The Financial Outlook Financial Outlook Issues, ASU Forecasting - PowerPoint PPT Presentation

Financial Outlook Themes The Financial Outlook Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Pessimist’s Spoiler Financial Outlook Themes Wilshire 5000 (Dec 31, 1970 = 830.27) 20,100 20,100 18,090 18,090 16,080 16,080 14,070 14,070 12,060 12,060 10,050 10,050 8,040 8,040 6,030 6,030 4,020 4,020 2,010 2,010 0 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2 Source: Dow Jones. Updated through November 27, 2013. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Financial Outlook Themes Interest Rates 3 Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Three rate levers: fed funds, communications, LSAPs Financial Outlook Themes Federal funds rate and nominal 10-year Treasury yield (percent) 20 20 16 16 10-year Treasury yield 12 12 8 8 Federal 4 4 funds rate 0 0 60 65 70 75 80 85 90 95 00 05 10 Sources: Vertical bars denote recessions and are designated by the NBER; Federal Reserve Board. Updated 4 through September 9, 2013. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Bond yields and asset purchases Financial Outlook Themes Nominal and inflation-adjusted 5-year Treasury yield 5 years in the future (percent) 7 7 Five-year forward Treasury yield (5 x 5) 6 6 5 5 Five-year forward inflation expectations plus inflation risk premium (5 x 5 breakeven) 4 4 3 3 2 2 Five-year forward real Treasury yield (5 x 5 TIPS) 1 1 0 0 -1 -1 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 5 Source: Federal Reserve Board. Updated through November 8, 2013. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

P.S. No QE, no money, no inflation ... Financial Outlook Themes Monetary base (billions of dollars) M2 (billions of dollars) 3,400 34,000 3,200 32,000 3,000 30,000 2,800 28,000 2,600 26,000 2,400 24,000 2,200 22,000 Monetary base (left scale) 2,000 20,000 1,800 18,000 The money stock (right scale) 1,600 16,000 1,400 14,000 1,200 12,000 1,000 10,000 800 8,000 600 6,000 400 4,000 200 2,000 0 0 1970 1975 1980 1985 1990 1995 2000 2005 2010 6 Source: Federal Reserve Board. Updated through June 2013. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

... because the “base” is piling up as excess reserves Financial Outlook Themes Selected components of the monetary base (billions of dollars) 3,400 34,000 3,200 32,000 3,000 30,000 2,800 28,000 2,600 26,000 The monetary base = 2,400 currency in circulation + 24,000 required reserves + 2,200 22,000 excess reserves (left) 2,000 20,000 1,800 18,000 1,600 16,000 M2 (right scale) 1,400 14,000 1,200 12,000 1,000 10,000 800 8,000 600 6,000 400 4,000 200 2,000 0 0 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 7 Source: Federal Reserve Board. Updated through July 2012. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

On the “maximum employment” mandate ... Financial Outlook Themes Unemployment rate (percent) 12 12 11 11 Proved to be premature and the Horizontal bars denote the Fed's view 10 10 Fedbacked down (forecast range) about the near-term and sustainable unemployment rate (often referred to as the Nairu, or nonincreasing 9 9 inflationary rate of unemployment) ¹ 8 8 7 7 6 6 5 5 4 4 3 3 2 2 1 1 Note: The red boxes identify the first step in each Fed tightening sequence. 0 0 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Sources: Vertical bars denote recessions and are designated by the NBER; US Department of Labor. Updated 8 through October 2013 (unemployment) and September 18, 2013 (FOMC forecast). Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

... including dropouts ... Financial Outlook Themes Selected populations not classified as employed (percentage of the respective population) 0.50 0.50 All over 16 years of age or older who are not classified as employed 0.45 0.45 0.40 0.40 0.35 0.35 16- to 54-year olds who are not classified as .............. employed 0.30 0.30 0.25 0.25 0.20 0.20 1947 1952 1957 1962 1967 1972 1977 1982 1987 1992 1997 2002 2007 2012 9 Source: US Department of Labor. Updated through October 2013. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

