US GDP surprises on the upside as luxury basks in the sunshine
The US GDP report for the final quarter of 2022, showed that the US economy grew at a better-than-expected annual rate of 2.9%. This was a slowdown from the 3.2% recorded in Q3 22, however, it was better than the 2.8% expected by economists. The US growth rate may have slowed sharply, down from a 5.7% annual growth rate in 2021, however, the US economy is still growing at a faster rate than it did in 2019, before the pandemic. This is noteworthy considering the US economy had to contest with rising interest rates and double-digit inflation last year. Consumer spending rose by a decent 2.1% in Q4, while business and government spending also rose at a decent clip. However, there are clouds on the horizon, even if it looks like the global economy will avoid any storms in 2023.
Headwinds look like they will be unavoidable, due to the lag from a jump in interest rates, along with consumers cutting back and weaker overseas economies another problem for the US to deal with. This was reflected in exports being a drag on growth in Q4 22, and this may continue into the first half of 2023. Added to this, residential investment fell, as single-family home construction moved into negative territory, suggesting that higher interest rates, leading to higher mortgage rates, are causing havoc with the housing sector. There is still a decent chance of a recession in the US in the first half of this year, as there are signs that the all-important US consumer is under threat. Retail sales fell sharply in December, and the American household savings rate is also falling. The personal savings rate rose by 2.9% of in Q4, compared with 2.7% in Q3. While an increase in the savings rate is welcomed, it is still extremely low, so it looks like the pot of cash householders built up in recent years is being rapidly spent.
Headwinds for the US consumer
The trajectory of the US economy will depend on the fate of the consumer, however, are consumers starting to stumble? It is worth noting that the PCE price index included in the Q4 GDP report showed that the Fed’s preferred measure of inflation increased by 3.2% in Q4, down from 4.8% in Q3. While this is good news for consumers, the core price index is now higher than then headline PCE rate, rising at a 3.9% annual rate. However, the core rate has fallen from the 4.7% rate in Q3, and although the Fed will have a tough job bringing down core inflation to the 2% target rate, it is moving in the right direction.
The outlook for the consumer
Inflation remains a threat to the consumer as we move through the start of 2023. If we see weaker retail sales in January, that could send a shiver of worry down the spines of investors. However, the main factor that has assuaged concern about the US consumer is the strong labour market, and there was more good news on this on Thursday, when initial jobless claims for last week fell. Added to this, Walmart, one of the US’s largest employers, said that it would hike entry level hourly wages to $14 from $12 per hour, amid a tight jobs market for front line workers. However, Dow, the manufacturer 3M and SAP SA all announced fresh layoffs this week. This is noteworthy since it suggests that companies outside of big tech are also considering the size of their workforces. The fact that these companies did not go on massive hiring sprees during the pandemic, suggests that they are laying off staff because of the economic cycle and not to cut the fat. Thus, there are signs that we are getting close to peak employment.
The end of hoarding labour?
The good news for traders is that if firms are starting to withdraw from hoarding labour it could mean two things: 1, corporate operating margins could be protected or even improved during the coming months, and 2, it may reduce upside pressure on overall inflation in the coming months, which would help the Federal Reserve as it deliberates when to pause hiking interest rates, and even when to start cutting rates.
Corks could pop as luxury in focus
In Europe, all eyes were on earnings reports, and the luxury sector. LVMH shares were up 1.14% ahead of their full year earnings report for 2022. Its stock price has surged by 18% in recent weeks as the European luxury sector has reacted to news that China had finally dropped its zero covid policy. The market is expecting EPS of EUR 15.39, with revenues expected to come in at EUR 22.7BN, higher than the EUR 19.14bn reported in Q3, and the EUR 17.62bn reported for Q2 2022. The uplift from China’s reopening is worth watching, will all that excess forced saving in the world’s second largest economy lead to a protracted period of “revenge spending”, like we saw in the West? Investors are anticipating a decent uplift, with shares in Hermes and Burberry all hitting record highs on Thursday. Not only is luxury a post-covid winner, when it was able to widen its net and attract a wider customer base, but its core client base is also more resilient to rising interest rates, rising inflation and an economic downturn. Thus, luxury appears to be a winner for the long term. LVMH, with its wide range of brands could prove irresistible for investors, and we would see LVMH’s share price clear the EUR 800 hurdle after tonight’s earnings report, especially if it beats expectations and paints a bright picture for the future.
Can luxury boost the retail sector?
It will be worth watching whether the enthusiasm for luxury brands spreads to the retail stocks in the coming months, as the market looks to a future where economic growth is brighter and interest rates are getting cut. UK retailers largely performed well in Q4, and we saw large positive reactions to positive earnings’ surprises. For example, ASOS, Next, JD Sports, Shoe Zone and Card Factory all saw large gains in their share prices after their Q4 trading updates. The consumer has beat expectations for Christmas spending, however, we will watch the retail sector in the coming weeks to see if 1, enthusiasm for luxury spreads to the lower end of the retail market and 2, if the consumer overspent over the festive period and needs to pullback in Q1.
Overall, all eyes are on next week’s Fed meeting as we move to the end of the week, and we expect this to keep markets relatively quiet as we finish the week.