Growth

1Q21 real GDP grew at a 6.4% q/q seasonally adjusted annual rate. Increases were broad based, with the exception of trade and inventories. Personal consumption, the largest part of the economy, surged an annualized 11.3% after upward revisions, the second-fastest pace since the 1960s. Economic output is now only 0.9% below peak 4Q19 real GDP, and an inventory rebound could set the stage for a double-digit surge in real GDP in the second quarter. The ISM manufacturing PMI rose modestly to 61.2, from 60.7 in April, while the ISM services PMI increased to a record 64.0, from 62.7 in April. Inflationary pressures intensified in May amid supply bottlenecks and shortages of available workers.

Jobs

The May jobs report showed moderate improvement in the labor market as firms make some progress in filling a record number of openings, but reflects an uneven recovery as a surging post-pandemic economy bumps up against labor supply constraints. Total nonfarm payrolls increased by 559,000 in May, modestly weaker than consensus expectations, with the leisure and hospitality industry continuing to make strides in hiring. The unemployment rate decreased to 5.8%, while the labor force participation rate edged down to 61.6%. Notably, wages rose 0.5% m/m and 2.0% y/y as businesses raise wages in response to labor market shortages. Labor demand remains strong, as JOLTS jobs opening data showed a record high 9.3 million vacant job positions.

Profits

The 1Q21 earnings season has been impressive, with 495 companies having reported (99.1% of market cap). Our current estimate for 1Q21 earnings is $47.48. Thus far, 86% of companies have beaten on EPS estimates, and 74% have beaten on revenue estimates. Many companies have now recovered to the revenue/EPS levels of 2019 and are setting fresh highs. Blowout reports from big tech also highlight how the pandemic has accelerated key secular growth themes. Oil prices and the U.S. dollar have provided additional tailwinds to earnings.

Inflation

Inflation has now surpassed the FOMC’s 2% target, as the headline PCE price index rose +0.6% m/m and +3.6% y/y in April. The core PCE deflator also accelerated to +0.7% m/m and +3.1% y/y, beating market expectations. The May U.S. CPI report showed consumer prices rising at their fastest pace in more than a decade, as a rapidly reopening economy ran into global supply shortages. Headline CPI for May exceeded expectations, rising +0.6% m/m and +5.0% y/y, while consumer prices excluding food and energy rose +0.7% m/m and +3.8% y/y.

Rates

The FOMC maintained the federal funds target rate in a range of 0.00%-0.25% and left the pace of asset purchases unchanged. In addition, the median federal funds rate projection—as measured by the “dot plot”—continues to imply no rate adjustments through 2023. Chairman Powell pushed back on tapering chatter and reiterated their view that higher inflation over the next few months will be transitory and thus not meet the threshold for tighter policy. Powell acknowledged the improved growth backdrop, but said that they will need to see it persists to give the Fed comfort about achieving “substantial progress.”

Risks

• The emergence of COVID-19 variants and global vaccine delays could slow the economic reopening.
• Inflation could spike in the medium term.
• Extremely accomodative monetary and fiscal policies could lead to a boom-bust recession.

Investment Themes

• U.S. equity investors may use earnings as a guide in a rising rate environment.
• Fixed income investors may underweight bonds and maintain short duration in a rising rate environment.
• Long-term growth prospects, a falling dollar and cyclicality support international equities.