The Fed faces a difficult balancing act: trying to reconcile the competing trends of a strong U.S. labor market with a soft global economy and declining inflation expectations. Nonetheless, we still believe the Fed will increase interest rates at either its June or September meeting.
Market Realist – Job creation remains robust in the US.
The above graph shows changes in non-farm payrolls over the last 15 months. The last 13 months have seen at least 200,000 jobs created each month, which is similar to the pace of job creation before the financial crisis. The last seven months have brought the creation of 2 million jobs in the United States. This increase led to rally in stock markets (SPY) earlier this month, while Treasury (SHY) (IEF) yields increased, as the rise meant the Fed could hike rates soon. However, a lot has changed since then.
Market Realist – Poor consumption could lead to a subdued US economy.
The graph above shows the unadjusted year-over-year growth in retail sales since the start of 2014. Retail (XRT)(RXI) sales have contracted in the last three months. This contraction came despite lower oil (USO) prices, which usually lead to higher consumption. Bad weather is one reason for sluggish sales. Other economic indicators suggest that 1Q15 GDP (gross domestic product) growth could be tepid. Housing (IYR)(VNQ) starts dipped from ~1 million in January to 897,000 in February, according to the US Census Bureau. Industrial (XLI) production growth is also waning.
If economic data remains weak, equities could remain volatile. However, this trend could delay the rate hike. This outlook makes international stocks (ACWI) more attractive.