Steady as She Goes

Our third-quarter Macroeconomic Outlook indicates that a strong U.S. consumer combined with a wary Fed and global stimulus should support U.S. credit markets.

August 17, 2016


This sector report is excerpted from the Third Quarter 2016 Fixed-Income Outlook.

Slow and steady economic growth, a cautious Fed, low interest rates, and improving oil market supply-demand fundamentals have created a favorable environment for fixed-income markets. Gross domestic product (GDP) growth was soft at 1.2 percent in the second quarter, a slight improvement from the first quarter’s 0.8 percent. But the headline figures belie underlying strength. Real consumer spending rose at a 4.2 percent annualized rate, the second-strongest quarter of the current expansion. The abrupt acceleration in consumer spending appears to have caught businesses by surprise, resulting in a sharp drawdown in inventories that subtracted 1.2 percentage points from GDP growth. Inventory restocking should support growth in coming quarters. Meanwhile, the United Kingdom’s Brexit referendum is unlikely to have a meaningful impact on the U.S. economy, thanks in part to the decline in interest rates and recovery in risk assets that followed. We continue to expect above-trend GDP growth of around 3 percent in the third quarter.

Job Market Data Picked Up in the Second Quarter

Solid fundamentals in the consumer sector underpin our confidence in the near-term growth outlook. Payroll gains recovered strongly to 292,000 in June and 255,000 in July, and wage growth is trending higher. Labor market gains have boosted real disposable personal income, which rose at a solid rate of 3.2 percent year over year in May despite a slowdown in hiring, and household debt and debt service coverage ratios are well below pre-crisis peaks.

 

Job Market Data Picked Up in the Second Quarter

Source: Department of Labor Statistics, Guggenheim Investments. Data as of 8.5.2016.

Our confidence in the near-term growth outlook is underpinned by stable fundamentals in the consumer sector, notwithstanding weakness in July retail sales. Labor market gains have boosted real disposable personal income, which rose at a solid rate of 2.4 percent year over year in the second quarter. Payroll gains recovered strongly to an average of 274,000 in June and July, and wage growth is trending higher. Meanwhile, household debt and debt service coverage ratios are well below pre-crisis peaks, and the personal saving rate of 5.3 percent is about 2 percentage points above what we would anticipate based on its historical relationship with household net worth. We expect these factors to cushion consumer spending from shocks to income or confidence.

Despite this relatively healthy economic backdrop, we expect the Fed to delay its next rate hike until December at the earliest out of an abundance of caution. In our view, policymakers will take time to gauge the implications of Brexit, and watch for signs of firmer growth and inflation. Meanwhile, the ECB and BOJ are likely to follow the Bank of England in increasing accommodation.

Monetary policy divergence is likely to benefit the U.S. dollar in the near term, which would pose headwinds for the recovery in crude oil prices. Our research team’s oil price model calls for a period of seasonal weakness in the second half of 2016 before prices rise to $55 by mid-2017. We see further near-term oil price declines as an opportunity to add exposure to the energy sector.

Supply-Demand Dynamics Favor Higher Oil Prices by Year End

Our research team’s oil price model calls for a period of seasonal weakness in the second half of 2016 before prices rise to $55 by mid-2017, which should help to support credit markets into the third quarter and beyond.

 

Supply-Demand Dynamics Favor Higher Oil Prices by Year End

Source: OECD, Guggenheim Investments. Data as of 6.30.2016.

 

Important Notices and Disclosures

This article is distributed for informational purposes only and should not be considered as investing advice or a recommendation of any particular security, strategy or investment product. This article contains opinions of the author but not necessarily those of Guggenheim Partners or its subsidiaries. The author’s opinions are subject to change without notice. Forward looking statements, estimates, and certain information contained herein are based upon proprietary and non-proprietary research and other sources. Information contained herein has been obtained from sources believed to be reliable, but are not assured as to accuracy. No part of this article may be reproduced in any form, or referred to in any other publication, without express written permission of Guggenheim Partners, LLC. ©2016, Guggenheim Partners. Past performance is not indicative of future results. There is neither representation nor warranty as to the current accuracy of, nor liability for, decisions based on such information.

Investing involves risk. In general, the value of fixed-income securities fall when interest rates rise. High-yield securities present more liquidity and credit risk than investment grade bonds and may be subject to greater volatility. Asset-backed securities, including mortgage-backed securities, may have structures that make their reaction to interest rates and other factors difficult to predict, making their prices volatile and they are subject to liquidity risk. Investments in floating rate senior secured syndicated bank loans and other floating rate securities involve special types of risks, including credit risk, interest rate risk, liquidity risk and prepayment risk. Guggenheim Investments represents the following affiliated investment management businesses of Guggenheim Partners, LLC: Guggenheim Partners Investment Management, LLC, Security Investors, LLC, Guggenheim Funds Investment Advisors, LLC, Guggenheim Funds Distributors, LLC, Guggenheim Real Estate, LLC, Transparent Value Advisors, LLC, GS GAMMA Advisors, LLC, Guggenheim Partners Europe Limited and Guggenheim Partners India Management. ©2016, Guggenheim Partners, LLC. No part of this article may be reproduced in any form, or referred to in any other publication, without express written permission of Guggenheim Partners, LLC.


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