Developing Slowly

Telemus Weekly Market Review February 6th - February 10th, 2023

Those of a certain age will remember the original instant camera, the Polaroid. Polaroids were novel in their day as one would slowly watch the picture develop over the course of a few minutes. When you first start to see color, its hazy, but gradually the picture becomes clearer, and colors start to solidify. Given the one-of-a-kind nature of current economic backdrop, the current state of the economy reminds us of a Polaroid picture being developed. 

Many of the economic readings that have been released over the past two months would indicate a slowing economy. The one bright spot has been the consumer who has benefited from the high level of savings that were amassed during the pandemic and very low levels of unemployment. We’ve begun to see signs that patterns of consumer spending may be changing and believe the picture on the progression of the economy will continue to develop and solidify in the months ahead. 

This coming week January data on inflation and consumer spending will be released. What we see on the consumer front is that the drivers of continued consumer spending are running out. The personal savings rate sits at 3.4%. That is up from 2.4% back in September but remains well behind pre-COVID averages that consistently hovered in the 7-8% range. In its 2002 publication How America Saves, Vanguard suggested the average 401k contribution rate was 7.3%¹. Since 401k contributions count toward the savings rate, a savings rate below the 401k contribution level would indicate the average consumer is dipping into their savings to make ends meet. That is feasible in a post-pandemic economy given there was $2.1 trillion of excess savings stockpiled during the pandemic due to the combination of less spending and government stimulus payments. The level of excess savings has now declined to roughly $1 trillion and some project those savings could be eliminated by some point this spring. Thus, what we see today, may not clearly represent what we see down the line. 

There are, however, some positive influences on the horizon. Some of the inflationary factors that impacted spending over the past two years are easing. Natural gas prices are down approximately 65% over the past two months. Gasoline prices have moderated. Even some food items such as flour and bacon have seen some price concessions. These will ease budgets on some consumers. Moreover, higher wages, which are up close to 5%, could help to improve savings rates without forcing much of a sacrifice in consumption. 

We have to consider how the drivers of the economy are going to evolve in 2023 and recognize there a number of variables (inflation, federal debt ceiling, federal reserve, quantitative tightening, geopolitical considerations) that will influence how the picture ultimately fills out. As this comes into view its clear to us that consumer spending will ultimately have to slow. We can’t continue to outspend incomes into perpetuity. We’ve already started to see larger ticket price items such as appliances and furniture see a deceleration in demand. Slower consumption will lead to some right sizing of inventories, as retailers order less. This will flow through, if it hasn’t already, to the manufacturing sector as orders decline. As this right sizes, demand will eventually return and we’ll see the economy pick up some steam. It’s the natural order of the economic cycle. 

Regardless of whether this economic transition results in a softer or harder landing, we don’t expect the longer-term picture to be all that different. A softer landing could mean a better 2023 than expected, but then 2024 may not get the economic rebound that we would expect it if were a harder landing. Conversely, a more severe pullback in 2023 would likely mean a stronger recovery in 2024.Thus, we believe if you put the next two years of economic growth together, the outcome will likely be consistent. 

Today digital technology allows us a level of instant gratification where we can see an image immediately after a picture is taken. However, with markets and the economy that instantaneous look may not provide the perspective that one gets waiting for the bigger picture to develop. These are unique times and unique markets. Being patient and realizing the look of the picture will change as it develops is the approach we believe it prudent to take. 

¹ https://institutional.vanguard.com/content/dam/inst/vanguard-has/insights-pdfs/22_TL_HAS_FullReport_2022.pdf

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