Recently, Brian Wesbury released his latest piece of economic commentary that paints a rather optimistic spin on the economy entitled “Be Confident In The Economic Recovery” In the report Brian states: “Two prominent measures of consumer confidence dropped unexpectedly in recent weeks. This provided plenty of fodder to those who still think the US economy is teetering on the brink of a long awaited double-dip. But when it comes to the consumer confidence data, the only thing we’re confident about is that confidence doesn’t matter. Not one bit.
There is no consistency between what consumers are actually doing and how they tell pollsters they feel. They may talk the talk, but they aren’t walking the walk. While saying they lack confidence, consumers are buying vehicles at a relatively rapid rate. Auto and light truck sales jumped to a 14.2 million annual rate in January, the fastest pace since early 2008, even beating August 2009, which was the sales peak for cash-for-clunkers. At the same time, chain-store retail sales were up 4.8% from a year ago, and that only includes sales at stores open more than twelve months.”
Note: If you haven’t read my point-counterpoint report “Pollyanna Meets The Economy” on his general economic outlook for the U.S. – it is a good primer for today’s analysis.
It took me a little time to wrap my head around what Brian had written. Really? All you have to do is pull a chart of Consumer Confidence overlaid against automobile sales, and retail sales in general for that matter, and the result is quite telling. Voila! Consumer confidence DOES MATTER. Then again why shouldn’t it? If a consumer is financially strained, unemployed or worried about unemployment or just worried about the economy in general they are going to be more reticent about spending and more frugal about where they do spend. Just take a look at the chart of where consumers are spending their money. Does the sharp rise in “used” merchandise versus buying at the department store really look like a resurgence of the economy to you?
So, despite the bullish spin, the reality is that automobile sales still remain well below the levels seen even during 2001. Massive incentives, discounts, low cost financing, etc. have only had modest effects at this point bringing annualized auto sales from just over 9 million units during the recession to 14 million today. However, the real issue is how many of those cars are actually being sold? We hear GM boasting of stronger sales and profits which is great considering that the taxpayer would like to be paid back someday for the billions in bailout money GM received. We see GM moving units to the dealer channel, as per the chart provided by my friend Tyler Durden at Zero Hedge, however, we are not seeing the transition from the dealer to the consumer. The last time we saw such an anomaly was just prior to the last recession in 2007.
Let’s look at it this way. If GM’s report of auto sales was a representation of what was moving ALL the way through the product line to the consumer – then we should see a corresponding new high in vehicle sales by auto dealers to the retail consumer. Alas, that is not the case. There has definitely been improvement from the recessionary lows which is a good thing considering the amount of various bailout packages thrown at the economy, however, we are a long way from returning to the normal trend of auto sales even as replacement needs kick in. Furthermore, a big chunk of the bounce at the end of last year came from the purchase of work vehicles by companies to take advantage of the 100% tax credit that was expiring. Even though it is currently in Obama’s new budget to be extended the reality is that 2012 sales were drug forward into 2011. Hence the 1.1% drop in vehicle sales in January.
Brian is right about one point. Consumers are at peaks in optimism at economic peaks and vice versa. That is human nature. However, the important point here is that saying consumer confidence doesn’t matter relative to the economic recovery is patently false. The consumer, which makes up 70% of GDP currently is a huge driver of the economy. When surveying the landscape it is critical that the economic analysis of one data point aligns with an acute assessment of the bigger picture.
For example Brian stated: “The bottom-line is that the US equity market is at least 35% undervalued. And when we survey the entire investment landscape it is clear the equity market is the only broad market category where significant future gains can be reasonably expected. Equities are the most undervalued asset class.” The problem was that the assessment is that it was detached from the underlying trends of the data and the financial risks that prevailed at the time. Investors following that advice would have bought into the markets in July of 2008. I don’t need to remind you what came next.
As investors we need to do away with the ideas of being “bullish” or “bearish”. We need to understand the trends of the data and predict future outcomes based on the probabilities assigned by the data. Economic forecasts are generally useless to most investors as the time horizon required for economic predictions to come to fruition is generally far longer than most investors short term horizons.
For example, the ECRI said in October of 2011 that we were already in or will be in a recession, however, it would take a year to determine whether that was the case. Almost every week since then there has been an article written criticizing the ECRI’s call. The exercise is irrelevant. Sooner or later the economy will go into a recession – it is just part of the economic cycle.
However, as investors, we cannot let long term economic cycle analysis keep us from investing in the markets when the trends are positive as they are today. Investing and economics make very poor bedfellows. However, as investors we must manage our portfolio allocations accordingly with an eye on the overall economic data as, sooner or later, the two will converge. It is not uncommon for stock market prices to remain detached from economic fundamentals for far longer than most investors can imagine. This detachment leads to complacency, however, the excesses created in one direction will reversed into excesses in the other. Unfortunately, most investors get sucked in or out at the peaks and troughs of these moves as “greed” and “fear” overtake logic and analysis.
Pay attention to the trends of data and of the market independently. Set aside overly bullish commentary as it has historically been bad for your investment health in the long term.