The Fed takes down its forecast for 2014 unemployment again

Market Realist

Important takeaways from the June 2014 FOMC meeting (Part 2 of 4)

(Continued from Part 1)

At the June FOMC meeting, the Fed released its economic forecasts

Usually, at the March, June, September, and December FOMC (Federal Open Market Committee) meetings, the Fed releases its economic forecast for the current year and the upcoming two years. One of the nice things about this is that you can see how its forecast has changed over time.

The Fed has been taking down its unemployment numbers for 2014

As you can see from the chart above, since its December 2012 meeting, the Fed has been lowering its estimates for 2014 unemployment. At the December 2012 meeting, the Fed was forecasting that 2014 unemployment would range from 6.8% to 7.3%. At the June 2014 meeting, the Fed was anticipating that unemployment would fall in between 6.0% and 6.1%.

The problem for the Fed is that the unemployment rate has been falling for the wrong reasons—it has been falling because the labor force participation rate has been falling. The latest labor force participation rate of 63% was the lowest since the late 1970s. If unemployment is shrinking only because the labor force is shrinking, then that isn’t a sign of economic strength.

This is the one reason why the Fed backed away from its previous guidance of a 6.5% unemployment threshold. We’re actually below that level (at 6.3%) and the labor market is still very weak. Given low inflation and weak job growth, the last thing the Fed wanted to do was trigger a bond market sell-off as the U.S. crossed the 6.5% threshold.

Implications for homebuilders

This meeting helped reduce mortgage rates, which is welcome news to the builders. As many have noticed, especially among the builders at lower price points, the first-time homebuyer is stepping away from the market. Between having to compete with professional investors for starter homes, struggling under large student loan debts, and a lousy job market, the first-time homebuyer just can’t catch a break. The builders facing the brunt of that trend are PulteGroup (PHM), Lennar (LEN), and D.R. Horton (DHI). The builders at the high end, like Toll Brothers (TOL) and Meritage (MTH), are more insulated. Still, lower unemployment is better for the builders than high unemployment—even if unemployment is down for the wrong reasons. Investors who are interested in investing in the sector should look at the S&P SPDR Homebuilder ETF (XHB).

Continue to Part 3

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