Utilities - Economic Review

Economic growth should be strong in 2019 based on the strength of the consumer as real wage growth is at a cyclical high. GDP growth might not be great in Q1. 

Even though wage growth has been strong, there was a scare from the government shutdown which curtailed spending. If the savings rate starts to fall because consumers are more confident, spending could spike. Global economic slowdown that has been centered in manufacturing lately is also putting a damper on growth. Europe and China have seen weakness which is impacting trade.

One of the best ways to measure if the consumer is in good shape is housing data. The spring selling season is about to start soon. I’m expecting improvements. On the other hand, auto sales have been weak. A secular downtrend is starting because of the expanse of micro-mobility and ridesharing. Each year, the percentage of teens getting their license declines.

As you can see from the chart below, in February real wage growth deflated by headline CPI was 2.3% which hit a cycle high. 

Average hourly earnings deflated by core CPI was 1.4% which is the highest growth since early in the cycle. The decline in energy prices and the tight labor market are great for workers. This information should inspire confidence in GDP growth and firms affected by consumer spending. Firms with a large portion of their expenses going to labor will see margins tick lower. Firms that have energy as a big expense will be helped. If real wage growth is higher than in 2018, it’s hard to see GDP growth being much lower.

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Utilities - Lower Pay Equals Higher Wage Growth

Lower-income workers usually see the most pay growth at the end of the cycle. Their job creation is the most volatile as they are more likely to get fired during recessions and firms are more likely to need them when they are growing. During recessions and weak points in the economy, upper-income workers are less likely to lose their jobs and they get higher pay growth.

As you can see from the chart below, in the past 6 months, hourly wage growth from the lower half of the wage distribution accelerated. It went from about 3% to about 4%. 

Wage growth for the upper half fell from over 3% to just above 2%. That’s a huge swing as upper and lower income workers had about the same wage growth in mid-2018; now the lower half has almost double the wage growth of the upper half. This could help the lower end of the housing market.

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Utilities - Earnings Changes

The increase in expenses due to higher worker pay growth isn’t the only issue firms face. If you’re looking at the S&P 500, you must consider the global economy. 

Manufacturing growth is weak in America and it’s even weaker globally. The Chinese economy is weak as evidenced by its decline in exports and imports in February. Dollar-denominated exports fell 20.7% and imports fell 5.2%.

As you can see from the chart below, the 3-month earnings revision ratio of global semiconductor firms is the worst out of all sectors. 

The semiconductor cycle is turning. Don’t confuse that with all of tech being weak because software firms had the best 3-month revision ratio. Tech hardware is worse than average. I love how this chart breaks up tech into 3 categories because it has grown too large to be one sector.

Utilities have the 2nd best earnings revisions. Initially, the S&P 500 utilities sector underperformed the S&P 500, but it caught up recently and is beating the S&P 500 year to date. In 2019, the utilities sector is up 12.21% and the S&P 500 is up 11.21%. Since February 1st, the utilities sector is up 6.98%, while the S&P 500 is only up 3.14%. 

Utilities have been helped by falling treasury yields.    

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Utilities - Solid MBA Applications

In the past few weeks, we’ve seen weekly MBA applications growth rise and fall. The applications index increased 2.3% in the week of March 8th after falling 2.5%. It increased for a good reason because the purchase index was up 4%. That was after it fell 3%.

The refinance index fell 0.2 % after falling 2%. That decline may have been catalyzed by the modest 6 basis point increase in the average 30-year fixed mortgage rate. As of March 7th, it is 4.41%. I don’t think that increase will last because rates have been falling. That was only the 2nd weekly increase in interest rates since they peaked in early to mid-November. It was the largest weekly increase since November 8th.

Purchase index was up 1.7% year over year which pushed it out of the negative column. We need to see improvement like that to give real residential investment some momentum. That was the 4th weekly improvement in a row. 

The next few weeks are the most important of the year as the spring selling season is starting. March 20th is the first day of spring. MBA report stated loan sizes are rising because high-end buyers are in the market rather than first-time buyers. Rich buyers are being helped by the rise in the stock market. 

However, as I mentioned earlier, low-income workers are seeing their wages rise. That should help the lower end of the market.  

Utilities - Conclusion

Real wage growth is accelerating, and lower-income workers are seeing the most gains. Global earnings revisions are weak. There’s a big divergence in the tech sector as semiconductors are doing the worst and software firms are doing the best. The MBA applications index has been rising and falling recently on a weekly basis. 

However, the purchase index’s yearly growth rate has improved 4 straight weeks and is now showing positive growth. This signals the spring selling season could be strong. High-income earners like the rising stock market. Hopefully, low-income earners are encouraged by their recent wage growth.