February has been a terrible month for the U.S. economy, but a wonderful month for U.S. stocks. Translation? Investors do not believe that the Federal Reserve will raise overnight lending rates during an economic slowdown.
Just how abysmal have the data been so far? Personal spending, construction spending, factory orders, international trade, business inventories, wholesale inventories, consumer sentiment, retail sales and housing starts are just a few of the data points that fell short of expectations. Heck, the Citi Economic Surprise Index recently demonstrated that data points have missed analyst forecasts by the most in more than two years.
Most blame the weakening U.S. situation on decelerating activity around the globe. Goldman Sachs has gone so far as to say that the global economy has entered a contraction phase, with six of its seven Global Leading Indicator (GLI) components worsening in February. The lone holdout? U.S. Initial Jobless Claims.
Indeed, a low level of unemployment filings coupled with a consistent string of 200,000-plus net new jobs are the positives on the domestic scene. Yet even here, the employment rate as defined by labor force participation is under 63% – percentages that are typically associated with the 1970s. If millions upon millions of working-aged individuals did not give up the search for employment or “retire” since 1/1/2009, back when 66% of working-aged people had jobs, headline unemployment in the U.S. would be above 10.0%. (Naturally, 5.7% unemployment sounds better for those who want to believe that circumstances are much rosier than they really are.)
Without question, the U.S. is not an island of self-sustaining expansion. As much as the media portray oil price declines as a windfall for stateside consumers, the slump across the entire commodity space (e.g., metals, agriculture, gas, etc.) communicates anemic demand. Equally troubling, none of the spectacular job gains have translated into significant wage growth in a way that price pressures might rise. (For what it is worth, Wal-Mart did raise its wages above Federally mandated minimums for all of its low-earning employees.) Worse yet, depreciating currencies against the U.S. dollar have adversely affected the trade balance such that the Fed acknowledged the dollar’s rapid rise as a “persistent source of restraint” on exports.
The Fed is not the only group that has expressed concern about dollar strength. Corporations have blamed the dollar for missing earnings targets, as well as used the currency to guide future earnings projections lower. And analysts have dramatically scaled back profit-per-share outlooks for the S&P 500 from nearly 8%-10% in November to 0%-2% here in February. What do lower earnings projections mean? In essence, the Forward 12-month P/E was the last remaining valuation technique that supported the reasonableness of the current price people are paying for the S&P 500. Not anymore. Cyclical, trailing 12-month and forward 12-month price-to earnings (P/E), price-to-sales (P/S), price-to-book (P/B) and price-to-cash flow (P/CF) all suggest S&P 500 overvaluation.
In spite of the seemingly obvious concerns investors should have about U.S. equities, bearish sentiment in the American Association of Individual Investors (AAII) is at a meager 17.88%. According to Bespoke Research, there have been only five weeks of the last 300 where bearish sentiment was lower.