2013 was supposed to be a fairly difficult year for the economy given tax increases and budget cutbacks. However, considering the recent employment report, the economy is showing surprising strength.
During most economic recoveries, when the Federal Reserve lowers interest rates, housing is a major beneficiary. Until recently, despite record low interest rates, housing had remained in the doldrums. This was primarily due to an extremely high level of foreclosures, and weak demand due to the poor job market.
Currently, because there has been little supply of new homes and foreclosure activity has lessened, there is no longer an oversupply of homes. In fact, the supply of available homes is at a very low level. At the same time, demand is coming back, as affordability has improved significantly from the prior peak and people are somewhat more confident about their employment situation.
Housing cycles normally last for a considerable period of time. With increased home-building and remodeling activity occurring, that will provide a significant lift to the economy for quite some time.
Another area that has seen significant improvement is auto sales. New car sales are highly cyclical, and during the past recession dropped by about a third from normal levels. This year, the market should finally be back to a normal selling pace of over 15 million units.
Auto production plays a large role in the overall manufacturing economy. There are numerous parts suppliers plus all the raw materials that go into making a car. In addition, the service side of the economy benefits from increased activity at the dealer level. States such as California that have high sales tax rates see a revenue boost when auto sales improve.
Energy is another area that is seeing a significant resurgence in activity. For many years the nation’s oil imports have increased: however, with lower demand with greater conservation and increased production oil imports are decreasing. But economic activity due to energy activity is limited to a certain number of states.
Natural gas production has increased dramatically due to the new technology called hydraulic fracturing or fracking. The decrease in the cost of natural gas down significantly in recent years this has allowed for manufacturing activity in the U.S. to be more competitive, as energy is a major cost.
There are some who are concerned about the environmental issues involved in fracking. However, the increased natural gas that is being used for power generation is largely replacing coal, which is a greater pollutant relative to natural gas.
California is a major energy producer despite its stringent environmental regulations. These regulations do cause the price of gasoline and electric power to be among the highest in the nation. However, because of the state’s geography and climate, Californians are subject to more pollution compared to other regions. These added costs do put California at a disadvantage relative to other states for manufacturing.
Because of the nation’s large budget deficit government fiscal policy is becoming more restrictive. However, certain key industries are seeing resurgence in activity. On balance, this should allow for the economy to expand at a moderate level this year.
For an investor, this improved economic performance does somewhat justify the recent stock market rally. With the stock market appearing to be fairly valued I would maintain normal positions, unless holdings have grown to be disproportionately large.