Is U.S. Consumer —the Last Guard Rail for Bulls—Getting Shaky?

08/29/2019 8:15 am EST


Landon Whaley

Editor, Gravitational Edge

The response by bulls to recent economic warning signs—i.e. inverted yield curve — is that that consumer sentiment remains strong. Is it, asks Landon Whaley.

While most of the world seems utterly oblivious to the Winter Fundamental Gravity engulfing the United States, the few people willing to acknowledge the growth slowing economic reality finish their thoughts with, “…but the U.S. consumer is strong.”

For those investors believing the U.S consumer will save us all, please reference the latest ISM services Purchasing Managers Index (PMI), which slowed for the seventh month in the last 10 and hit a 35-month low in July. The PMI decline was not just a headline issue; it was driven by a material slowdown across several sub-indices including new orders, current activity and export orders.

Chris Williamson, the Chief Business Economist at IHS Markit, said in the report, “An improvement in the overall rate of business growth signaled by the services PMI for July is welcome news, but the overall weak pace of expansion remains a concern. The PMIs for manufacturing and services collectively point to GDP expanding at an annualized rate of under 2% in July, below that seen in the second quarter and among the weakest seen over the past three years. A sharp drop in future expectations meanwhile suggests downside risks have increased in the near-term at least, hinting that the upturn in growth seen in July could prove short-lived and that GDP growth could remain disappointingly modest in the third quarter.”

My translation is “its Winter, and the worst is yet to come.”

For those of you who care more about the micro than the macro, S&P 500 earnings are confirming the straight jacket consumers are wearing. There have been 51 (of 60) earnings announcements from consumer discretionary companies in the S&P 500, and the aggregated earnings growth is registering a contraction-worthy -1.3%. The consumer staples sector doesn’t look much better with 26 (of 32) companies having reported aggregate earnings growth of -1.3%, also outright contraction.

And while service sector activity is “catching down” to the deterioration in the manufacturing sector, consumer debt is eclipsing previous highs.

During June, the total amount of student debt and auto loans minted brand new all-time highs. Student loans increased $6.8 billion during Q2 to a new record high of $1.6 trillion in total student liabilities. At the same time, consumers tacked on an additional $8.4 billion worth of auto loans in Q2, to drive the total amount of auto debt to a new all-time high of $1.2 trillion. Keep in mind this is all happening late-cycle as the labor market starts to weaken as evidenced by the -1.5% contraction in July’s nonfarm payroll growth.

The final nail in the “consumer is strong” narrative comes in the middle of next month. The August retail sales report (released on Sept. 13) has to compare against a cyclical peak growth rate of 6.2% from August 2018. I’m not Miss Cleo or Nostradamus, but the math tells us retail sales growth will slow dramatically, in annual terms.

The headline risk bottom line is that the U.S. economy is not strong, and neither is the U.S. consumer. We will continue to opportunistically attack the short side of U.S. retailers in conjunction with our Retail-iation macro theme until one of those two economic realities begins to improve. 

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