US stocks hit record high as consumer spending falls, Japanese economy stumbles in April

US stocks rose on Friday, pushing the S&P 500 up 0.2 percent to yet another record high.

As on Thursday, stocks rose despite negative US economic data. A report on Friday showed that consumer spending fell 0.1 percent in April after having jumped 1.0 percent in March. Income rose 0.3 percent in April.

Also, the Thomson Reuters/University of Michigan index of consumer sentiment fell to 81.9 in May from 84.1 in April.

However, the Institute for Supply Management-Chicago’s business barometer rose to 65.5 in May from 63.0 in April.

Also showing weakness in consumer spending on Friday was Germany, where retail sales fell 0.9 percent in April.

However, the biggest fall in consumer spending last month occurred in Japan, where data earlier on Friday showed the impact of the April sales tax hike on the economy.

While the inflation rate jumped to 3.2 percent in April, household spending plunged 13.3 percent and industrial production fell 2.5 percent.

However, the unemployment rate held at a near seven-year low of 3.6 percent.

In its annual review of Japan's economy on Friday, the International Monetary Fund suggested that Japan's “current aggressive pace of monetary easing may need to be maintained for an extended period”, that the “sustainability of the recovery over the medium term is at risk”, and that “more forceful reforms are needed”.

It was China, though, who has acted to ease monetary conditions. The cabinet announced on Friday after a weekly meeting that the reserve requirement will be reduced for banks whose lending is geared towards the real economy.

US economy shrinks, S&P 500 hits another record

The latest estimate of US GDP released on Thursday showed that the economy shrank at a 1.0 percent annualised rate in the first quarter.

Inventory accumulation was the major contributor to the decline in GDP, taking 1.6 percentage points off the growth rate. Business investment also fell at a 1.6 percent annualised rate.

Consumer spending, however, grew at a 3.1 percent rate.

Corporate profits fell 9.8 percent from the previous three months, the biggest decline since 2008, and declined 3 percent from the same period last year.

While the contraction in the economy in the first quarter is obviously a negative, the fact that it was mainly driven by inventory suggests that there could be a rebound in the second quarter.

Meanwhile, the US housing market is already showing signs of a rebound. A report from the National Association of Realtors on Thursday showed that pending home sales rose 0.4 percent in April, the second consecutive monthly increase.

Investors focused on the positive on Thursday, pushing the S&P 500 up 0.5 percent to another record high.

The latest economic data for the eurozone economy have also been positive.

A report from the European Commission on Wednesday showed that its economic sentiment indicator for the euro area rose to 102.7 in May from 102.0 in April.

S&P 500 hits another record

US stocks rose on Tuesday to push the S&P 500 up 0.6 percent to another record high.

Stocks rose as US economic data on Tuesday came out mostly positive.

Durable goods orders rose 0.8 percent in April after having jumped 3.6 percent in March. However, non-defense capital goods orders excluding aircraft fell 1.2 percent after jumping 4.7 percent in March.

Markit's flash US services PMI hit 58.4 in May compared with a reading of 55.0 for April. This helped to push the composite index to 58.6 in May, indicating the fastest rate of output growth since April 2010, from 55.6 in April.

The Conference Board's consumer confidence index rose to 83.0 in May from 81.7 in April.

However, US home price growth slowed in March. The S&P/Case-Shiller index of property values in 20 cities rose 12.4 percent from March 2013, down from the 12.9 percent increase in February.

Eurozone peripheral bonds driven by BoJ policy

As yesterday's post notes, the Federal Reserve's monetary policy has an impact on financial markets and other economies.

However, so does the Bank of Japan's, according to this Bloomberg report.

Euro-area peripheral bonds are hooked on Japan’s monetary stimulus.

The CHART OF THE DAY shows Europe’s peripheral bond rally stalled this month as the yen strengthened versus the euro. Last week the Bank of Japan refrained from adding to the 60 trillion yen ($589 billion) to 70 trillion yen poured into the monetary base each year that has encouraged Japanese investors to put money into higher-yielding European assets.

