SHI 4.25.18 Lumber, Reach for the Sky!

SHI 4.18.18: This is Not Your Grandfathers …
April 18, 2018
SHI 5.2.18 Cracks in the Wall
May 2, 2018

Lumber prices have never been higher.  Why?   

 

In my opinion, the unfortunate answer is exceptionally bad trade policy.

  • The US and Canada are in a trade dispute, triggered after the ‘US Lumber Coalition’ complained to the Department of Commerce. 
  • The last US/Canada ‘Softwood Lumber Agreement’ expired on 10/12/15.    
  • In April of last year, US Commerce Secretary said his agency will impose a 20% tariff on Canadian lumber. 
  • The following day, the Trump Administration increased that figure to 25% on most Canadian lumber products, claiming Canada’s lumber companies are ‘unfairly’ subsidized by the government.

Who benefits here?   Lumber producers both north and south of the Canadian border.  They win big.

Who loses?   Consumers here in the US.  You, me, everyone.   Soft lumber prices are up 50% in 2 years.  You read that correctly:  UP 50%.  Which means everything made/built with soft lumber is significantly more expensive.  This is not good.   For you or me.  But one group is benefiting handsomely.

Imagine what might happen if the US actively engages in trade disputes in other products?

 

Welcome to this week’s Steak House Index update.

 

If you are new to my blog, or you need a refresher on the SHI10, or its objective and methodology, I suggest you open and read the original BLOG: https://www.steakhouseindex.com/move-over-big-mac-index-here-comes-the-steak-house-index/


Why You Should Care:   The US economy and US dollar are the bedrock of the world’s economy.   This has been the case for decades … and will continue to be true for years to come.

Is the US economy expanding or contracting?

According to the IMF (the ‘International Monetary Fund’), the world’s annual GDP is almost $80 trillion today.

During the calendar year 2017, US nominal GDP increased by $833 billion … by an amount approximately equal to the market capitalization of Apple.  At the end of 2017, US ‘current dollar’ GDP was almost $20 trillion — about 25% of  the global total.    Other than China — a distant second at around $11 trillion — no other country is close.

The objective of the SHI10 and this blog is simple: To predict US GDP movement ahead of official economic releases — an important objective since BEA (the ‘Bureau of Economic Analysis’) gross domestic product data is outdated the day it’s released.

Historically, ‘personal consumption expenditures,’ or PCE, has been the largest component of US GDP growth — typically about 2/3 of all GDP growth.  In fact, the majority of all GDP increases (or declines) usually results from (increases or decreases in) consumer spending.  Consumer spending is clearly a critical financial metric.  In all likelihood, the most important financial metric.

The Steak House Index focuses right here … on the “consumer spending” metric.  I intend the SHI10 is to be predictive, anticipating where the economy is going – not where it’s been.


Taking action:  Keep up with this weekly BLOG update.  Not only will we cover the SHI and SHI10, but we’ll explore related items of economic importance.

If the SHI10 index moves appreciably -– either showing massive improvement or significant declines –- indicating growing economic strength or a potential recession, we’ll discuss possible actions at that time.


The BLOG:

According to the International Monetary Fund (IMF), the “Great Recession” (which they call a ‘once-in-a-generation recession’) was triggered by “growing global imbalances.” The IMF contends this was also the cause of the Great Depression, as the Depression was “preceded by a failure of international cooperation to address persistent imbalances between countries with large surpluses (notably the United States and France) and deficits (including Germany and the United Kingdom). “  Did you notice the US had a trade ‘surplus’ back in the 1930s? 

Specifically, the IMF is talking about trade deficits and surpluses.  Precisely the issue Trump Administration’s bullseye.

The data in the IMF chart above certainly correlates with the timing of the Great Recession of 2008.  But was it the cause?  And do global trade imbalances, in themselves, trigger economic slow-downs, or might the triggering event be the bad trade policies enacted to deal with the imbalances?

I believe it’s the latter.   Consider the now 2-year-old lumber dispute with Canada.   The US claims Canada is “unfairly subsidizing” Canadian companies in the soft lumber industry.  If true, the US Commerce Department claims, Canadian lumber prices are lower than the price of comparable US products, making our products noncompetitive, thereby causing harm to the US industry, the US economy and US jobs.

In December of 2017, the U.S International Trade Commission published a report on the issue (Publication 4749).   In that report, they summarized their findings:

“Based on the record in the final phase of these investigations, we determine that an industry in the United States is materially injured by reason of imports of softwood lumber from Canada found by the U.S. Department of Commerce to be sold in the United States at less than fair value and to be subsidized by the government of Canada.”

