U.S. GDP Gains and Mixed Response from U.S. Stocks

Despite a strong rise in GDP growth, above expectations, U.S. stocks saw mixed performance on Tuesday as investors mulled the chances of an interest rate hike amidst broader economic growth.

Despite a strong rise in GDP growth, above expectations, U.S. stocks saw mixed performance on Tuesday as investors mulled the chances of an interest rate hike amidst broader economic growth.

American GDP grew by 3.9% annualized in the third quarter, an upward revision from previous estimates, as greater personal and business investment bolstered the economy. According to new data from the Bureau of Labor Statistics, annual GDP growth saw gains thanks to more business investment, which helped their growth estimate rise from 3.3% previously to 3.9%. Analysts had expected a smaller upward revision to GDP gains for the third quarter.

According to the BLS, a mixture of greater aggregate demand and business investment was helping the U.S. economy. Seeing greater personal consumption expenditures, businesses are increasing their investments in fixed capital in an attempt to capture future demand growth expected to carry into the fourth quarter and into 2015.

“The increase in real GDP in the third quarter reflected positive contributions from PCE, nonresidential fixed investment, federal government spending, exports, residential fixed investment, and state and local government spending that were partly offset by a negative contribution from private inventory investment,” the BLS said in a public statement.

Fed Fears

Despite improving economic indicators, investors had a mixed response to the news, with S&P 500 stocks oscillating between gains and losses throughout much of Tuesday trading. Analysts believe that the stock market is pricing in the risk of an interest rate hike in 2015, which could cause stocks to fall steeply and possibly introduce a bear market. Rising interest rates would encourage more investment in bonds and less in stocks as risk-averse investors pull out of stocks to fund lower risk Treasury holdings at a higher rate of return.

Recently, Federal Reserve Chairman Janet Yellen indicated to the market that rate hikes might come in 2015, but that she is looking for a consensus from local Fed chairs before raising interest rates. In September, Janet Yellen told reporters that there would a “considerable period” between the end of its quantitative easing program and the first interest rate increase.

Although stocks oscillated on interest rate fears, bond investors were much more confident in low interest rates. The ten-year Treasury saw gains in Tuesday trading, causing U.S. Treasury yields to fall three basis points to 2.27%, near their lowest point in 2014.

Volatility also fell on Tuesday, with the S&P 500 volatility index known as the “VIX” stayed below 13 throughout trading, a historically low level. Fears of a broader market crash have subsided since peaking in the middle of October.

Private Inventory Weakness, Fixed Capital Gains

Private investment in longer-term growth is more aggressive than short-term inventory increases, indicating that businesses may still expect consumers to keep a lid on spending in the short term. The BEA noted that private inventory investment decreased, although the fall was less than previously estimated. Still, this decline is a drag on GDP growth, which was most pronounced in lower exports due to lessening foreign demand.

At the same time, fixed investment was strong, with nonresidential fixed investment rising 7.1% in the third quarter.  Real residential fixed investment rose 2.7%, decelerating from a previous 8.8% increase.

The Federal Reserve has warned that weakening economic conditions globally may be a headwind to U.S. growth, as the Eurozone nears deflation and China growth cools at a faster rate. A stronger U.S. dollar has also made U.S. exports more expensive for foreign consumers.