investment insights

    US shoppers are still at the wheel of the world economy

    US shoppers are still at the wheel of the world economy
    Samy Chaar - Chief Economist and CIO Switzerland

    Samy Chaar

    Chief Economist and CIO Switzerland
    Gosia Eggimann - Senior Equity Research Analyst, Consumer Sectors

    Gosia Eggimann

    Senior Equity Research Analyst, Consumer Sectors

    Key takeaways

    • US consumption has remained solid, thanks to low unemployment, rising wages and excess savings. These factors are now under pressure
    • The Federal Reserve will maintain its ‘peak and plateau’ strategy at least through the first half of 2024, we believe. The question is when already high interest rates will impact consumer demand
    • We expect corporate margins in consumer staples to start to recover in the second half of 2023 as firms keep passing on price rises. However, firms report signs that a post-Covid buying spree for discretionary goods is coming to an end
    • We continue to overweight the US consumer staples sector in our multi-asset portfolios. Stock valuations remain attractive and in a slowing economy we like their defensive qualities.

    Buoyed by pandemic savings and wages rising faster than inflation, American shoppers have kept spending.  At the end of the US summer, macroeconomic indicators and corporate narratives point to the spending trend continuing. With China and the eurozone slowing, we take a deeper look at the astonishing resilience of the US consumer, on whom the global economy’s fortunes depend.

    If the US is the motor of the global economy, the American shopper is at the wheel. As the ‘back-to-school’ period begins in America, a traditional time of discounts and promotions, companies supplying consumer staples say they are confident about the quarters ahead. At an industry conference in Boston in early September, we heard firms report that spending is slowing, but remains resilient, supported by wage growth that continues to outpace inflation. The question is how long that resilience can last.

    The question matters because the US consumer is key not just to the American, but to the global economy. The US represents around one-quarter of global output and an estimated 70% of US gross domestic product (GDP) is made up of consumer spending. Where does this resilience come from? Three macroeconomic factors have supported US spending since the pandemic: excess savings and willingness to use them to fund consumption, a strong labour market, and wages that, until now, have accelerated faster than inflation.

    Three macroeconomic factors have supported US spending since the pandemic: excess savings and willingness to use them to fund consumption, a strong labour market, and wages that, until now, have accelerated faster than inflation

    These factors are now under pressure. The personal savings rate as a share of disposable income declined to 3.5% in July, its lowest level since 2008, from 4.7% in May. The ‘excess’ savings accumulated through Covid now look more or less exhausted, and once adjusted for inflation, incomes have slowed and the latest payment card data indicates that credit card delinquencies are rising. The US economy also added 187,000 new jobs in July, a slight improvement on June, but also the lowest reading since December 2020 during Covid’s significant disruptions. To put that in context, on a three-month average, payroll growth is now lower than 2019’s average pace, and unemployment increased to 3.8% in July, also an 18-month high, adding to pressures on spending.

    Back to 2019

    Some of this weakness may be temporary, reflecting factors such as the Hollywood actors’ strike, or the bankruptcy of Yellow Corp’s 34,000 truckers and warehouse employees. Still, a fall in employment growth extends well beyond such industries. While the US job market remains on solid footing, demand for workers is falling at the same time as more people join the workforce. That is one factor allowing inflation to continue cooling and adds to evidence that the US labour market is returning to its 2019 norms.

    This in turn supports our expectation that the Federal Reserve will continue with its ‘peak and plateau’ interest rate cycle, pausing on 20 September, and then keep its benchmark unchanged at least through the first half of 2024. Monetary policy is now highly dependent on consumer spending and its implications for inflation.

    Any changes to spending patterns look gradual

    The resilience of the US consumer has surprised investors, and so far, any changes to spending patterns look gradual. Retail sales rose by 3.1% in the second quarter compared with a year earlier, according to the National Retail Federation. Consumption data remained strong in July, helped a little by a rise in energy use as a heatwave boosted demand for air conditioning.

    Sound margins for staple goods

    At the corporate level, companies did not report a sudden shift in consumer demand for staple items including food, soft drinks, alcohol, cosmetics and household products in the second quarter of 2023. Indeed, they often reported double-digit revenue growth, driven by higher pricing – since volumes have fallen slightly. Overall, we expect corporate margins in the consumer staples sector to start to recover in the second half of 2023 thanks to this apparent continuing ability to pass on higher prices, improvements to product lines and the diminishing impact of high commodity prices on their cost base.

    Nevertheless, there are some signs of slowing. Firms have said that customers’ purchases are now returning to a more normal pattern in the wake of a post-Covid buying spree. This is visible even at the luxury end of the discretionary consumer market. However, many US companies remain confident that even if sales volumes dip further, margins should stay solid, or even increase, offset by ongoing price rises that shoppers seem prepared to shoulder.

    Consumer staples remain one of our preferred equity sectors

    In the short run, promotions and destocking during the ‘back-to-school’ season are also maintaining spending at high levels. In October, the resumption of student loan repayments poses a risk to this picture. An estimated 46 million people hold student debt in the US, with around USD 217 billion in repayments due annually. This has the potential to reduce spending growth by the end of 2023, potentially removing as much 0.2% from the US’s real GDP growth in the last quarter of 2023, if phased out in full.

    Given the continuing resilience of the American consumer, we maintain some exposure. Selectivity is important however as there are early signs of weakness, especially among lower-income consumers, debt-funded spending and aspirational discretionary buying. Staples remain our preferred consumer sector amid strong pricing power, the potential for margins to recover, as well as attractive valuations. The earnings power of these firms offer defensive qualities that may provide a cushion against an economic slowdown.

    Important information

    This is a marketing communication issued by Bank Lombard Odier & Co Ltd (hereinafter “Lombard Odier”).
    It is not intended for distribution, publication, or use in any jurisdiction where such distribution, publication, or use would be unlawful, nor is it aimed at any person or entity to whom it would be unlawful to address such a marketing communication.
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