Sentiment has bottomed? With the Small Business job creating engine of America plunging right back into the abyss of a recession mentality, it’s a bold forecast to claim that economic sentiment for the US is about to turn higher. Let’s just say 2015 was the year the Energy recession took its toll on small cap companies.
The industrial sector deceleration remains in sync with Oil prices and fell into the “event horizon” of recession by early 2016. However, we expect the vicissitudes of the season to reverse in the 2nd quarter.
Capacity Utilization has also fallen to levels typical of a recession in recent months. There is plenty of slack and underwhelming economic data swirling around the US and global economy. Previously, such an unwanted rise in excess capacity only occurred after our GDP was contracting. If our view is sound, then oil and mining are bottoming and surplus capacity will soon bounce back to flat.
All these charts strongly support the argument for sentiment falling further and the US economy about to plunge into a recession.
It’s Different This Time
The US and global economy went from slow growth to even slower growth the past 2 years, coincident with Oil prices. The above charts are historically harbingers of imminent economic recessions, but excluding the energy sector we can see that this contraction is not systemic. When the dust settles for Q1 2016, US corporate earnings are guaranteed to have contracted for the 3rd straight quarter. However, this can be misleading as earnings have been expanding when the Oil related earnings are removed. In 2015 earnings actually rose a very healthy 7% and the consumer discretionary segment grew 10% when excluding energy. Subtracting the mining and utility sector would boost earnings even more. In spite of losses in the small business segment, this stealthy surge in earnings is incongruous with recent Purchasing Manager Surveys (PMI) and business sentiment.
Consumer Sentiment Reflects Stronger Service Sector
The stability of the Oil sector will be required for Small Business sentiment to bounce, but consumer sentiment turned the corner around November 2014. Until 2012 one could still argue that the US consumer felt as if the 2008 recession never left. By 2015 job growth had picked up steam despite the sharp exodus of workers from the energy sector. No hint of sour sentiment here.
Earth Needs More Workers
Job openings for the past year have been stuck at 14 to 15 year highs. If wages and quit rates were also at 15 year peaks then we would be worried about an overheating economy. With falling interest rates and demographic contractions of an aging workforce, the strong employment growth rates and job openings are a sign of growth, not recession.
How Low Can Unemployment Go?
Unemployment is a lowly 5% and the even broader U6 marginal unemployment that we prefer to track has fallen from 17.1% to 9.7%. This is an 8 year low – a level coincident with slow but healthy growth periods such as July 1996 and October 2004. Unemployment rate “tops” may lag post recession recovery bottoms, but they tend to be coincident or even lead the onset of economic recessions. Thus the steep unemployment downtrend is not flashing any warning signs. The current decline in unemployment appears to have room to fall further. U6 has now entered the 9 to 10% zone mentioned over a year ago that we targeted for the start of accelerating wage inflation. Since 2008 deflation has been the big concern by central banks, so an Oil price bounce and little inflation of animal spirits may be a positive change when it arrives. No recession warning here!
The theme here continues to be that its all about Oil. The high tech paradigm shift in North American Oil production created an otherwise healthy supply glut at the expense of the manufacturing economy, while the much larger global service sector kept growing. Oil hurts all sectors to some degree, but as of yet it has not become a systemic threat to the US and global economy.
What Can Go Wrong?
Perhaps too much of a good thing could be a bad thing. If Oil retreated under its $26 nadir and there was a new low in the PMI, then a widespread contraction leading to a recession “could” be signaled during a debt default panic. If Shiller’s $10 Oil is credible then we should get out the life rafts as the financial sector would be heading into hurricane weather and a global recession wold become manifest. However, oil at $10 or even $20 looks more like a Gloom and Doom pipe dream. It may not be blue sky’s ahead, but “Sentiment Has Bottomed” and the next 4 quarters should be an improvement over the past year with potential new highs in the stock market.