Mace McCain, Chief Investment Officer at Texas-based Frost Investment Advisors ($4.3B AUM), just released his latest commentary report discussing Q2 Earnings, inflation, inversion, productivity and labor costs.
- Better Than Expected: Q2 Earnings: “The market rallied off the lows from last quarter, with Q2 earnings growing 6.7 percent year-over-year, according to Factset. The season is winding down with over 90% of S&P 500 companies having reported so far. The results have been good considering the amount of negative earnings sentiment going into the summer. Earnings were boosted by surging profits in the energy sector, largely explaining the increase. Earnings excluding energy were down about 4 percent compared to last year.”
- Inflation: “The Consumer Price Index grew 8.5% YoY for July, coming in below expectations. This was the first month-over-month print without an increase in price level since June 2020, coming out of peak lockdowns. Services inflation continued to rise for the month, while goods continued to soften, reflecting the ongoing shift from “stay-at-home” to “reopening.” Though inflation overall may be showing signs of a peak, we remain cautious about calling this latest move a trend with any legs, because the number was largely driven by the decline in gas prices.”
- Productivity and Labor Costs: “While labor costs are rising, falling productivity is alarming. The U.S. Bureau of Labor Statistics reported that productivity fell 4.6 percent for the second quarter, annualized, the 3rd consecutive quarter of decline. This is also the largest reported decline year-over-year on record going back to 1948. In better news, manufacturing productivity looks healthy, coming in at a positive 5.5 percent for the quarter, also annualized. Companies are suffering as higher wages have contributed to a rise in unit labor costs, up 10.8 percent for the quarter on an annualized basis. Labor costs are exceeding the Fed’s inflation target by nearly five times on both an annualized and a year-over-year basis. This implies strong upward pressure on consumer prices, making the Fed’s inflation fight all the more difficult.”
- Inversion: “The spread between the 2-year and 10-year Treasury yields recently inverted as much as 48 basis points. This was the biggest spread since 1981 and has since moderated to its current 41 basis points. Yield curve inversion has been used as a predictor of recession historically, though the exact timing of when they occur is uncertain. The 3-month and 10-year spread is more tightly aligned to when recessions start, and is still positive, though meagerly so at less than 10 basis points. This is likely to invert soon as the market responds to continuing rate hikes from the Fed. Another interest rate spread that is commonly used, and apparently is a favorite of Fed Chair Jerome Powell, is the three-month rate versus the same rate expected in 18 months, which can be observed in the forward market. That relationship is still positive by a larger margin, over 60 basis points.”