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Where 2012 Is Going Right…and Wrong
01/19/2012 7:30 am EST
The US economy and markets are on their way back, but don’t expect this recovery to be a swift one, writes Robert Johnson of Morningstar StockInvestor.
I believe US growth accelerated sharply in the closing months of 2011, with fourth-quarter GDP figures expected to show an acceleration to more than 3% annualized growth, bringing full-year inflation-adjusted growth to 1.8%.
Unfortunately, a lot of special factors helped the fourth quarter, and I expect a slowing in the first quarter. Overall, I suspect growth in 2012 will be in the 2.0% to 2.5% range.
Unlike most investors, my biggest concern in 2012 is not the European situation but rather consumer incomes. Consumers outspent their incomes by a wide margin in 2011, and that can’t continue indefinitely.
Better employment data of late, a better stock market in the most recent quarter, lower inflation, and increased Social Security payments beginning in January all point to better income data in the months ahead, but it certainly isn’t a slam dunk.
There is some room for upside surprises, too. Increased auto production (some even for export), Boeing’s (BA) increased production of 787 aircraft, an improving housing market, and increased US oil production are factors that most economists, including me, are aware of but afraid to fully include in our forecasts.
Many of these factors looked like they were on the cusp of breaking out in earlier periods, only to falter, explaining everyone’s lack of enthusiasm.
Consumers Shopped ‘Til They Dropped
The best news of the month was that consumers continued to spend through the holidays. Whatever metric one picks, the performance was better than most anyone expected, despite record warm temperatures in the Midwest and Northeast damping sales of winter-related products. (Temperatures were six or seven degrees above normal in December.)
The metric that I watch most closely is weekly (and monthly) data from the International Council of Shopping Centers. A four-week average of the data showed year-over-year growth of 4.2%, at the top end of its normal range. Retail spending remained in a tight 2.5% to 4% range throughout 2011 despite a bunch of economic scares.
In recent years, holiday sales have started strong only to peter out during the closing weeks of the season. This year showed strong gains early, a weak middle period, and finally a strong close. While large discounts certainly helped, it’s not clear whether consumers got phenomenal deals or whether retailers artificially marked up prices so they could offer eye-catching discounts.
Sadly, I don’t think 5% year-over-year growth in same-store sales is the new normal, and I expect sales growth to drop back shortly. Favorable weather was a huge help in December, and we can’t count on that to last.
Likewise, having the Monday off after the holiday gave consumers in essence an extra shopping day. I also have concerns about consumer spending growth speeding ahead of income growth.
Consumer Spending Speeds Ahead of Income
While consumer spending grew in 2011, albeit at a slower rate than 2010, inflation-adjusted disposable incomes fared even worse—registering basically no growth in 2011. So where did the money come from?
It appears that consumers dipped into savings in 2011, as the overall savings rate fell to 3.6% from 5.2% in 2010. While still comfortably above the trough of 1% reached in 2005, economic growth can’t be sustained for very long on the back of a declining savings rate.
For 2012, I expect the savings rate to remain basically unchanged, essentially eliminating an important economic tailwind that the US experienced in 2011.
Nevertheless, I am hopeful that the US can achieve real personal disposable income growth of 2% or so, due to lower inflation, higher employment growth, and higher Social Security payments. That is roughly in line with projected consumption growth.
Inflation: Rough 2011, but Better News for 2012
The CPI increased by 1.4% from December 2009 to December 2010, but jumped to an estimated 3.1% in 2011, nearly killing the economic recovery. The good news is that rate has fallen dramatically at the end of 2011, and the commodity bubble appears to have lost a little bit of air.
Based on a potential recession in Europe and slowing emerging-market growth (notably China), I am forecasting that inflation will slow to a more modest 2% rate in 2012, giving US consumers a little more room to spend. Lower inflation is not a sure thing, though, as producer prices—often a precursor of consumer prices—are still relatively near their peak, and accelerated to a growth rate of 5.1% in 2011 from 3.8% for 2010.
Housing Continues to Mend, but Prices Soften
Pending home sales (homes that go under contract but have not yet closed) jumped 7.3% in November compared with October, and are now at their best level in 19 months.
This also marks the third month in a row of sequential improvement, which bodes well for the more closely watched existing home sales report. The good pending number comes on top of better existing home sales figures, homebuilders’ sentiment, and housing starts.
However, our housing analyst, Eric Landry, points out that pending November data was not as robust as the October data, especially when viewed on a year-over-year basis. My forecast is that housing starts will improve from 585,000 in 2010 and 610,000 in 2011 to a range of 700,000 to 750,000 in 2012.
Housing affordability remains at a record high, with tame prices and mortgage rates now below 4%. A stronger employment market may prove to be the catalyst that gets the housing market moving again.
Higher rents and more relaxed credit standards could also prove beneficial to the housing market in 2012. After five months of improvement, the Case-Shiller Price index fell 1.2% averaged over the three months ending in October.
After some recovery, home prices have been on a modest decline since mid-2010, and are now about 6% below that interim high. On a year-over-year basis (which I prefer over the sequential numbers), the rate of decline has been moderating; we are now about 3.4% below year-ago levels. We are still more than 30% below earlier highs reached last decade.
My belief is that tight lending standards and general attitudes toward home ownership are holding back the market more than the recent price declines, which have been quite modest set in the context of the whole housing debacle.
US Manufacturing Bounces
The ISM Purchasing Managers Survey showed its second straight improvement in December, moving to 53.9 from 52.7 in October and the 2011 low of 50.8 reached in September.
Government new orders reports and industrial production reports all seem to indicate the industrial economy is not about to fall back into the abyss, as many had feared this summer. In fact, there are signs of modest improvement.
The PMI numbers out of Europe and China were not as good. Most of those PMI readings were relatively weak, as most European Indexes remained below 50 (more people thought things were slowing than improving), though December’s readings were generally higher than November’s. China’s official government PMI crept back over 50, but an independent survey was still below 50 and did not show as much improvement as the official reading.
Overall, I believe the manufacturing sector will do just fine in 2012. However, the improvement will not be uniform. It appears that both Boeing and the auto industry—two key contributors to the sector—have large production increases penciled in for 2012.
The news outside of these two areas may not be as robust, especially those industries tied to the commodities boom or those with large European exposure.
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