Outlook So how fast is the economy growing or shrinking? When the Bureau of Economic Analysis (BEA) releases the official Gross Domestic Product (GDP) report each quarter, it can be confusing. First, there is an initial report, and then there are two additional updates (the initial, second, and third estimates). The reports occur 30, 60, and 90 days after the end of each quarter - only to be finalized at the end of the year. The GDP report is also inflation-adjusted, meaning it considers total economic growth minus inflation. This is called "real" GDP. The GDP report is also seasonally adjusted, meaning it is modified to remove predictable seasonal patterns, such as increased retail sales during the holidays. Long story short, the initially estimated, seasonally adjusted, inflation-adjusted, and annualized GDP growth shows that the economy shrank by -0.3% for the 1st quarter of 2025. Despite the rather intricate nature of economic growth calculations, we do believe it is constructed in a fair, robust, and reliable manner. Here is the brief story it tells: For the first 3 months of the year, businesses expected large tariffs to occur and rushed to stock inventories by importing goods from overseas. Since 2021, net imports have held back growth by -0.7% on average. Meaning growth would be approximately 0.7% higher if we had not imported more than we exported over this period. Fast forward to this most recent quarter, consumers and businesses imported goods at a much higher rate than normal. This detracted from GDP by -4.8%.1 In other words, imports held back growth substantially. Despite this, the largest component to growth, consumer spending, contributed positively to GDP growth by +1.2% according to the BEA. While the next quarter's GDP reading is still a few months away, it will be interesting to see how consumers and businesses adjust their spending since much of the 1st quarter has been exported overseas. . . . The U.S. equity markets digested a slew of corporate earnings and economic data, including domestic growth and labor market updates. Overall, the data, which is largely backward-looking at the first quarter, showed the U.S. economy and businesses started the year on solid footing. (1) Corporate earnings growth has largely surprised on the upside. Of the 72% of companies in the S&P 500 that have reported earnings as of 05/02, 76% of companies have posted actual EPS above expectations. The earnings surprises are on average 8.6% above estimates, which is above the 10-year average of 6.9%.2 (2) U.S. economic growth turned negative in the first quarter, due to a large pull forward of imports. Imports are subtracted from GDP, however, the temporary contraction may not be viewed as negatively versus other deteriorating metrics, given the likelihood of the trend to reverse. More importantly, consumer spending remained positive with consumption expenditures increasing 1.8% for the period.3 (3) Lastly, the labor market continues to show signs of resilience, and the unemployment rate remains low. Job growth was stronger than expected in April, despite worries of potential impacts from tariffs. The April nonfarm payroll jobs report released last Friday showed 177K jobs were added to the economy, versus the 138K expected. The March figure was revised downward to 185K, but the three-month average remains healthy around 155K. The unemployment rate held steady at 4.2%, indicating the labor market is relatively stable. The unemployment rate has moved higher since the 2023 low of 3.4%, but it remains well below the long-term average of 5.7%.4 The strong report also creates less urgency for the Federal Reserve to cut interest rates. The Fed is closely monitoring inflation and the health of the labor market and will likely decide to adjust rates lower when there are clear signs of a slowdown (in the labor market or unexpected increases in inflation). We believe the Fed will cut rates this year, likely in the back half of the year, after the impacts of higher tariffs (potentially moderating consumption and higher inflation) are displayed in the economy. The futures market is pricing in three interest rate cuts for this year (previously four) and pushed out expectations for the first cut to July, according to the CME FedWatch Tool.5 All in all, the stock market has rebounded solidly over the past couple of weeks, driven by improved sentiment on the economy and strong earnings, along with positive rhetoric on tariffs and trade. Friday marked the ninth straight day of gains for the S&P 500. For the week, the S&P 500 advanced 2.9%, while the tech-heavy Nasdaq jumped 3.4%, and the blue-chip Dow rose 3.0%. |
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