US Economic Update

April’s rise marked the fifth increase over the past six months and pushed the level of orders to the highest since December. Orders for transportation equipment slipped 1.3% following the 13.6% surge in March. Orders for non-defense aircraft and parts fell 10.7% after increasing strongly in both March and February while orders for defense aircraft and parts rose. Motor vehicles and parts orders slipped by 1.9% partially reversing gains in the previous two months.

Orders for non-defense capital goods excluding aircraft, or core orders, a proxy for business investment spending, rose 1.2%, marking the second monthly gain. Unfilled orders, considered a precursor to future activity, continued to trend higher, and rose 1.8% echoing March’s increase.  Inventories increased by 0.5% after gains of 0.1% in March and February. Shipments increased 1.9% building on March’s 1.3% rise.

The fact that orders have increased to the highest level in four months should help to allay concerns that business spending remains in the doldrums. Core orders rose for the second month in a row building on the stronger-than-expected pickup in equipment and software spending in the first quarter. The manufacturers’ ISMindex jumped up in April signaling that manufacturers were more upbeat with the improvement in the new orders pointing to stronger activity ahead. The report suggests that rather than shifting to an even lower gear in the second quarter, some parts of the economy are showing upward momentum. This report supports the recent reduction in expectations that the Fed will lower rates this year with the market currently giving less than a 50% chance that there will be a 25 bps cut in 2007. We remain in the camp that looks for the Fed to hold to the sidelines in 2007 with rate increases expected in 2008.

In a separate report, initial jobless claims were reported to have risen by 15,000 in the week ended May 19 to 311,000. The four-week moving average, however, continued to drift lower, coming in at 302,750 – the lowest level since February 2006.

US New home sales soar in April supported by record price decline

New homesalesjumped 16.2% in April to a seasonally adjusted annual rate of 981,000 units, clobbering the market forecast which called for essentially no change in sales. Sales in both February and March were revised upwards.  Sales averaged 850,000 units in February/March (previous average: 847,000 units).

As a result of the large sales increase, the months’ supply of inventories at current selling rates dropped to 6.5 months’ from 8.1 months’ supply in March, still above its long-term average and a hair above the average of 2006. The median price of new single family homes dropped a record 11.1% in April and undoubtedly played a major role in stimulating sales gains. 

One has to be cautious in ascribing too much optimism to today’s data as the sales gain was helped by a record price drop which will probably not repeat itself going forward.  With building permits at their lowest level since 1997 and the NAHB housing market matching a low not seen since 1991 in May, there exists evidence that the housing market correction continues. That said, the surge in new home sales comes on the heels of an unexpected gain in housing starts in April and falls in line with our view that residential construction will be less of a drag in the second quarter of 2007 after chopping an average of 1.1 percentage points off growth in the prior two quarters.  Our forecast is further supported by the MBA purchase applications index which posted gains in both March and April and is up in May.

Information contained in this report has been prepared by the Economics Department of RBC Financial Group based on information obtained from sources considered to be reliable. While every effort has been made to ensure accuracy and completeness, RBC Financial Group makes no such representation or warranty, express or implied. This report is for information purposes only and does not constitute an offer to sell or a solicitation to buy securities.

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