Universal Value Advisors

Follow Us:

Economic predictions for 2016

As the year ends, it is customary to write a column that attempts to forecast the major economic trends of the new year. Looking back, five of my six predictions last December were spot on (only missed the continuing weakness in manufacturing). I hope the forecasts that follow do as well.

Jobs, jobs, jobs

Jobs and the consumer have been the bright spots in the U.S. economy and it appears that will continue into 2016. Business surveys indicate that job openings are growing faster than net new hires, and that the biggest issue is finding qualified applicants. As a result, it appears that wages will be rising in 2016, putting downward pressure on corporate profit margins. In addition, as full employment approaches, 200,000-job months will become scarce, and we should expect to see 150,000 or less become commonplace, probably beginning sometime in 2016.

Consumer

While the business media has been hyping the story that retail sales are lagging expectations, some of this looks to be a measurement problem. The millennials, now the largest segment of the working population, appear to be more interested in “experiences” and services rather than hard goods. Most services are not counted in the traditional retail sales data. Auto sales, too, have been higher than 17 million units (annual rate) every month since April. The fact is, America’s consumer has never bought autos in a vacuum, and it is doubtful that this time is different. Perhaps the shift to online is much faster than the measurement system can handle.

Manufacturing

The ISM’s Manufacturing Index fell to 48.6 in November; 50 is the demarcation between expansion and contraction in a diffusion index. This was the first time the index has been below 50 since November 2012 when it was below 50 for only one month. There has been a lot of angst over this, as if this one indicator, now representing just over 10 PERCENT of the economy, is a precursor to recession. But history tells us, as does the ISM itself, that anything north of 43 is compatible with positive GDP growth. Exports will remain weak as long as the dollar is strong, but manufacturing is likely to stabilize near the 50 level in 2016.

The oil issue

Also helping the consumer is the continuation of the downward pressure on oil prices. OPEC ministers recently met and because Saudi Arabia wants to drive the marginal producer out of business, no quota reductions were announced. In fact, the Saudis are now producing 31 million-plus barrels per day, while their quota is 30 million.

That strategy, however, appears to be working. The U.S. oil rig count is down 545 from 1,609 as late as October 2014. Marginal oil producers are now locked out of the capital markets and have no place to go for financing. So sometime in 2016, the U.S.’s production of oil (currently over 9 million barrels per day) will fall significantly. And that alone could stabilize the price of oil.

The liquidity issue

In mid-December, the equity markets became quite volatile and apoplectic over the looming credit issues in the high yield space, and the closing of the junk bond fund Third Avenue Management LLC, which held mainly marginal oil producers. Normally, such defaults in a small subsector would not be of much concern. But since ’09, the financial paradigm has changed under new regulations and the Dodd-Frank Act, which have reduced liquidity in the financial marketplace.

The closing of the Third Avenue junk bond fund caused a massive exodus from anything with a “high yield” label, despite only a small segment of that market (marginal oil) being in trouble.

This appears to be the biggest immediate risk (a low probability, but nontrivial) and the biggest risk to the 2016 forecast, because if, due to lack of liquidity, financial panic spreads to the general capital markets, there will be significant impact on the consumer and real economy.

Fed policy

Now that they have taken the first rate-hiking step, and despite assurances by Fed Chair Yellen that rate increases would be “gradual,” the capital markets have become concerned that rates will rise too fast and a recession will result, perhaps even in 2016. Such uncertainty causes equity market volatility. But consider the following: 1) The Fed is raising rates because the economy is strong; 2) historically, a recession is many months out from the first rate hike; and 3) history also tells us that the equity markets, after some initial indigestion, are higher six months later.

Conclusions: Just enough

The most likely scenario for 2016 is a continuation of the 2 to 3 percent real GDP growth that we’ve seen in 2015, with a healthy consumer leading the way, overcoming a middling manufacturing sector and an energy sector in disarray. Rising wages and their implication for corporate profit margins and the Fed’s moves toward tighter policy will be headwinds for both the equity and fixed-income markets in 2016. But overall, it appears that the U.S. economy will produce just enough growth to keep the equity bull intact, to keep the U.S. dollar strong, and to push interest rates up just a bit.

Nonetheless, because of the oil issues, a continued slow manufacturing sector, and heightened geopolitical issues, while 2016 may well end up looking like 2015, markets will likely be subject to much greater volatility.

Robert Barone (Ph.D., economics, Georgetown University) is a principal of Universal Value Advisors, Reno, a registered investment adviser. Barone is a former director of the Federal Home Loan Bank of San Francisco and is currently a director of Allied Mineral Products, Columbus, Ohio, AAA Northern California, Nevada, Utah Auto Club, and the associated AAA Insurance Co., where he chairs the investment committee. Contact Robert Barone or the professionals at UVA (Joshua Barone and Andrea Knapp)
are available to discuss client investment needs.
Call them at 775-284-7778.
Statistics and other information have been compiled from various sources. Universal Value Advisors believes the facts and information to be accurate and credible but makes no guarantee to the complete accuracy of this information.

Share:

lastest posts

popular tags

Send Us A Message