Fisher Investments Editorial Staff

It’s (Not) a Small World After All

By, 12/23/2013
Ratings334.19697

Wow!” That word about sums up headlines' surprised and cheery reaction to the news US Q3 GDP growth was revised up to a 4.1% seasonally adjusted annualized rate (SAAR) Friday. Don’t get us wrong—it’s refreshing to see some optimism for a change—but in our view, folks are making a bit too much of the news. One, while a third estimate of data from two to five months ago is a nice confirmation of growth, it doesn’t signal what’s to come. Two, it’s a big world! The US is important, but global matters most, and those focusing on one country tend not to see how the how the entire world is faring. And it’s faring well! Overall, growth continues, with some areas accelerating, and forward-looking indicators suggest this should continue. Yet many folks still cling to the notion of a weak world, creating upside surprise potential for global stocks.

Q3 GDP data are worth weighing, but more as an illustration of where we are now versus recent expectations. For instance, last month’s preliminary reading showed 2.8% growth, but a big contribution from inventories, leading many to take a dour view—they assumed spending didn’t keep up with stocking, a bad sign. That meme held after Q3 GDP was revised up to 3.6% in the second read, with inventories’ estimated contribution doubling, and it stayed even after wholesale inventory data showed a still-low inventory-to-sales ratio. Like many data points, the reaction to the growthy figure was largely, “yeah but...” For those folks, Friday’s update is a happy surprise! The higher read was driven largely by consumer and business spending. Consumer spending jumped from a 1.4% seasonally adjusted annual rate to 2.0%, and business spending bumped to 4.8% from 3.5%. These results don’t tell us what’s to come, but they do show how popular impressions and expectations can be out of step with reality.

Abroad, a roundup of Q3 results shows a world far stronger than many give it credit for. UK GDP stayed at 0.8% q/q (about 3.2% SAAR) in the final estimate, released Friday, but business investment was revised up from 1.4% q/q to 2.0%—one of the best reads in ages. Exports were revised down, but this speaks more to conditions abroad, like the uneven eurozone recovery. Imports were revised up, which indicates rising domestic demand. Emerging Markets, too, have plenty of life. China grew 7.8% y/y in Q3, moving further past hard landing fears. South Korea seems to be out of its recent funk, hitting 1.1% q/q in Q2 and Q3. Thailand rebounded from a negative Q1 and flat Q2 with 1.3% q/q growth in Q3. Malaysia’s acceleration continued, beating expectations at 5% y/y. India even picked up a bit, advancing 4.8% y/y. Vietnam also accelerated, rising 6.0% y/y. Brazil contracted, dropping -0.5% q/q, but with the totality of Emerging Markets economies on the rise, a drop in one country—even as one as big as Brazil—isn’t enough to pull down the entire category, never mind the world.

Countries never move in lockstep. There are always pockets of strength and weakness. But when headlines over-focus on the weak at the expense of the strong, it helps lower expectations. Even with growth picking up, the notion of a weak world persists, creating plenty of room for reality to surprise if growth keeps picking up. In this way, that we’ve had a slower cycle of US growth in this expansion is actually bullish for stocks, as it dampens expectations.

Forward-looking indicators suggest it should. For one, many November and December PMI surveys remained in healthy expansion, with the forward-looking new orders indexes strong. US ISM manufacturing new orders jumped to 63.6, while services orders hit 56.4 in November (50 is considered the dividing line between growth and contraction). The UK’s services new orders hit 63.1 in November, while new manufacturing orders rose to 64.6. Japanese manufacturing and service orders rose in November, too, with manufacturing orders rising the fastest since early 2006. Mexico’s November manufacturing new orders showed the strongest increase since March. Canada’s, Germany’s and China’s new manufacturing orders all rose, as did the new orders component of Hong Kong’s composite PMI.

Even better, most LEI trends globally are rising. US LEI rose 0.8% in November, the fifth straight rise. Korean LEI skyrocketed, 1.6% in October, continuing the steady increase since July. China’s LEI, too, is on an uptrend, including a 1.4% rise in November. The UK uptrend continues, too, and Australia’s LEI has accelerated two straight months after a lackluster midyear. And the eurozone’s LEI trend is one of the world’s strongest, with five straight months above 0.5%. Even France, widely assumed the new sick man of Europe, has a fine LEI trend. It rose 0.8% for October, the third rise in four months. Folks fear a French recession, but LEI simply shows unevenness—normal for most any eurozone country these days.

In many of these strong LEIs rising yield curve spreads are a big contributor. Rate spreads have risen globally in the past eight months. Korea’s spread was flat in May. Now it’s 1.08 percentage points, and growth is picking up. That isn’t a coincidence—wider spreads usually help money change hands faster, fueling growth. This is happening globally, and once Fed bond purchases end, rate spreads should widen even more! Long-term US Treasury rates have a strong correlation with long-term rates globally—by pulling down US long rates, the Fed pulled down long rates globally, giving the world a sedative. The end of quantitative easing should provide plenty of fuel for global growth.

Very few expect this. Stocks tend to move on this gap between expectations and reality, and this gap seems wide—fundamentals indicate a healthier and faster-growing world. There should be plenty more positive surprises in store for stocks, sufficient surprise to even make the most skeptical of investors crack an optimistic smile.

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*The content contained in this article represents only the opinions and viewpoints of the Fisher Investments editorial staff.

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