The importance of the US consumer for further market appreciation is a key belief of ours, and a significant driver of the US economy. With the fallout from the COVID-19 pandemic starting to stabilize stabilizing it’s important to watch unemployment and consumer sentiment trends closely, as we believe these indicators can provide insight into the persistence of this rally. Recent data suggests consumer spending has rebounded above pre-COVID levels, and yet unemployment trends remain stubbornly high. Furthermore, with the expiration of the COVID unemployment stimulus, we see potential headwinds to further consumer spending acceleration. Looking ahead stabilization in unemployment will be important for driving further consumer sentiment improvement, which should in turn propel spending, and thus support the economy.
A Brief Background: The US Consumer is 70% Of Our Economy
To give context around the importance of the US consumer to the economy, the US consumer represents the largest single component of US GDP. In 2019 consumer spending represented 70% of US GDP – the next closest component being Private Investment at 18%. Therefore, when consumer spending falls it ripples through the economy, as even a pick-up in manufacturing and business activity are typically unable to offset more than a slight decline in consumer activity. Ultimately, a strong US consumer is essential to drive economic activity and avoid recessions.
After an Abrupt Decline During The COVID Shutdown, Spending Activity Has Rebounded Sharply
Advance consumer spending data from August suggests consumer spending activity has not only rebounded from COVID lows, but has surpassed pre-COVID levels of spending. The rebound is likely a combination of pent-up demand from social distancing and quarantine restrictions, and the massive monetary and fiscal stimulus, including extended unemployment benefits and individual stimulus checks.
As such, while 3Q20 GDP data is likely to reflect the strong recovery in consumer activity, we think the expiration of extended unemployment benefits in July could be a headwind to future spending improvement. The worst may be behind us, but sustainability of this level of spending remains to be seen.
Note: It is worth pointing out that the data above excludes gasoline purchases. Incorporating those the data is slightly weaker, but still represents a significant recovery.
Lingering Unemployment
Further compounding potential headwinds from the removal of unemployment benefits are unemployment trends which remains stubbornly high. Initial claims data suggests that while the worst is behind us, there is still a steep road to recovery with average weekly claims totaling ~1mn (Prior to COVID average weekly claims were ~215,000). Improvement appears to have somewhat plateaued, and with the PPP loan “furlough window” closing soon the future is less certain.
However, despite the potential headwinds we still continue to believe that the significant fiscal and monetary stimulus packages, along with the White House’s executive order to partially re-instate extended benefits, should help to limit the downside case of rising unemployment.
In addition, on-going declines in Continuing Claims suggest more workers are being called back to work, or finding new employment
Ultimately employment trends remain a problem. While fiscal and monetary stimulus has been able to “suspend” unemployment, it can only hold it for so long. Persistent unemployment trend reductions (and stabilization at lower levels) will require a rebound in consumer activity across all activities, especially leisure activities (e.g. in-person dining, entertainment, etc.). And for that to happen, consumers must feel safe going out in public, and be willing to spend.
Putting it together
Markets are more tied to expectations for the future than historical data points.
So far we’ve seen consumer activity rebound from the global pandemic slowdown as fast as it dropped. Markets have rewarded the improvement and made new highs, even as unemployment improvement trends slowed.
We think consumer spending activity can remain strong, although a near-term decline is also likely. If COVID-19 treatment progress persists we think consumer activity will continue to improve, especially around in-person activities, and drive more employment. However, should COVID-19 cases continue to rise, government stimulus go away (again), and temporary work lay-offs / furloughs become permanent, spending declines may become more pronounced. If this happens, clarity into future economic activity and trends becomes less certain.
ENDNOTES
Disclosures
This material is not intended to be a recommendation or investment advice, does not constitute a solicitation to buy, sell or hold a security or an investment strategy, and is not provided in a fiduciary capacity. The information provided does not take into account the specific objectives or circumstances of any particular investor, or suggest any specific course of action. Investment decisions should be made based on an investor’s objectives and circumstances and in consultation with his or her advisors.
The views and opinions expressed are for informational and educational purposes only as of the date of production/writing and may change without notice at any time based on numerous factors, such as market or other conditions, legal and regulatory developments, additional risks and uncertainties and may not come to pass. This material may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections, forecasts, estimates of market returns, and proposed or expected portfolio composition. Any changes to assumptions that may have been made in preparing this material could have a material impact on the information presented herein by way of example. Past performance is no guarantee of future results. Investing involves risk; principal loss is possible.
All information has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such.
A word on risk
All investments carry a certain degree of risk, including possible loss of principal, and there is no assurance that an investment will provide positive performance over any period of time. Equity investments are subject to market risk or the risk that stocks will decline in response to such factors as adverse company news or industry developments or a general economic decline. Debt or fixed income securities are subject to market risk, credit risk, interest rate risk, call risk, tax risk, political and economic risk, and income risk. As interest rates rise, bond prices fall. Non-U.S. investments involve risks such as currency fluctuation, political and economic instability, lack of liquidity and differing legal and accounting standards. These risks are magnified in emerging markets. This report should not be regarded by the recipients as a substitute for the exercise of their own judgment. It is important to review your investment objectives, risk tolerance and liquidity needs before choosing an investment style or manager.