... call it the 5 th inning Financial Outlook Themes Selected employment reference points (thousands) 162,000 162,000 Official labor force plus 16- 54-year old dropouts since 160,000 160,000 December 2007 158,000 158,000 Official labor force plus 16- 44-year old dropouts since 156,000 156,000 December 2007 154,000 154,000 152,000 152,000 Nonfarm employment needed to return the official 150,000 150,000 unemployment rate to 5% 8.7m 148,000 148,000 7.5m Actual nonfarm employment 146,000 4.3m 146,000 144,000 144,000 6.8m new 142,000 142,000 jobs since 140,000 140,000 the bottom 138,000 138,000 136,000 136,000 134,000 134,000 132,000 132,000 130,000 130,000 128,000 128,000 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019 10 Source: US Department of Labor. Updated through October 2013. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

If credit speed bumps get in the way, the Fed will have to act Financial Outlook Themes Bank credit (annualized percent change from six months earlier) 15 15 Growthof Bank Credit (break adjusted, annualized percent change over the most recent 6 months) 5 5 -5 -5 Total bank credit (grey shaded area) Securities Loans & leases -15 -15 2007 2008 2009 2010 2011 2012 2013 2014 11 Source: Federal Reserve Board. Updated through October 2013. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Ultimately the 2% inflation mandate rules Financial Outlook Themes Core PCE chain price index (percent change from 12 months earlier) 11 11 10 10 9 9 The FOMC's 8 8 forecast for PCE chain price inflation and long- 7 7 run goal ¹ 6 6 5 5 4 4 3 3 2 2 1 1 0 0 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 Sources: Vertical bars denote recessions and are designated by the NBER; US Department of Commerce. 12 Updated through September 2013 (inflation) and September 18, 2013 (FOMC forecast). Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Financial Outlook Themes Credit 13 Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Credit spreads Financial Outlook Themes High yield spread (basis points) 2,000 2,000 1,800 1,800 Ibbotson Associates J.P. Morgan Securities LLC high 1,600 1,600 yield index 1,400 1,400 1,200 1,200 1,000 1,000 800 800 600 600 400 400 200 200 0 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 Sources: Federal Reserve Board, JPMorgan. Updated through November 22, 2013. 14 Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Financial Outlook Themes Equities 15 Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Stocks ... Financial Outlook Themes Wilshire 5000 price-earnings ratio Wilshire 5000 (December 31, 1970 = 830.27) 28 20,000 26 18,000 24 Price-earnings ratio (left scale) 16,000 22 20 14,000 Wilshire 5000 (right scale) 18 12,000 16 14 10,000 12 8,000 10 6,000 8 6 4,000 4 2,000 2 0 0 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 16 Source: US Department of Commerce. Updated through 2013 Q2. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

... are about business earnings, not the Fed Financial Outlook Themes Wilshire 5000 (Dec 31, 1970 = 830.27) After-tax GDP profits (billions of dollars) 20,100 1,900 18,090 1,710 Line represents the Wilshire 5000 index (left scale) 16,080 1,520 14,070 1,330 12,060 1,140 10,050 950 8,040 760 6,030 570 4,020 380 Shaded area represents after-tax GDP profits (right scale) 2,010 190 0 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 Note: theWilshire 5000 P/E has averaged 10.6 since 1947, excluding the unprecedented multiples from 1997 - 2001. Note: scales aligned to the historical 10.6 times price-earnings average (for these measures) ex. the 1990s. 17 Sources: US Department of Commerce; Dow Jones. Updated through 2013 Q2 (profits) and Nov. 27, 2013. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013

Profits are about business, not the Fed’s low rates Financial Outlook Themes Net interest margin (percent of a dollar of real GDP produced) 6% 6% 5% 5% 4% 4% 3% 3% 2% 2% 1% 1% 0% 0% 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 18 Source: US Department of Commerce. Updated through 2013 Q2. Financial Outlook Issues, ASU Forecasting Luncheon, Phoenix, Arizona, December 4, 2013