See chart

As US economy improves, monetary policy normalisation becomes a risk

Economic reports last week indicate that the United States economy appears to be accelerating after the weak spell at the start of the year.

The Conference Board's index of US leading indicators rose 0.4 percent in April, its fourth consecutive monthly increase.

The housing market showed signs of rebounding, with existing home sales rising 1.3 percent in April and new home sales jumping 6.4 percent.

The flash reading of Markit's US manufacturing purchasing managers index for May was 56.2, higher than the 55.4 reading in April.

The Chicago Federal Reserve's national activity index did fall to -0.32 in April from +0.34 in March. Nevertheless, the index's three-month moving average rose to +0.19 in April from +0.04 in March.

Even as the US economy picks up pace though, risks for financial markets may be increasing as monetary policy looks likely to return to normal from the current ultra-easy and unconventional one.

At a speech last week, San Francisco Federal Reserve President John Williams said that, after five years of extraordinary monetary policy, the US economy appears to be making a sustained recovery.

This in turn means that monetary policy is “on the road back to normal”.

However, Williams also warned that monetary tightening after years of “highly accommodative” monetary policy “may exacerbate potential risks to financial stability”. For example, he noted that “interest spreads for risky assets such as junk bonds and leveraged loans have grown quite narrow”, suggesting that “market participants who are awash in liquidity may be ignoring or taking on outsize potential risks”.

Indeed, in a post at iMFdirect last week, Serkan Arslanalp, an economist at the International Monetary Fund, calls the Fed exit from unconventional monetary policy the “potential shock heard around the world”.

He said that the Fed's exit from unconventional monetary policy could “put upward pressure on long-term bond yields in other economies”. For countries with highly leveraged balance sheets, the rise in long-term yields could “put further pressure on the capacity to service debt and could create headwinds for growth”.

Financial market participants themselves may be recognising the risk. Last week, Bloomberg reported bearish signs in the bond market highlighted by analysts at Morgan Stanley.

This year’s unexpected bond boom may look like a rally, but it doesn’t smell like one.

At least not to Morgan Stanley strategists, who detect something amiss in the way different securities are performing relative to one another.

... Small caps are slumping this year ... while junk-rated securities have gained 4.4 percent.

... The top-tier of speculative-grade bonds is beating the bottom level...

These details “are not entirely consistent with a ‘risk-on’ market,” Morgan Stanley (MS) strategists led by Adam Richmond wrote in a report today. “Given these factors, as well as low volatility, we think hedging credit risk is both cheap and a sensible strategy in this environment.”

So while an improving US economy is generally good news, it comes with its own set of risks for some investors.

S&P 500 hits record high as US new homes sales rise

Markets rose on Friday, with the S&P 500 in particular rising 0.4 percent to a record high. The STOXX Europe 600 rose 0.2 percent.

US Treasuries rose, with the yield on the 10-year note falling three basis points to 2.53 percent.

Copper and oil also rose by 0.7 percent and 0.6 percent respectively.

The gain in stocks in the US was supported by a report on Friday showing that new home sales in the US rose 6.4 percent in April, the first increase in three months.

European stocks, though, rose despite a report from Germany showing that the Ifo business climate index fell to 110.4 in May from 111.2 in April.

US economy shows signs of strengthening amid mixed data elsewhere

US economic data on Thursday were mostly positive.

The Conference Board's index of US leading indicators rose 0.4 percent in April, its fourth consecutive monthly increase, suggesting that the US economy will strengthen after weak growth at the start of the year.

Existing home sales rose 1.3 percent in April.

Markit's flash US manufacturing PMI rose to 56.2 in May from 55.4 in April.

However, the Chicago Federal Reserve national activity index fell to -0.32 in April from +0.34 in March. Nevertheless, the index's three-month moving average rose to +0.19 in April from +0.04 in March.

Economic data elsewhere on Thursday were mixed.

In the euro area, private sector activity maintained growth in May, with the flash reading for Markit's composite PMI at 53.9, albeit down from 54.0 in April.

Markit's eurozone services index rose to 53.5 in May from 53.1 in April but its manufacturing index fell to 52.5 from 53.4.

