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On solid ground

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Data confirms solid footing

Data released last week from a trio of industries confirmed solid footing across a broad range of the U.S. economy. The data solidified our good, but not great, outlook and reaffirmed our belief that economic growth should step up in the second and third quarters. Although durable goods orders for April fell, this stemmed largely from commercial aircraft orders. The remainder of the report showed mostly positive readings, particularly core durable goods which grew at a healthy pace. Overall, the trend continues upward and is supported by readings from local manufacturing surveys.

Sales for both new and existing homes in April declined on an annualized basis. The performance of the two segments have diverged recently, reflecting economic realities. Despite some volatility, new home sales continue to drift upward despite the relatively high cost of construction. One note of caution: the homebuilder survey has shown some slowdown in recent periods. Existing home sales have lost momentum and have trended flat to down in recent periods. The lack of inventory for sale remains the key culprit. Although home prices continue to push higher, many homeowners do not wish to sell.

Contrary to conventional wisdom, many Baby Boomer households are
choosing not to sell their homes, preferring to "age in place" rather than downsize.

This runs contrary to the widely held belief about Baby Boomers selling their suburban homes to rent apartments in urban centers to go clubbing on weekends (or something like that). Until something motivates Boomer households to sell, inventory for sale across the pricing spectrum should remain limited. Declining health typically forces older residents out of homes, but the majority of Boomers remain relatively young and healthy so that impetus remains a bit distant. Until that point, supply for sale will remain limited, intensifying pricing pressures.

Lastly, the final consumer sentiment reading for May declined slightly, but remained at an elevated level. Still-strong consumer sentiment should support consumer spending in the second quarter, propelling economic growth.

Fed minutes support our view on June rate hike             

The Fed released the minutes from its May meeting. Its use of the word "soon" confirmed our view that the next rate hike of 25 basis points will come at the June meeting.

The Fed remains generally optimistic about the outlook for the
economy and believes that inflation will reach its two-percent target rate.

 It also sounded comfortable with the idea of inflation running slightly ahead of their target rate. The Fed also mentioned that their use of forward guidance, essentially communicating future monetary policy, needs to be changed. But, it did not clearly indicate how that will change. The use of forward guidance could certainly diminish in the future which could have important ramifications for how the market views and interprets monetary policy. We continue to hold our forecast at three rate hikes of 25 basis points each for 2018 until we see clearer evidence to change our view.  

What it means for CRE

Last week's data and the Fed minutes uphold our belief that the economic environment continues to broadly support both commercial real estate (CRE) market fundamentals and capital markets. Economic growth should accelerate in the coming quarters. That alone should not cause a serious change in course at this relatively late stage of the business cycle, but at the margin should benefit CRE. Realistically, stimulus-fueled growth gives market participants support this year, but still runs the risk of hastening the end of the cycle if faster growth and inflation result in more Fed tightening. We remind participants to avoid complacency, even if the economic data strengthens in the middle of the year, and to remain focused on the potential warning signs (otherwise known as the "three bears"): wage growth, inflation, and interest rates.

What we are watching this week

Consumer confidence should increase in May, fueled by continued improvements in the labor market. The second estimate for first quarter GDP should show little change, with the possibility of a minor downward revision. Real personal spending in May should tick modestly upward while we expect a slight downward nudge to year-over-year core inflation, measured by the personal consumption expenditures (PCE) index, the Fed's preferred measure. We expect nonfarm job to have grown by roughly 175,000-200,000 net new jobs in May, a bit of a rebound from April. We also expect a slight rebound in average hourly earnings after a somewhat disappointing reading in April. The ISM Manufacturing Index for May should show a rise, reflecting what we are already seeing in relatively buoyant regional surveys.

Thought of the week

According to the American Trucking Associations, the industry is confronting a shortage of roughly 50,000 truck drivers, causing shipping costs to increase.

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