Growth Versus Disinflation

giodilo/iStock via Getty Images We started the second half of the year off in the same manner that we finished the first. Investors piled into mega-cap technology stocks, with Microsoft, Apple, Amazon, and Tesla all climbing more than 2%. The rest of the market was left behind, with the equally weighted S&P 500 and the Russell 2000 small-cap index falling 0.8%. In other words, the market breadth was horrible. I do not expect that trend to continue through the summer months, but weaker-than-expected economic data, which I do expect to see, will favor the perceived safety of the technology sector in the near term. We had a healthy dose of economic weakness yesterday in reports on construction spending and the ISM survey of manufacturing companies. Finviz Construction spending fell 0.1% in May when the consensus expected it to rise 0.2%, but April’s decline of 0.1% was revised to an increase of 0.3%, and the increase in spending over the past year has been a stellar 6.4%. Still, headline disappointments raise near-term concerns. With respect to manufacturing, ISM’s purchasing managers index (PMI) fell below 50 for a third month in a row in June to 48.5. New orders did improve, but production has been relatively stagnant. The good news is that the sub-index for prices paid fell 5 points to 52.1, which suggests costs for manufacturers are rising at the slowest rate so far this year. Bloomberg The ISM survey is much weaker than the one produced by S&P Global, which suggests we need to consider both before determining the health of the sector. The S&P Global PMI has been above 50 for five of the past six months, but the rate of growth remains weak. Still, new orders rose for the second month in a row and there was a sharp increase in employment activity. As we saw in the ISM survey, price inflation slowed for a third consecutive month. S&P Global I place more emphasis on the S&P Global survey because it collects data from more than 1,300 companies compared to the more than 600 included in the ISM survey. It is also more diversified in terms of company size, and its broader employee representation beyond just purchasing managers. As a result, I think it is more accurate at turning points in the economy. Still, neither of these reports for June imply strength, but they are also not that detrimental to the overall growth outlook, as the manufacturing sector only represents about 10% of our overall economic activity. Weaker-than-expected economic data will be a growing concern this summer. The Atlanta Fed’s GDPNow model just lowered its expected growth rate for the second quarter from 2.2% to 1.7%. I expect we will see more softness in Friday’s jobs report. Yet, this is what we need to continue realizing disinflation, as well as convince Fed officials that now is the time to shift to a neutral interest-rate policy that is neither restrictive, as it is today, nor stimulative. Atlanta Fed It will be a balancing act between growth and inflation until the next phase of this economic cycle begins, and the uncertainty that may arise, along with that of the upcoming election, should lead to a period of consolidation, if not a pullback to refresh, for the major market averages.

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