In contrast, China's manufacturing activity improved in May but stayed in contraction. HSBC's preliminary China manufacturing PMI for this month showed a rise to 49.7 from 48.1 in April.

Similarly, Markit reported that its manufacturing PMI for Japan rose to 49.9 in May from 49.4 in April.

BoJ leaves monetary policy unchanged

The Bank of Japan left monetary policy unchanged on Wednesday. It dropped the word "deflation" from its post-meeting statement, saying that the economy is showing a "moderate recovery".

Indeed, earlier on Wednesday, Japan had reported that its trade deficit shrank in April as exports rose 5.1 percent from the previous year while imports rose 3.4 percent.

Elsewhere on Wednesday, the European Commission reported that its eurozone consumer confidence index rose to -7.1 in May from -8.6 in April.

The UK reported that retail sales rose 1.3 percent in April, bringing its year-on-year growth to 6.9 percent, the highest since May 2004. Sales were boosted by robust food sales during the Easter holiday.

UK consumer price inflation rises, house price inflation slows

A report on Tuesday showed that UK consumer prices rose at an annual rate of 1.8 percent in April, up from 1.6 percent in March and the first increase in the inflation rate in 10 months.

The increase, however, was partly due to a late Easter holiday that pushed up transport costs last month. Sterling initially rose after the report but gave up most of its gains later.

Indeed, another report on Tuesday showed that house prices -- an increasing source of concern for the Bank of England -- rose 8.0 percent in March from the previous year, down from a 9.2 percent increase in February.

Japanese machinery orders surge

A report on Monday showed that Japanese core machinery orders jumped 19.1 percent in March, the biggest gain on record.

Companies surveyed by the Cabinet Office also forecast that core orders will rise 0.4 percent in the April-June quarter from the previous quarter.

These data provide hope that the Japanese economy may be able to overcome the effects of the sales tax hike in April.

Growth in new home prices in China slows

China's property market continued to cool in April.

Average new home prices in 70 major cities rose 6.7 percent in April from a year earlier, down from a 7.7 percent rise in March, according to Reuters calculations based on data released by the National Bureau of Statistics on Sunday.

From the previous month, prices rose 0.1 percent in April, slowing from a 0.2 percent rise in March.

New home prices fell in eight of the 70 cities in April from the previous month. March had seen prices fall in four cities.

US stocks reverse losses as housing starts surge

US stocks managed to reverse early losses on Friday to finish the session up. The S&P 500 rose 0.4 percent, erasing its loss for the week.

Stock market gains on Friday were supported by strong housing data. A report from the Commerce Department showed that housing starts surged 13.2 percent in April. Building permits rose 8.0 percent.

Consumer sentiment data on Friday, however, were negative. The preliminary May reading of the Thomson Reuters/University of Michigan consumer sentiment index came in at 81.8, down from a nine-month high of 84.1 in April.

Economists, however, appear to have become more confident about the US economy. Data from the Philadelphia Federal Reserve's quarterly survey of 42 forecasters released on Friday showed that economists have raised their forecast for second quarter growth to 3.3 percent from 3.0 percent.

The third-quarter growth forecast was raised to 2.9 percent from 2.8 percent and the fourth-quarter growth forecast was raised to 3.2 percent from 2.7 percent.

Markets fall as eurozone growth disappoints, US industrial production declines

Markets fell on Thursday. The S&P 500 and the STOXX Europe 600 both fell 0.9 percent.

West Texas Intermediate oil also fell 0.9 percent while the yield on 10-year US Treasuries fell five basis points to 2.50 percent.

Markets fell amid some disappointing economic data on Thursday.

In the euro area, the economy grew just 0.2 percent in the first quarter, half as much as economists had forecast. While Germany grew 0.8 percent, France stalled, Italy contracted by 0.1 percent and the Netherlands shrank 1.4 percent.

The annual inflation rate in April for the euro area was confirmed at 0.7 percent.

In the US, the annual inflation rate jumped to 2.0 percent in April from 1.5 percent in March after the consumer price index rose 0.3 percent last month.

