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Why this week’s releases are critical for your ETF investments

Part 2
Why this week’s releases are critical for your ETF investments (Part 2 of 8)

Overcoming the weather: Economic progress in first quarter 2014

Gross domestic product

The Bureau of Economic Analysis will release the gross domestic product (or GDP) estimate for the first quarter of 2014 on Wednesday, April 30. The GDP is one of the most comprehensive measures of economic activity, covering all sectors of the economy, including both stocks (OEF) and bonds (AGG). Normally, the GDP announcement is a market-moving event. This Wednesday, the Fed’s April FOMC meeting announcement will be made as well, which, along with the GDP release, should produce some market shenanigans.

Part 2Enlarge Graph

What is gross domestic product (or GDP)?

A country’s GDP is the total market value of all final goods and services produced within a country within a specified timeframe—like a quarter or a year. Encompassing all sectors of the economy, it’s one of the broadest measures of the economic size or health of a country. Very broadly:

GDP = Total Consumption + Total Investment + Government Expenditure + (Exports – Imports)

Highlights from the Q4 2013 release

  • Quarter-on-quarter real GDP growth in the fourth quarter of 2013 was revised from 3.2% in the advance estimate to an annualized rate of 2.6%, down from the 4.1% rate reported in the third quarter.
  • The increase in Q4 real GDP was primarily due to increases in consumption (up 3.5%), exports, and non-residential fixed investment.
  • Government spending, however, declined along with residential investment and private inventories, while the import component increased. These three factors decreased the GDP (refer to the GDP components in the equation above).
  • The price index for gross domestic purchases increased 1.5% in Q4 2013, compared to an increase of 1.7% in 2012. The price index for gross domestic purchases excluding the more volatile components of food (MOO) and energy increased by 1.8% in Q4 2013. This price index measures the prices paid for U.S. residents’ purchases.

Domestic food prices in the country have been increasing this year on account of the drought in California. Food companies like General Mills (GIS) have reported weather-affected results in the last quarter, partly due to the drought and partly due to the severe winter. The Market Vectors Agri-business ETF (MOO), which invests in food- and agriculture-based companies, is up 1.1% this year. MOO has an expense ratio of 0.53% and assets under management (or AUM) of over $3 billion. The top holdings in MOO include companies like Monsanto (MON).

GDP’s impact on financial markets

Increases or decreases in real GDP imply economic expansion or contraction, respectively. All else equal, the demand for money is higher in an expanding economy, as investors are eager to pursue new business opportunities since the underlying investor sentiment is positive. An increase in the demand for money would raise interest rates, lowering bond prices and ultimately implying costlier debt, all else equal. A decrease in GDP would imply the opposite.

In the current economic context, a higher-than-expected increase in GDP would also imply that the Fed may cease monetary stimulus sooner than expected—raising the Fed funds rate, which would also raise rates across other maturities. As bond prices fall when interest rates rise, this would impact the prices of ETFs like the Core Total US Bond Market ETF (AGG).

In the next part of this series, we’ll preview the personal incomes and outlays report for March, which will be released by the Bureau of Economic Analysis on Thursday, May 1.

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