The final estimate of 4Q 2014 real GDP put growth at 2.2% q/q saar, unrevised from the second estimate. Private consumption expenditures, which increased at the strongest pace since 1Q 2006, were revised higher, and exports were also stronger than previously thought despite the strength of the dollar. Less government spending and higher imports, which is a subtraction from the GDP calculations, offset upward revisions. The increase in inventory was also revised lower again, but that means that inventories should be less of a drag on 1Q 2015 growth. On balance, the U.S. economy continues to grow at an above-trend rate.
The March employment report showed slower job growth than expected. Nonfarm payrolls rose by 126,000, and the unemployment rate stayed the same at 5.5%. Measures of labor market health unaccounted for in the overall unemployment rate, such as the involuntary part-time work and the long-term unemployment rates improved marginally. Wage growth continued to disappoint, increasing only $0.06 overall, which is still weak for this part of an economic recovery.
S&P 500 1Q15 earnings season is in full gear, with about 10% of the S&P 500 market capitalization reporting last week. Estimates have been significantly revised down over the quarter due to continued U.S. dollar strength and low oil prices, leaving room for companies to surprise to the upside. While we are estimating S&P 500 earnings growth to be -1.5%, S&P 500 earnings excluding the energy sector are projected to grow at 7.4%.
Headline consumer prices rose 0.2% between February and March, and are now flat yoy seasonally adjusted, while core CPI inflation firmed slightly to 1.8% yoy. Headline inflation was stronger largely due to increases in very low energy prices. Final demand producer inflation was down on a year-over-year basis in March (-0.8% yoy), although a slight increase in energy prices caused producer inflation to increase from February to March.
There were no policy changes in the FOMC's March statement, but it opened the door for a rate increase this year by removing the word "patient". The Fed stressed a rate increase would only come after further improvement in the labor market and when the Committee had "reasonable confidence" inflation would hit 2 percent in the medium term. The Fed lowered its forecasts for both the long-run unemployment rate and near-term economic growth, signalling the Fed sees more slack in the economy than previously thought.
- Volatility caused by the timing and communication of Fed tightening.
- Political risk potentially caused by Middle East turmoil and lower oil prices.
- Deflation worries in other developed economies outside of the U.S.
- Volatility caused by sharp swings in commodity prices and exchange rates.
- A slow upward trend in earnings (despite special factors depressing 4Q 2014 numbers), coupled with low interest rates, still make stocks look attractive in relative terms.
- Cyclical and small cap stocks are generally favored in a rising interest rate environment.
- High yield bonds look more attractive than Treasuries, but a diversified approach to fixed income investing seems appropriate given likely Fed tightening in 2015.
- Despite disappointing returns due to a stronger dollar in 2014, international exposure is still warranted given growth prospects abroad.