and the economic outlook. The survey goes back to 1986, so it is useful to compare current conditions versus prior peaks and valleys.
Small business accounts for roughly half of U.S. GDP and jobs. While the financial press tends to focus on the large-cap stock market indices as a barometer of the economy, small business tends to not get as much focus. Large capitalization stocks tend to have a large international focus, which means that their earnings and sentiment is not necessarily representative of the economy as a whole. When forecasting the Fed’s next move, it pays to focus on small business earnings as much or more than the earnings of, say, Apple.
The Optimism Index rebounds after a brief dip in March
The Optimism Index ticked up to 92.1 from a prior level of 89.5. “Normalcy” is an index reading of around 100, so we are well below the trend. The current labor market was positive, with the average firm increasing employee headcount by 0.14 workers during the month. This was a drop from April’s +0.19 workers. Unfortunately, firms do not seem to be planning to add more workers in the next six months.
What is holding back hiring plans? Lower sales. More firms are reporting sales declines than sales increases. 16% of all small business owners cited poor sales as their greatest problem. Taxes came in first, with 23% of all respondents citing it as their biggest concern. The lowest concern? Credit availability, although half of the respondents said they were not interested in borrowing. This dovetails with the low capital expenditures level, where only 23% of all respondents intend to make capital outlays in the next three to six months. This is a recessionary reading, but has been par for the course since the recession began.
Implications for mortgage REITs
The biggest driver for mortgage REITs, like Annaly (NLY), American Capital (AGNC), Hatteras (HTS), or MFA Financial (MFA), is the level of interest rates. Reports like this tell the Fed that they should continue holding interest rates at close to zero and continue purchasing long-term Treasuries and mortgage backed securities.
The financial press will continue to focus on asset prices, record levels in the Dow Jones Industrial Average, and increasing house prices in places like Phoenix. While those are important data points, the economy does not feel as if the stock market is at record levels. As long as there is a disconnect between the large caps and small business, the Fed will take its cues from small business – in other words Main Street, not Wall Street.
This means that mortgage REITs will have to use more leverage than usual to generate acceptable returns. As long as there is stability in the financial markets, their borrowing rates will remain low. They will benefit from having steady or rising prices for the assets on their balance sheet. The downside will be prepayments and delinquencies. For agency REITs, prepayment risk is their biggest worry. Prepayment risk occurs when borrowers refinance their mortgage, which removes high yielding assets from the REITs portfolio and replaces them with lower-yielding assets. This lowers net returns. For non-agency REITs, delinquencies and defaults are their biggest concern, although prepayment risk still exists. For them, they at least can take some solace in the fact that small business is adding to payroll, albeit reluctantly and slowly.
© 2013 Market Realist, Inc.