By: Mark Schieffer, CFA
EVP Chief Investment Officer
The March employment figures disappointed investors across the board. Non-farm payrolls grew by just 120 thousand, compared to economist estimates of 205 thousand. As I wrote last month, the rising gas price “tax” is helping to slow down the U.S. economy. Department of Energy reports that gas prices nationally are averaging a hair below $4 per gallon. The last time we approached this level was last Memorial Day weekend, which coincided with the kickoff of a global economic downturn. Weakness in Europe and a slowdown in China from a tremendous growth rate to just a really strong growth rate means we’ve currently hit a bit of a soft patch that is likely to continue through the 2nd quarter. In the bigger picture, I think we’re just experiencing a lull in a long, slow, dull run of upward recovery from the financial crisis of 2007-8. U.S. corporate balance sheets are solid and the finance sector is no longer overtly floundering. The current regulatory environment is not favorable for a significant upward path, so the 1970s-like malaise, with a bias toward meager growth, is likely to continue for some time.
The Federal Open Market Committee (FOMC) takes a longer view than traders and they just haven’t seen the evidence one way or the other to change their current position on adding more stimuli through quantitative easing. The current position is to leave well enough alone. This point of view includes the 1-month disappointment in labor reports. Many investors get excited about the possibility of even more central bank stimulus, while sort of missing the point of the potential need for stimulus in the first place—the economy would need to be weak enough to justify it. So, traders are implicitly rooting for QE3 (quantitative easing round 3) because that shifts the risk to the government and the rewards to the market. It’s easy to see why . . . all the prior support programs have been designed to turbo-charge returns for investors by borrowing cheaply from the government and investing in slam dunk, government sponsored payoff profiles. Most of the FOMC now thinks that more support is currently unnecessary and that sets up the cycle of disappointment for short-term investors. We end up operating in a hallway where the walls are boundaries for a strong economy (no QE3, disappointed stock market) and a weak economy (QE3, weak labor market).
Interest rates and the stock market reversed recent gains over the last few weeks as the economy slows. The 2-year T-note yield fell from .38% to a current level of .28%. Over the last six months, this bellwether short-term safe investment has traded within a range of less than 20 basis points. The 10-year T-note yield dropped back 20-25 basis points to February levels of 2.00-2.05%. U.S. stocks continue to be the star performer in 2012. Major U.S. stock indices dropped 2-3% in the last month, reflecting the decline in short-term growth prospects.