However, industrial production fell 0.6 percent in April after rising 0.9 percent in March and the National Association of Home Builders/Wells Fargo housing market index fell to 45 in May, the weakest since May 2013, from 46 in April.

Japan's economic growth jumps

A report on Thursday showed that Japan's economic growth accelerated to 1.5 percent in the first quarter, sharply up from 0.1 percent in the previous quarter.

The spike in the growth rate was largely attributed to a rush in demand before the April sales tax hike.

A report later on Thursday is expected to show that the eurozone economy grew 0.4 percent in the first quarter.

However, a report on Wednesday showed that eurozone industrial production fell 0.3 percent in March as mild weather contributed to a fall in energy production.

US stocks flat as retail sales cool

US stocks were little changed on Tuesday. Both the S&P 500 and the Dow Jones Industrial Average eked out gains to hit new highs, rising 0.04 percent and 0.1 percent respectively. However, the Russell 2000 fell 1.1 percent.

A report on Tuesday showed that US consumer spending cooled in April after a surge in the previous month. Retail sales rose 0.1 percent last month after jumping 1.5 percent in March.

Also showing some cooling is the Chinese economy. A report on Tuesday showed that industrial production rose 8.7 percent in April from the previous year, down from 8.8 percent in March. Retail sales rose 11.9 percent, down from 12.2 percent. Fixed-asset investment rose by 17.3 percent year-on-year in the first four months of 2014, down from a 17.6 percent increase in the first three months.

US stocks hit record highs, Chinese bank lending and Japanese current account surplus shrink

US stocks continued their record-breaking streak on Monday. The S&P 500 rose 1.0 percent and the Dow Jones Industrial Average rose 0.7 percent to close at record highs.

With the STOXX Europe 600 also rising 0.7 percent and the Shanghai Composite Index jumping 2.1 percent, the MSCI All-Country World Index rose 0.7 percent to the highest level since 2007.

Chinese stocks rose after a report at the end of last week that the government will relax foreign-investment limits in listed companies, increase quotas for capital flow and develop commodities trading tools.

However, a report on Monday showed that Chinese bank lending shrank in April. New local-currency loans extended by domestic banks was 774.7 billion yuan in April, down 17.6 billion yuan from the same month a year earlier and also sharply down from 1.05 trillion yuan in March. Total social financing fell to 1.55 trillion yuan last month from 2.07 trillion yuan in March.

Elsewhere in Asia on Monday, Japan reported that its current account surplus shrank 90.9 percent to 116.4 billion yen in March from a year earlier. That left its annual current account surplus for the fiscal year 2013 at 789.9 billion yen, its lowest on record.

Japan also reported on Monday that the sentiment index on current conditions based on the economy watchers survey plunged 16.3 points to 41.6 in April. Encouragingly, however, the outlook index jumped 15.6 points to 50.3 in April, suggesting that the impact of the sales tax hike in April on household spending and sentiment will fade.

US stock market diverging -- what is the implication?

Some market analysts have noted that there has been a divergence in performance between the large-capitalisation stocks in the United States and the rest of the market. While such a divergence is widely regarded as bearish by traders, the longer-term implication may not be as negative.

Last week, the Dow Jones Industrial Average closed at a record 16,583.34. The Standard & Poor’s 500 Index fell 0.1 percent to 1,878.48. The Russell 2000 Index of small companies fell 1.9 percent to close below its average price for the past 200 days for the first time since 2012.

The divergence in performance between the large-cap stocks and smaller stocks has not just been for the past week. In a post on 9 May, Sam Ro at Business Insider cited an analysis by JC O'Hara of FBN Securities that noted that while the Standard & Poor's 500 Index is down just 1 percent from its all-time high of 1,897, many stocks in the index and in the market as a whole have performed much worse.

O'Hara found that the average S&P 1500 stock is down by more than 12 percent from the recent 52-week high while the average stocks in the Russell 2000 and Nasdaq Composite are down by more than 20 percent.

