U.S. Economy: Light at the End of the Tunnel?

U.S. Economy: Light at the End of the Tunnel?So far stocks have performed well in January, as optimism surrounding the U.S. economy rises and traders look beyond the issues in the eurozone.

We are seeing positive signs in jobs growth, consumer confidence, and the housing market, which were the key variables absent in 2011 and may be enough to drive stocks higher this year.

The housing market is clearly better than it was when the sub-prime mortgage fiasco led to a downfall in the U.S. economy and sent the unemployment rate spiraling higher.

In November, housing starts came in at the seasonally adjusted annual rate of 685,000 units, according to the Commerce Department. The reading was the highest since April 2010, but still well below the monthly one million plus housing starts considered healthy for a housing market. Building permits of 681,000 in November were also ahead of estimates; but, again, the number is far below what is widely deemed to be a healthy housing market.

What the readings offer is some hope of better readings to come, albeit, as I said, we also need to see a concurrent strengthening in job creation to drive a strong housing market. With strong jobs growth, consumers become more confident in buying homes and big-ticket items. In December, consumer confidence rose to 64.5, well above estimates and encouraging, but we need to see the reading approach the 90 level for a major impact.

The creation of jobs will help drive confidence and the housing market. In December, there were 212,000 jobs created and a surprise decline in the unemployment rate to 8.5%. This is positive, but we need to see the monthly job creation rise towards 500,000. The reality is that there are still over 13 million Americans pounding the pavement searching for work and hope. The high unemployment rate is expected to remain high at over eight percent this year in spite of the extended tax cuts to drive consumer spending and economic renewal.

The key Durable Goods Orders grew at a healthy 3.8% in November, well above the 0.5% decline in October. This metric is important, as it reflects the spending on non-essential big-ticket items, which indicates a rise in the confidence to buy.

A strong housing market is critical for the retail sector, as homeowners will tend to buy new furnishings, including many big-ticket items. Foreclosures have largely driven home sales and price declines across the nation, but there’s some hope. In 2011, the number of foreclosures and repossessions declined by 33% to 2.7 million, according to RealtyTrac. These are the lowest readings since 2007.

While there is much work ahead, the domestic economy appears to be on the right path.

Jobs, confidence, and a stronger housing market are needed to drive spending in the retail sector. Only under this scenario will there be sustained spending and economic growth.

Small-cap stocks are up nearly four percent in the first two weeks of January. If the economy continues to improve, we could see nice gains this year. I discussed why you need to be in small-caps in Small-cap Stocks—Drop Them or Keep Them in 2012?