By: Jeff Anderson, CFA
|Close||Weekly return||YTD return|
|US Treasury 10yr Yield||2.949%||7.42%||94.82%|
Source: Wall St. Journal
The markets were poised for another positive week, but Friday’s action thwarted that. A host of economic data this week put investors (or shall we say, “traders”) in a sour mood as the data signaled that the economy was still strong enough for the Fed to keep its foot on the rate-hike pedal. Tesla’s CEO, Elon Musk told his senior executives to reduce salaried headcount by 10%. However, he did go on to say (which many news outlets did not report) that the “hourly headcount will increase.” In that same directive, Musk said that he had a “super bad feeling” about the economy (1). That was enough to knock off 9.3% of Tesla’s market value on Friday. The future of the US economy is, for the short term, uncertain. We have very smart people predicting an imminent recession while others believe a recession won’t occur until the back half of next year. It seems someone’s crystal ball is broken.
Gasoline Prices Continue to Climb:
In a previous weekly update, we highlighted the breakdown of the costs for a gallon of gasoline in California. Given the steep rise in prices at the pump, we thought we’d revisit. According to AAA, the current national average for regular gasoline prices is $4.761, which represents a $0.56 increase from March and a whopping $1.74 at this time last year. In California, the current average is $6.246 vs $4.20 a year ago giving us the dubious distinction of being the most expensive state, by far, to top up the tank. (1)
Crude oil prices accounted for 61% of the price for a gallon of gas in February of this year, while 14% went to refining, and the remaining balance went to distribution, marketing, and taxes (2). When you compare the change in oil prices and gasoline prices, the 10-year correlation is a whopping 0.944 (a reading of 1.0 would mean that they have a perfect relationship) (3).
With the Russia-Ukraine conflict still going on and China coming out of lockdown, oil prices are likely to stay elevated. That means these high gas prices aren’t going away anytime soon.
Employers Added 390,000 jobs in May:
US job growth for May was down approximately 46,000 from April and was below the monthly average pace of growth in 2021, according to the Labor Department. The unemployment rate stood at 3.6%, close to the 50 year low we experienced in early 2020 just before the global pandemic grinded everything to a halt. By most accounts, the economy remains strong, but its momentum is weakening, with wage gains slowing, a 6% drop in existing home sales, and the services sector rose at a slower pace month over month (1). The ISI Manufacturing sector rose in May vs April, albeit at a slow pace (2). But that was enough to signal to investors that the Fed will continue with rate hikes of 50 basis points in each of the next two meetings as they try to bring down inflation. As you can see from the chart below, employment has almost clawed its way back to pre-pandemic levels, but the world we live in today is vastly different from what it was two years ago.
Back in January, Fed Governor Jerome Powell said that “most FOMC participants agree that labor market conditions are consistent with maximum employment” (3). At the end of December, the Unemployment rate stood at nearly 4%. That means, at least to me, that Chairman Powell would be comfortable if unemployment ticked back up to 4%. To the markets, a move back up in unemployment would scream recession, but that may not be how Powell and his team look at it. As we’ve written about previously, the Fed is trying to slow the economy down to bring down inflation. The unemployment rate may tick up as a result of the Fed’s actions. It’s a delicate balancing act. Next week, we’ll explain inflation “expectations” as seen through the lens of traders. The inflation number is not as bleak as the current CPI readings would lead us all to believe.