The Market Today

The U.S. Economy Expanded at a Better-Than-Expected 3.0% Pace in 3Q

by Craig Dismuke, Dudley Carter

Today’s Calendar – The U.S. Economy Expanded at a Better-Than-Expected 3.0% Pace in 3Q: Economic activity expanded at a faster-than-expected pace last quarter according to the BEA’s first estimate of 3Q GDP. The 3.0% QoQ annualized rate of growth topped estimates of 2.6% and was just 0.1% shy of 2Q’s solid 3.1% pace. The 2Q and 3Q growth rates of at least 3.0% growth was the best back-to-back stretch since 4.6% and 5.2% in 2Q and 3Q of 2014. Personal consumption improved at a 2.4% pace compared with expectations for 2.1% growth and was responsible for roughly half of the better-than-expected overall rate of growth. Within the details, the slower QoQ pace of consumer spending was driven by a slower pace for both goods and services. As to areas where the storms potentially had an impact, spending on autos spiked 14.7% in their strongest quarter in a year while real spending on gasoline and other energy products tailed off, potentially a result of the storm-related price surge. Utilities were also weaker but food services (i.e. restaurants) actually strengthened.


Away from the consumer, businesses continued to increase their spending, albeit at roughly half the pace. Spending on equipment expanded at roughly the same rate, 8.6% vs 8.8% in 2Q, and contributed 0.5% to top-line growth. Nonresidential structures were weaker, almost perfectly offset slightly stronger spending on intellectual property, and accounted for overall slow-down in business spending. In addition to steady equipment spending, business also replenished their inventories which added 0.7% to 3Q growth compared with 0.1% in 2Q.


Government spending ticked down 0.1% in 3Q but hardly impacted the needle with a negative contribution of just 0.02%. The weaker pace of government spending was concentrated entirely at the state and local level which offset increased federal outlays.


Net external trade was solid again and added 0.4% to the total growth tally. As global economic growth has become more synchronized, global aggregate demand has improved. As the U.S. Dollar has weakened, the U.S. has become the beneficiary of a larger share of that improved demand. External trade has now been accretive to U.S. economic growth for three consecutive quarters, the longest stretch since the four-quarter run that ended in 1Q 2013.


Stripping out the inventory gains, final sales of domestic product improved 2.3% in 3Q. Also removing the positive effect of trade, final sales to domestic purchasers rose 1.8%. Both were slightly slower than in the 2Q but the overall pace of economic growth was a positive surprise and continues to support the story of a steady U.S. expansion. Importantly, all of that occurred even with a rebound in the core PCE index from 0.9% in 2Q to 1.3% in 3Q. Stronger growth and a rebound in the Fed’s preferred inflation measure should be received well by Fed officials.


Later today, the University of Michigan’s final revision to its October consumer confidence index is expected to shave a couple of points of the initial result of 101.1 released a couple of weeks ago. Even if the revision takes the index down to 100.7 as expected, it would remain the strongest reading since 2004.


Overnight Activity – Tech Shares Lead U.S. Futures Gains on Strong Earnings, the Euro Continues to Weaken after ECB Decision: Ahead of this morning’s first look at 3Q U.S. GDP, Nasdaq futures were up more than 0.53% and ahead of smaller gains for the Dow (0.16%) and S&P (0.22%). After lagging in yesterday’s trading (more below), the tech index strength was built on strong earnings results from several key U.S. technology behemoths. Amazon, Alphabet (Google), Microsoft, and Intel all bested the consensus analyst estimate for earnings. Those results, which were released just after markets closed Thursday, also set a stronger footing for overnight global trading into Friday. Japan’s Nikkei rallied 1.24% to lead a mostly positive day for Asian exchanges. The Nikkei has gained in 18 of the last 19 sessions. France’s CAC and Germany’s DAX are leading the firmness in Europe that has pushed the Stoxx Europe 600 up 0.37% overnight. France’s CAC was up 0.75% to its highest level since January 2008 while Germany’s DAX climbed 0.71% to its highest level on record. After a significant divergence in trading yesterday, U.S. and core European yields were little changed Friday.  After sliding 6.7 bps on Thursday, Germany’s 10-year yield was unchanged early Friday. The 10-year Treasury yield was down 0.5 bps after rising 2.9 bps on Thursday. The Dollar remained strong as the Euro continued to soften. This morning’s solid U.S. GDP report did not appear to significantly impact those overnight trends.


Yesterday’s Trading Activity – Treasury Yields Rise to Part Ways with European Sovereigns: U.S. stocks closed were mixed Thursday as several key Dow components led a broader rally that pushed the index higher by 0.31%. American Express contributed the most but DowDuPont was a close second after reporting stronger-than-expected quarterly earnings. Nike made the third largest contribution after announcing at a shareholder event on Thursday it was upping its presence in women’s leisure and workout wear beginning November 1. Shares of Lululemon dropped sharply on the news but recovered to nearly unchanged on the day. UnitedHealth spiked higher after a report in the Wall Street Journal indicated CVS was considering buying Aetna. The S&P rose a smaller 0.13% while the Nasdaq slipped 0.11%. Treasury yields ended higher on the day despite sliding yields in Europe. The perception of monetary policy divergence, a significant driver of activity for several  years leading up to just recently, reappeared in Thursday’s trading. Markets dovishly interpreted the ECB’s reduced extension of its QE program, sending sovereign yields in the region sharply lower along with the Euro. Treasury yields rose between two and three basis points after Politico reported that Janet Yellen was likely not being considered for reappointment as Fed Chair, the House passed the Senate-approved budget to take another step towards tax reform, and an auction of 7-year Treasurys tailed on weaker relative demand. The 2-year yield ended 2.0 bps higher at 1.62% (highest since October 2008) while the 10-year closed up 2.9 bps at 2.46% (highest since March). The Dollar rallied nearly 1% to its highest level since July.


Mixed Results in the Late-Morning Economic Data: September’s pending homes sales were unchanged from their August levels, slightly disappointing relative to the 0.5% increase expected by the median economist’s estimate. The report also included a modestly negative 0.2% revision to the initial 2.6% decline reported for August. The hurricanes appeared to have an impact on the data as a 2.3% monthly decline in sales in the South offset rebounds in the Northeast, Midwest, and West. However, it would be unfair to blame the storms entirely for weakness in the South. Even before September, sales in the region had declined in four of the last five months reaching back to April. The weakness in pending sales activity in the South could be a negative indication of near-term disappointment in existing sales while the rebound in other regions may portend a potential pick-up once the weather-effect fully fades. Elsewhere, the Kansas City Fed’s Manufacturing Index was stronger than expected in October. The details were solid across the board but big gains in orders and employment helped pushed the top-line index to its strongest level since 2011 (2nd strongest on record).

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