- June U.S. consumer sentiment expected to fade a bit after May’s surge
- Nervousness about Brexit heats up with only two weeks left until the vote
- FOMC next week will leave rates unchanged but will not back off on its intent to raise interest rates as soon as it can
June U.S. consumer sentiment expected to fade a bit after May’s surge — The market is expecting today’s preliminary-June University of Michigan U.S. consumer sentiment index to show a mild decline of -0.7 to 94.0, giving back part of May’s sharp +5.7 point increase to 94.7. May’s level of 94.7 was an 11-month high and was only -3.4 points below the 12-1/3 year high of 98.1 posted in Jan 2015, illustrating that U.S. consumer sentiment was relatively strong in May.
However, consumers are facing less positive conditions in June that may take some of the edge off their enthusiasm. On the positive side is the strong U.S. stock market, which has pushed to new 10-1/12 months on the more dovish view of Fed policy. Consumers generally consider the stock market to be a leading indicator for U.S. economy and a stronger stock market also means that household portfolios and 401k’s are rising in value.
On the negative side, however, is that gasoline prices have risen by 66 cents from the Feb lows and that the U.S. labor market has been weakening. Payroll growth was relatively strong at +233,000 in February but then faded to +186,00 in March, +123,000 in April and +38,000 in May (+73,000 ex-Verizon strike). To the extent that consumers pay attention to the monthly payroll figures, they may feel a little less secure about their jobs given the weaker hiring outlook.
Another negative factor for consumer confidence is the presidential election, which promises to be a slugfest of negative campaigning. To the extent that U.S. consumers are dissatisfied with the direction of their government, they will conserve their resources and curb their spending, thus hamstringing the economy.
Nervousness about Brexit heats up with only two weeks left until the vote — The markets this week became more nervous about Brexit with public opinion polls showing the “Leave” forces gaining some momentum. In addition, some high-profile market commentators are warning that the markets are not prepared for a Leave vote. Indeed, the markets do not seem to be overly worried about the Brexit vote, perhaps because they are hoping that the betting odds will be correct. The betting odds are currently 2/7 (78% probability) for a Stay vote and 3/1 (25%) for a Leave vote, according to the website oddschecker.com.
However, the markets are also well aware that the public opinion polls are evenly split between the Stay and Leave factions. A “poll of polls” run by whatukthinks.org has the Remain vote at 51% and the Leave vote just slightly behind at 49%. It remains unclear why the betting odds diverge so far from the public opinion polls, except that bettors apparently think that the polls are nearly worthless.
There is little doubt that if the UK indeed votes to leave the EU, there will be major negative consequences for the UK economy as investment capital dries up and as some businesses leave the UK to relocate back within the EU. Some industries will also be hit with higher tariffs and trade disruptions.
However, we continue to believe the negative consequences of a Leave vote would be contained mostly within the UK. A UK Leave vote would be negative for the Eurozone in the sense that it might encourage euro-skeptic politicians in Eurozone countries to call for similar public referendums on whether to leave the Eurozone. At exit of a member of the Eurozone (i.e., a country that uses the euro) would indeed be a huge problem. However, that is a longer-term development that would take months or years to play out. In addition, even in a country as politically and economically troubled as Greece, there is no strong public desire to leave the safety net provided by the Eurozone and the ECB.
FOMC next week will leave rates unchanged but will not back off on its intent to raise interest rates as soon as it can — The FOMC has been lobbying for higher interest rates for last the last several years. The FOMC is eager to get back to more normal interest rate levels that do not distort investment decisions and do not encourage bubbles in risky assets. So far, however, the FOMC has managed to implement only one rate hike. Just two weeks ago, FOMC hawks were loudly proclaiming that June was a live meeting for a rate hike and the April 26-27 FOMC minutes made clear that a majority of FOMC members were indeed leaning toward a near-term rate hike. Then last Friday’s surprise payroll report of +38,000 (+73,000 ex-Verizon strike) caused the markets to push the chances for a rate hike at the June meeting back down to near zero from 22%.
However, there is no doubt that many FOMC members still want to raise interest rates as soon as they can. The May payroll report was certainly disappointing but it was offset to some extent by Wednesday’s surprisingly strong JOLTS job openings report (+118,000 to match the record high), which indicated that job hiring intentions still seem to be strong. We expect that, while the FOMC next week will leave its funds rate target unchanged, the FOMC will not back off its intention to raise interest rates as soon as it is reasonably safe to do so.
