Momentum Has Not Been ‘Overgrazed’: A Visual Overview in 10 Slides
Claude B. Erb | May 10, 2014
The return to “momentum” does not seem to be the victim of “overgrazing”. Conceptually, overgrazing occurs when too much capital chases too few investment opportunities which in turn leads to low returns. The “equity risk premium”, the “size premium” and the “value premium” seem to be getting close to a no-man’s land of return-free risk. A high degree of belief in “the kindness of strangers” could be driving the low equity risk premium, size premium and value premium. A high degree of disbelief in momentum could be driving what appears to be a trend large cap momentum excess return of about 7%.
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The Federal Reserve’s tapering is underway. The central bank’s quantitative easing (QE) program that generated record levels of monetary liquidity in recent years is on track to fade into history by the end of the year. The approaching demise of QE lays the groundwork for what’s widely expected to be the first interest rate hike sometime next year, probably around mid-2015, based on the consensus projection. The details and timing still depend on the incoming economic data, of course, as Fed Chair Janet Yellen reminded last week. But barring a run of weak numbers, which looks unlikely at this point, it appears that the tapering will roll on.
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Some analysts are again projecting that the age of higher interest rates has finally arrived. The Fed is tapering and the US economy is expanding moderately, despite a first-quarter setback. David Kotok last week wrote that the central bank’s tapering has now passed the tipping point and reflects a “tightening” of monetary policy. Recent inflation readings have perked up as well. The consumer price index jumped 2.1 percent through May on an annual basis, the most in more than two years. But last year’s mild rise in interest rates, measured by the benchmark 10-year Treasury yield, has reversed course again and has trended lower so far in 2014. The great rise in rates has been delayed once more. What gives?
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US economic growth slowed in June, according to the Chicago Fed National Activity Index. The benchmark’s three-month average (CFNAI-MA3) fell to +0.13 last month from an upwardly revised +0.28 for May. Today’s update was in line with The Capital Spectator’s median econometric forecast.
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The three-month average of the Chicago Fed National Activity Index (CFNAI) is expected to decline to +0.10 in tomorrow’s update for June, according to The Capital Spectator’s median econometric forecast. The projection is moderately below the previously released +0.18 reading for May, which reflected above-average economic growth relative to the historical trend. Only values below -0.70 indicate an “increasing likelihood” that a recession has started, according to guidelines from the Chicago Fed. Based on today’s estimate for June, CFNAI’s three-month average is expected to remain at a level that’s historically associated with growth, and at a moderately above-trend pace.
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● The Next Economic Disaster: Why It’s Coming and How to Avoid It
By Richard Vague
Summary via publisher, University of Pennsylvania Press
Current debates about economic crises typically focus on the role that public debt and debt-fueled public spending play in economic growth. This illuminating and provocative work shows that it is the rapid expansion of private rather than public debt that constrains growth and sparks economic calamities like the financial crisis of 2008. Relying on the findings of a team of economists, credit expert Richard Vague argues that the Great Depression of the 1930s, the economic collapse of the past decade, and many other sharp downturns around the world were all preceded by a spike in privately held debt. Vague presents an algorithm for predicting crises and argues that China may soon face disaster. Since American debt levels have not declined significantly since 2008, Vague believes that economic growth in the United States will suffer unless banks embrace a policy of debt restructuring.
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There’s still plenty to worry about (or rant about) when it comes to macro analysis, but conspicuous signs of trouble are still the exception for the broad trend. The June update of a diversified set of 14 economic and financial indicators continues to reflect growth. Near-term projections point to a softer run for the expansion in the months ahead, but there are no overt hazards at the moment in terms of estimating business cycle risk.
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Housing starts were surprisingly weak in June, the Census Bureau reports. The consensus forecast was looking for a modest gain to a 1.026 million annualized rate. Instead, the actual number dipped to 893,000—the lowest since last September. Newly issued permits for housing construction suffered a similar setback. In fact, housing has been a weak spot in the economy this year and today’s release doesn’t tell us otherwise. But the outlook for the sector isn’t as dark as it appears when focusing on the latest monthly changes. As we’ll see, the annual growth for starts and permits leaves more room for optimism. Not a lot, but there’s a decent if still unproven case for thinking that the housing sector is stabilizing, albeit at a substantially slower rate of growth vs. 2012 and early 2013.
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Industrial production increased 0.2% in June, the Federal Reserve reports. The rise is moderately below expectations, although the good news is that industrial output is still expanding at a decent pace on a year-over-year basis, which suggests that the outlook for the business cycle is still encouraging. The bad news is that we have another data point that hints at the possibility that the economy isn’t about to accelerate much beyond the modest pace we’ve seen lately.
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Housing starts are expected to total 1.017 million in tomorrow’s update for June, based on The Capital Spectator’s median econometric point forecast (seasonally adjusted annual rate). The projection represents a modest increase vs. the previously reported 1.001 million for May.
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