Holiday spending slows
Consumers are showing restraint amid still-high inflation.
Bottom line
It’s been an extraordinary week for investors. On Tuesday, we learned that the Consumer Price Index has likely peaked from four-decade highs. On Wednesday, the Federal Reserve downshifted its pace of rate hikes while simultaneously raising projections for the terminal fed funds rate next year. On Thursday, the Commerce Department released a weaker-than-expected November retail-sales report. Consumers appear to be tightening purse strings due to high inflation, rising interest rates and growing recession fears.
The S&P 500 has surged 17.5% over the past two months, but stocks have plunged since Tuesday. They could retrace their mid-October lows in coming months. Benchmark 10-year Treasury yields have fallen from 4.25% in mid-October to around 3.45% today, while 2-year Treasury yields have dropped from nearly 4.75% in early November to around 4.20%. That 75 basis-point inversion (roughly a 40-year high) reflects the bond market’s fears of a recession within the next two years.
Inflation remains too high While inflation probably crested earlier this year, it remains elevated and is unlikely to hit the Fed’s 2% target before year-end 2024.
- Consumer Price Index (CPI) Headline retail inflation hit a 41-year high of 9.1% year-over-year (y/y) in June 2022 but declined to 7.1% in November. Core (ex food and energy) reached a 40-year high of 6.6% y/y in September but fell to 6% in November.
- Producer Price Index (PPI) Headline wholesale inflation touched a record high of 11.7% y/y in March 2022 but dropped to 7.4% in November. Core (ex food and energy) reached a record high of 9.7% y/y in March 2022 but declined to 6.2% in November.
- Personal Consumption Expenditures (PCE) index The Fed’s preferred measure of inflation rose to a nominal 41-year high of 7% y/y in June 2022 but declined to 6% in October. Core (ex food and energy) hit a 39-year high of 5.4% y/y in February 2022 but fell to 5% in October.
Looking through this week’s improved retail inflation figures, the hard truth is that wages, food prices and shelter costs remain elevated. Energy prices have declined sharply, as WTI plunged from $120 per barrel last June to $70 this month. But we expect crude oil prices to roundtrip over the course of next year.
Fed downshifts but stays vigilant Yesterday, at its last policy-setting meeting of the year, the Fed slowed the pace of its rate hikes to a half-point increase (after four consecutive 75-basis point increases), which takes the fed funds range up to a 15-year high of 4.25-4.50%. Importantly, in its updated Summary of Economic Projections (SEP), policymakers raised their projections for a terminal rate to a peak level of 5-5.25% by mid-2023. This indicates that after a pause, they plan to hold rates in that range until 2024. They also expect GDP growth to decelerate to 0.5% and the unemployment rate to rise to 4.6% next year.
November retail sales weaker than expected Despite Black Friday and Cyber Monday activity, nominal retail sales in November fell by the most in nearly a year, actually contracting (-0.6% month-over-month, or m/m). Expectations were for -0.2%, compared to October’s 1.3% increase. “Control” results (which strip out sales of autos, gasoline, building materials and food service and feed directly into the quarterly GDP report) also contracted (-0.2% m/m in November). Expectations were for a slight gain of 0.1% compared with a 0.5% increase in October.
Muted holiday spending With the first two of the critically important four-month (October through January) holiday shopping season in the bank, Christmas spending is up in October and November combined by 7.5% y/y. That’s less than half the strong 16.4% y/y growth we enjoyed during Christmas 2021, although still well above the average 4.2% y/y growth in holiday sales over the previous 10 years (within a range of 2.2% to 6.6%).
This year so far is in line with the National Retail Federation, an industry trade group, which sees 6-8% sales growth during November and December, and the accounting firm Deloitte, which projects 4-6% sales growth from November through January.
Sector results down across the board Department store sales slipped 2.9% m/m, autos declined 2.3%, electronics dropped 1.5% and e-commerce results fell 0.9%. Mortgage rates have more than doubled this year from 3% to more than 7%. That’s pressuring housing-related retail categories such as furniture and building materials, which contracted by 2.6% and 2.5%, respectively. In sharp contrast, retail sales at restaurants and bars rose 0.9% m/m in November, as the consumer shift from goods to services continues, energized by continued demand for revenge travel.
Back-to-School (BTS) sales confirm softer holiday spending Christmas historically tends to be 80-90% positively correlated with BTS results, excluding any weather-related issues. For the four months from June through September 2022, BTS rose a solid 9.2% y/y. To be sure, that’s well below the powerful 16.3% y/y surge achieved during the 2021 BTS season, but it’s well above the average 3.7% BTS gain over the previous five years.
Promotional Christmas pressures profit margins Industry bellwethers like Target have a glut of unwanted inventory that they are discounting heavily to clear its aisles, and price-conscious holiday shoppers are also pinching pennies by trading down from national brands to less expensive store brands. Profit margins likely will be slimmer this holiday season.
Many consumers are stressed The personal savings rate has plummeted from 26.3% in March 2021 to 2.3% in October 2022, its lowest level since 2.1% in July 2005 (which was the lowest rate since record-keeping began in 1959). Excess savings have fallen 26% over the last year, from $2.3 trillion to $1.7 trillion. But Americans in the bottom half of household income account for only about 20% of that total, at $350 billion. As a result, credit card usage has surged more than 18% over the past year, with delinquencies rising 1.8%
Poor Christmas tree sales Since 2003, Evercore ISI has been gathering data from 24 regional Christmas tree associations, farmers and retailers in the U.S. and Canada during each of the four or five weeks in between Thanksgiving and Christmas, to gauge the relative strength or weakness of the sale of Christmas trees, wreaths, and garland. If consumer confidence is high and the economy is strong, people usually spend more money on holiday decorations, in addition to their gifts, food and beverages and travel. Three weeks into the current holiday season, ISI’s annual Christmas tree unit sales survey has posted a modest 4.7% y/y sales gain. That’s 40% below the average 7.8% gain recorded in the first three weeks of the survey over the past two decades, confirming a disappointing holiday season.