Stocks saw a strong rebound last week while most coincident economic readings continued to signal economic expansion. However, leading indicators continue to point to further weakness ahead.

Industrial production and jobless claims remain consistent with a continued expansion while housing data and the Conference Board’s Leading Economic Index suggest weaker economic conditions ahead.

The Federal Reserve aggressively raising interest rates while the economy is slowing has us cautious on stocks and other risk assets. However, we emphasize the importance of sticking with long-term investment plans where stocks continue to play a critical role for maintaining future purchasing power.

Industrial Production Consistent with Expansion

Industrial production rebounded 0.4% in September, above the consensus of 0.1%. Additionally, production in the previous two months was revised up. As a result, the third quarter saw an increase of 2.9% at an annual rate. Both manufacturing, led by durables, and mining, led by oil and gas extraction, posted gains while utilities output, led by electricity, fell. On a y/y basis, industrial production increased 5.3%, reflecting improvement as component shortages and supply-chain issues continued to be resolved.

This stronger-than-expected reading is consistent with economic expansion and still suggests the economy is not currently in recession. The Atlanta Fed’s GDPNow model now estimates third-quarter GDP growth of 2.9% while the Blue Chip consensus stands at about 1.2%.

Jobless Claims Consistent with Healthy Labor Market

Initial claims for unemployment insurance fell by 12,000 last week to 214,000, contrary to the consensus for a small increase to 230,000. While off their cycle trough earlier this year, initial claims remain low, and are hovering near their pre-pandemic level. Although initial filings picked up in Florida in the immediate aftermath of Hurricane Ian, the lack of any meaningful increase at the national level is a testament to how tight the labor market is. In addition, continuing claims and the insured jobless rate both remain near multidecade lows, reflecting that most workers who lose their jobs find new employment relatively quickly, another sign of strong labor demand and consistent with economic expansion.

Housing Weakness

Housing starts fell 8.1% in September to a 1.44-million-unit annual rate, the second lowest level in starts since February 2021, while the three-month average was the lowest since October 2020. Building permits ticked up 1.4%, its first gain in three months, to a 1.56-million-unit annual rate. On a y/y basis, housing starts fell 7.7%, while permits were off 3.2%, highlighting that construction activity has weakened over the past year amid soaring mortgage rates and ongoing construction material and labor shortages. The near- term outlook for starts is also weak, as builder confidence, which correlates strongly with starts, sank in October to its lowest level since 2012 (excluding the pandemic).

Leading Index Suggests Weakness Ahead

The Conference Board’s Leading Economic Index (LEI) fell 0.4% in September and has declined in six of the past seven months, as the outlook for growth has worsened over the course of this year. The weakness was widespread across the majority of LEI components. This suggests continued weakening in economic growth momentum over the next six months. The Conference Board noted that the current downward trajectory in indicators implies that "a recession is increasingly likely before yearend."

Early Read from Earnings Season

With 99 firms representing about 20% of the market announcing results, earnings have largely met consensus expectations, but earnings beats have been less frequent than the long- term average (39% vs. 48% historically). This week, 46% of S&P 500 market cap will release third-quarter results. Third-quarter expectations are for revenues and earnings growth of 9.6% and 3.3%. Ex-Financials (where banks are building reserves for future bad loans) results appear healthier, with top- and bottom-lines expected to jump 10.4% and 6.9%.

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