“Historically, this sort of divergence does not bode well for the longevity of a market’s upward inertia,” said O’Hara. “We went back and examined instances where the market made a new high and looked at where the median stock sat compare to its high. Our data suggests that the current breadth reading is very unhealthy. Not only are new highs diminishing but we are seeing many stocks making new lows. This breadth divergence is a major concern.”

Indeed, a week earlier, Brett Steenbarger at TraderFeed had already noted the divergence in performance between the large-capitalisation stocks and the rest of the market.

“The large cap indexes, such as the Dow and SPX, have been making or have been close to making all-time highs,” he wrote. “If we look at the broad universe of common stocks, however, we can see that more are making 3-month new lows than new highs.”

“A strong trend, like a strong tide, should lift all ships. A number of ships remain beached at the moment.”

However, in a post on 10 May, Steenbarger noted that the underperformance of small-cap stocks “has tended to occur during corrective market periods” but that such periods often “ended up heralding very good long-term buying opportunities for stocks”.

The caveat to the finding on long-term potential is that in a true bear market, a period of underperformance can be followed by greater underperformance before they lead to superior returns.

Nevertheless, Steenbarger concluded: “Given that the current underperformance is occurring in a low VIX environment, it is not clear to me that we are witnessing a repeat of 2011, 2008, late 2007, or 2002. The underperformance of small caps has not been a precise timing measure for stocks but on average has occurred during periods of risk aversion that have yielded positive forward returns for investors over the medium term.”

China's inflation slows, Japan's leading index falls

Economic data on Friday were mixed.

China's inflation rate fell to 1.8 percent in April, the lowest level in 18 months and down from 2.4 percent in March.

Japan's coincident index rose to 114.0 in March from 112.9 in February but the leading index fell to a 12-month low of 106.5 from 108.7.

In Germany, exports fell 1.8 percent in March, the second consecutive decline, while imports fell 0.9 percent.

In the UK, manufacturing production rose 0.5 percent in March but industrial production fell 0.1 percent as oil and gas extraction plunged. Construction output fell 1.0 percent in March. The trade deficit narrowed in March as exports rose 4.9 percent while imports rose 2.8 percent.

ECB holds monetary policy but ready to act next time

The European Central Bank left its benchmark interest unchanged at 0.25 percent at its monetary policy meeting on Thursday.

However, at a news conference after the meeting, ECB President Mario Draghi said that the Governing Council is “comfortable with acting next time”. He said that the “strengthening of the exchange rate in the context of low inflation is cause for serious concern”.

Also possibly of some concern is a report on Thursday showing that German industrial production fell 0.5 percent in March, reversing most of the 0.6 percent rise in February.

Nevertheless, the Economy Ministry said that industrial output in the first quarter as a whole rose by 1.2 percent compared with a 0.7 percent increase in the previous quarter.

Also on Thursday, the Bank of England kept its benchmark interest rate unchanged at 0.5 percent at its monetary policy meeting.

The Federal Reserve is also unlikely to change interest rates soon. While there was no monetary policy meeting at the Fed on Thursday, Chair Janet Yellen did meet the Senate Budget Committee and told them that “interest rates are unlikely to begin rising until we are in a strong economic recovery”.

Whether the major global economies sustain strong recoveries could depend on China sustaining its growth. On this front, the news on Thursday was encouraging.

China's exports rose 0.9 percent in April from a year earlier while imports rose 0.8 percent. While the increases were small, they put an end to the recent run of year-on-year declines in Chinese trade data.

Japanese stocks plunge as services sector shrinks

After being closed on Monday and Tuesday, Japanese stocks returned for trading on Wednesday only to fall sharply, the Nikkei 225 plunging 2.9 percent.

Weak economic data on Wednesday did not help investor sentiment in Japan. Markit's services PMI for Japan fell to 46.4 in April, indicating contraction, from 52.2 in March. The composite index came in at 46.3, down from 52.8 in the previous month.

Chinese stocks also fell on Wednesday, the Shanghai Composite Index falling 0.9 percent after the Markit/HSBC services PMI was reported to have fallen to 51.4 in April from 51.9 in March.

The weaker trend in economic data extended into Europe, where a report on Wednesday showed that German factory orders fell 2.8 percent in March.