"Kee" Points with Jim Kee, Ph.D.

Ok, with the S&P 500 down about -3.6% in January, I suppose it would be odd not to mention the “January Effect or Barometer,” or the notion that as goes January, so goes the year. These are known as “calendar anomalies” in the financial literature (the actual January effect refers to tax-driven end of the year selling and beginning of the year buying of stocks resulting in up Januaries), which tend to find that (a) they do exist, but (b) they seem to be diminishing. Going back to 1928, there have been 31 down Januaries, and when that occurred the market was down for the year 58.1% of the time. More recently, or since 1950, there have been 24 down Januaries and the market was down in 54.2% of those years (Yardeni Research). You can see where this is going. I am willing to draw confidence or conviction (positive and negative) from a variety of indicators, but the January effect isn’t really one them!


China’s official PMI for January came in over 50, meaning expansion (50.5 to be exact), but below December’s 51 reading. Most analysts still expect 7.5% growth for China, which, when combined with Fed tapering in the U.S., is enough to warrant concern in emerging and developed markets. A recent Goldman Sachs report noted that, of the past 19 episodes of a -5% or more pull-back in emerging market stocks, the S&P 500 fell on average only about half as much. In fact, they found that correlations between U.S. and emerging market stocks are near decade lows, probably due to improving U.S. growth and Fed tapering (both of which would lead to a bit of “decoupling”). The report points out that, while 70% of S&P 500 sales come from overseas, only 5% of earnings or profits come from emerging markets. That surprised me.


In the U.S., the Bureau of Economic Analysis (BEA) released the preliminary estimate for the 4th quarter (2013) GDP, and it came in at 3.2%. That, along with the 3rd quarter’s 4.1% number, indicates an acceleration of the U.S. economy during the second half of last year. Of course (right on cue?) today the Institute for Supply Management released the January PMI (Purchasing Manager’s Index) which decreased 5.2 percentage points, or from December’s 56.5% reading down to 51.3%. That’s still in expansion territory (i.e. north of 50) and the eighth consecutive monthly expansion. Most panel participants cited weather as a reason for the decline and remain optimistic for 2014.


So what’s ahead for 2014? Remember, GDP growth has a strong seasonal component, with the 1st quarter by far the weakest on average, so I do expect a drop from the latest 3.2% reading. But overall consensus is for around 2.8% GDP growth for all of 2014 (Bank of America Merrill Lynch), which is exactly what Nobel Laureate (and, importantly, macroeconomist) Edward Prescott predicted at the American Economic Association Annual Meeting two weeks ago. That’s also close to the 2.7% number that is implied by January’s PMI reading. And that’s where I am, somewhere between 2.5% and 3% GDP growth for the U.S. for 2014. As I have mentioned at our client market update events, I expect both a pull-back, or even correction in stocks, but I also expect stocks to end higher. That’s what history and data would lead you to expect.


Two other things: The big data release for this week will be Friday’s employment report. Remember, last month’s was pretty dismal at +87K. The preliminary ADP report released mid-week had indicated +238K, so that was a huge miss! (Deutsche Bank). Consensus is for 185K, and I expect somewhere between 150K and 200K. Also, JP Morgan issued research recently showing that quality spreads (they use high yield or ‘junk’ bonds) have widened at least 50 basis points (bps) prior to every 7%-10% decline in U.S. stocks, but have currently widened only 32 bps. Kee Points readers know that I find quality spreads, or the difference between the yields on high and low quality bonds, to be one of the better indicators of future economic activity in general.


Finally, under the heading of the most interesting thing I saw last week: A CBS News poll during the October government shutdown found that 72% of Americans opposed the shutdown as a negotiating tactic, and favorability ratings fell for both parties (BAC-Merrill Lynch). My view is that politicians learn and update, so I would expect more cooperation rather than intransigence in 2014, particularly with the fall mid-term elections this year.