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Today's Market WrapUp 11.23.2007 Mon Tue Wed Thu Fri Pretti Archive A Lump Of Coal?
As we approach the holidays, there is no question that all eyes will be on retail sales stats. Already, retail industry consultants and assorted fortune tellers are counseling those who listen not to expect fireworks, but rather a moderate 4% year over year increase. C’mon, let’s face it, that kind of a number isn’t even keeping up with the reality of inflation. So are we to expect a lump of coal this holiday season from the up until now indefatigable US consumer? To be honest, a lump of coal may no longer be a bad thing given global energy dynamics. Although holiday sales may be a temporary perceptual marker, the importance of watching retail trends ahead goes far beyond holiday seasonality. If you don’t mind, a few thoughts and observations of the moment. First, I’ve been arguing for some time that watching the discretionary components of the retail sales numbers is the current analytical key. A consumer under pressure is going to back off on discretionary purchases first. A Starbucks vente latte anyone? Well at least according to Starbucks stock price, apparently not. As you know, the October retail sales report recently hit the Street. Outside of auto and gas sales during October, only building materials, food and beverage stores, and food services and drinking places showed any month over month strength. Let's face it, building materials sales have been beaten into the ground over the past year plus. A one-month up tick is meaningless until a firm and longer-term change in trend is firmly established, and I’m not holding my breath here. Food sales strength in both grocery stores and restaurants? Certainly a good bit of this is plain old inflation in food prices, plus the grocery store end is really not discretionary. The PPI and CPI are corroborating the food price inflation picture (this is going to be a longer term theme of importance). Furniture and home furnishings showed us negative month over month sales growth. General merchandise was negative, and electronics, appliance, and clothing sales flat. When looking back over the past three months, weakness in discretionary retail sales growth is clearly evident. It stands out like a sore thumb. And it's telling us an important story regarding the US consumer. And at least as of the recent action in the financial markets, it appears the equity markets are starting to listen to what we are already seeing in retail trends. It’s absolutely clear in the chart below that on a year over year rate of change basis, non-auto and gasoline retail sales growth peaked in early 2006. From there the trend in rate of change is self-evident. And remember, what you see below has actually been supported in part by strong food related sales (food related inflation). Message being? Discretionary retail sales growth is suffering and in a rate of change decline.
Yes, holiday retail sales will be something to monitor, but not myopically. I suggest having a much broader view and incorporating corroborating factors is in order as we prepare to position our portfolios for macro trends that will play out in the New Year. And in that spirit, I want to have a very quick look at anecdotes of corporate capital spending strength revealing themselves to us in what is a bit of current harmony of message. Why is this important? Let me first start with a tangential story about a ghost from Christmas past. We all remember that in 1999, there was a fair amount of scare mongering regarding the potential for a cataclysmic Y2K outcome. In deference to that fear, many a corporation far and wide accelerated their capital spending activities significantly, especially related to tech equipment. In essence, meaningful tech spending was pulled forward from future years into a burst of capital spending strength in 1999. When the world did not oblige the darkest of Y2K adherents by coming to an abrupt end, we were treated to the next best thing – a tech related corporate capital spending bust that ultimately pulled the US economy into a mild recession in 2001. So now let’s fast-forward to Christmas present. We are now seeing a discernable slowing in discretionary retail sales strength, a sign of a consumer breathing in labored fashion. Could it be that the mortgage credit bubble of recent years helped pull forward discretionary consumer spending from future years into the 2005-2006 period? Much in the same manner that corporate capital spending was pulled forward into 1999? In all sincerity, I believe this is a serious consideration to ponder and monitor. The easy (credit) money is gone, and so seems to be the discretionary consumer spending strength. One very notable feature of the post Y2K environment was the fact that the US consumer at the time really helped pick up the slack left in the wake of the then corporate capital spending bust. It was no wonder the 2001 recession was one of the mildest on record, helped in a big way by the fact that the US consumer was embarking on a personal leverage acceleration extravaganza, primarily mortgage credit. So now that the mortgage credit boom has definitively subsided, the US consumer is factually showing signs of strain, and perhaps a good amount of forward consumer spending was indeed already been pulled into prior year (primarily 2005-2006) realization, will turn about be fair play? Will forward corporate capital spending strength offset a weakening US consumer sector? In relatively rapid-fire fashion, four charts follow. All are in their own way telling us a story about corporate capital spending strength both of Christmas present and plans for perhaps Christmas future. All are revealing to us a similar directional message. As of the latest reading, the year over year change in non-defense and non-aircraft capital goods new orders is negative. We’ve only spent this much time in negative territory leading up to the 2001 recession. Any further drop from here and it’s going to start looking a whole lot like 2001.
Next up are updates of two recent regional economic surveys. The future capital spending plan components of the Philly Fed and the NY Empire State surveys. Both show us history of the recent past. As of now, both are quite near their lows of the last five years.
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