Below is a chart showing a framing lumber index compiled by Random Lengths.   Here is how they describe the input methodology:

“The Random Lengths Framing Lumber Composite is a broad measure of price behavior in the U.S. framing lumber market. Traditionally and roughly, 1/3 of the lumber consumed in the U.S. comes from each of the following sources: 1) Western U.S., 2) Southern U.S., and 3) Canada. Thus, 33% of the Composite is comprised of Southern Pine prices, 33% comes from Western U.S. prices, and 34% comes from Canadian prices.”

Here’s the chart:

It’s interesting to note that while only 1/3 of all lumber products are imported from Canada, the prices of ALL lumber products are up 50%.

One thing is clear:   Both US and Canadian lumber companies are making a TON more money as the direct result of the trade dispute.

But, unfortunately, the consumer is getting screwed.  Yep:  You and me are paying a lot more for every US product manufactured with soft woods:  Homes, buildings, shipping pallets, toilet paper, you name it, the cost is up.  My thanks to a loyal blog reader for sending me this article that is right on point:

https://www.bloomberg.com/news/articles/2018-04-25/why-high-flying-u-s-home-prices-are-about-to-get-another-jolt?utm_campaign=news&utm_medium=bd&utm_source=applenews

Now imagine similar trade disputes with China, Mexico, and the countries of Europe and South America.  Ouch.  That, my friends, would make the consumer’s life very expensive!

It could trigger a significant rise in the inflation rate.  Perhaps much like the US experienced from oil price hikes back in the early 1970s.  Could this happen again?  It absolutely could happen again.

Another possibility is that the input prices — the cost of the materials used to make a final or finished product — rise without affecting the price of the finished product.  This happens when the manufacturer does not have the ability — either due to competition or other factors — to pass on cost increases to the consumer.  When this happens, corporate profits fall.

And when corporate profits fall, earnings forecasts decline, and ultimately stock prices fall too.

We’re actually seeing some of this dynamic play out right now.  Commodity prices are up across the board.  Input prices are increasing.  But unlike new home builders, many consumer staples companies are finding they don’t have the ability to lift consumer prices.

The equation for these companies is pretty simple:   Costs up + price the same = profit down.  Recent stock price volatility, I suspect, reflects investor concern about this equation.  I’ll talk more about this in next week’s blog.

Either way — whether the consumer pays more, or the manufacturer pays more — the impact on the overall economy is not positive.  Let’s see what our steak houses are telling us this week about GDP growth.

Well, this week shows many more open tables than last.   As you can see in the second image below, last week the SHI10 came in at <55>.  This week we’re at a <92.>   However … part of this move can be attributed to a small glitch in our data gathering process.   Take a closer look at the Seattle restaurants.  You’ll see they have changed from last week — and all prior weeks.  For some reason, 3 of our 4 ‘chosen’ steak restaurants stopped reporting to OpenTable.  We’ve had to substitute 3 alternative fine eateries from the Seattle area.   2 of which, I’m sorry to report, are not <GASP!> steakhouses.  Unfortunately, we ran out of expensive steakhouses!   C’est la vie.  The good news:  You can still get a beautiful steak in all 4 Seattle restaurants.  Phew.  🙂

The bottom line:  The past few SHI10 readings may have overstated pricey eatery demand.   By 10 or 15 points.   Even with this adjustment, this week’s reading is a bit weak.

 

Here is the longer term trend:

The first US Bureau of Economic Analysis (BEA) release for Q1 2018 GDP growth, known as the “advance estimate,’ will be released on Friday, April 27th.   2 days from now!

Will the Q1 figure reflect the somewhat robust Atlanta and NY FED expectations (2.0% and 2.9%, respectively)?  Or will the SHI10 forecast — my current expectation is no higher than 1.60% — be more on point?    The excitement is palpable!

Well, maybe not.  🙂

As discussed above, clearly trade disputes are not positive for consumer spending.  Depending on how input cost increases show up in the final product the consumer buys, the effect may be small or quite large.  As it is with housing.

This issue aside, however, our SHI10 readings suggest consumers are still spending.   Albeit a bit less.   The numbers do not reflect robust activity — but more of a consistent consumer demand.   And as almost 70% of GDP growth is the result of consumers spending, the SHI10 is predicting a low- to mid-range GDP growth figure from the BEA.

Before we go, permit me a brief comment on interest rates.  The 10-year Treasury has eclipsed 3% for the first time in years.   And the 2-year is near 2.5%.  Lofty numbers indeed.

Let’s see what Friday tells us.   Turn on CNBC at 5:30 am — you’ll see the live release!

– Terry Liebman

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