Data Versus Expectations: Rounding Up a Quartet of Releases

The new year may be off and running, but we are still getting a wealth of economic data from 2023. In addition to being a reminder that all such data are backward-looking, we think the latest snippets give us a handy look at how stocks’ economic fundamentals closed out the year and where sentiment may be in early 2024. So let us take that look with four reports out Wednesday.

US Retail Sales Went Out on a High Note

We think one of the more amusing tropes in financial commentary we follow is the tendency for people writing on consumer spending to talk about the consumer or the shopper, as if there is only one. We saw a lot of this Wednesday, with headlines we noted claiming some singular American shopper was victorious over inflation and doubters last year—making US retail sales’ 0.6% m/m rise in December an exclamation point on a strong 2023.^[i] That brought the year-over-year tally to 5.6%, comfortably ahead of the US inflation rate and hinting at a decent rise in inflation-adjusted shopping.^[ii] We will get more colour on that later this month, when the far-broader and inflation-adjusted Personal Consumption Expenditures report hits the wires, but it seems to us retail sales’ beating expectations is an encouraging start.

So is the general reaction, in our view, which looks pretty early-bull-market to us.^[iii] We have seen some green shoots of optimism, but it doesn’t appear universal. On the optimistic side, commentators we follow heralded retail sales’ resilience in the face of restarted student loan payments, credited solid wage growth for restoring some purchasing power lost in 2022, and argued these tailwinds should continue. But we still saw some gripes about falling savings, which we think shows some lingering scepticism about US households’ overall financial health and spending power.

This tells us there probably isn’t a ton of upside surprise for stocks in US consumer spending from here. We suspect the positive drivers are getting pretty well known, and investors seem to have climbed above some earlier bricks in the wall of worry. But savings fears’ stubbornness shows us there are likely still some—expectations are still a bit too dim overall, in our view. A gap between expectations and reality likely remains—just a smaller gap than there was a year ago. We think this is fine for stocks, but it is important to acknowledge when good news is getting priced.

US Manufacturing Chatter Abounds

Manufacturing seemingly generates a good deal more scepticism, judging from discussions we saw in the financial press covering December’s US industrial production report. The headline results were quite pedestrian, in our view. Yes, industrial production’s 0.1% m/m rise beat expectations for a flat month but manufacturing output, which rounded up to 0.1%, missed.^[iv] Furthermore, manufacturing’s slight uptick stemmed mostly from the United Auto Workers’ strike’s resolution.^[v] Excluding motor vehicles and parts, manufacturing output fell three straight months to close the year.^[vi]

Yet here, too, we think the trends are well-known and probably priced in. Headlines we follow have groused about manufacturing for months now, and we doubt its full-year decline comes as a surprise. But through Q3 at least, its weakness wasn’t enough to pull US gross domestic product (GDP, a government-produced measure of economic output) lower, which we think speaks to manufacturing’s small slice of economic output versus services.^[vii]

Looking ahead, we think expectations are muted. Several analysts we follow interpreted the recent results as a sign US business investment is dropping, and they project more weakness as higher rates continue biting. Perhaps, but we think they miss something: Many businesses spent the past two years making cuts in anticipation of a recession (a period of contracting economic output) that never came. Our research suggests they are now pretty lean, and with broader demand still looking strong, we think they should have the firepower and incentive to eventually start turning up the dial gradually. That may not translate to a big US manufacturing resurgence, but in our view, it should be an unheralded source of economic growth this year.

US Home Builders Are Perking Up

In our view, US residential real estate is another potential tailwind, albeit a small one. It detracted from US GDP for several quarters before a small turnaround in Q3, and it seems to be gathering pace.^[viii] The latest indication: The National Association of Home Builders Housing Market Index, which rose to 44.0 from December’s 37, its second-straight monthly increase.^[ix] All three of its components—present-day sales of single-family homes, expectations for the next six months and prospective buyer traffic—rose.

Now, this is just a survey. It isn’t measuring actual sales, inventory or construction. However, we think it is a good indication that as mortgage rates ease, the housing market is starting to defrost.^[x] More buyers are joining the fray, and more homeowners are probably starting to find it worthwhile to sell. Yet supply is likely still on the tight side, as many homeowners who locked in low rates have strong financial incentives to stay put, since a new mortgage now would likely be much more costly due to interest rates’ rise (in America, most mortgages are fixed-rate).^[xi] In our view, that should be plenty of incentive for builders to get cracking on new construction. That likely augurs well for real estate’s GDP contribution, which primarily comes from new home investment. Again, we wouldn’t overstate the impact, given real estate’s tiny share of US GDP, but a modest headwind flipping to a modest tailwind, should that come to pass, would still be welcome.^[xii]

Putting the UK’s Inflation Uptick in Context

Our research suggests no economic indicator moves in a straight line, so we figured it was only a matter of time before the UK’s inflation rate hit a speedbump after months of steady slowing.^[xiii] That speedbump materialised in December, when the headline CPI sped slightly from 3.9% y/y to 4.0%.^[xiv] (The Office for National Statistics’ preferred measure, which includes owner-occupiers’ housing costs, held steady at 4.2% y/y.^[xv])

The rise was down to one simple thing: Tobacco prices rose due to a recent tax increase, which took effect at November’s end.^[xvi] Otherwise, most price trends continued, with energy still in deflation and food prices continuing to slow. Consumer goods and services were more mixed, but the ups and downs mostly cancelled each other out: Excluding food, energy, alcohol and tobacco, the inflation rate held steady at 5.1%.^[xvii]

So we find it a bit funny that—as usual—headlines we follow zeroed in on what the report means for the Bank of England’s (BoE’s) decision making. We saw ample chatter that the uptick takes a rate cut off the table for the time being, as if higher rates can do anything about a tobacco tax. In our view, that is about as silly as thinking rate hikes were the solution to inflation fuelled (sorry) by high oil and gas prices early in 2022—rate hikes can’t drill oil wells any more than they can reverse a tax hike.^[xviii] Who knows what monetary policymakers will do, but we think the logic here seems lacking.

But from a sentiment standpoint, we guess the frenzy is a good sign. It shows that, as in the US and eurozone, people seem hung up on the prospect of rate cuts, as if economies and markets depend on them. They don’t, according to our research. But if people think they do, then it means expectations are probably still pretty weak, which we think leaves plenty of room for economies’ resilience to higher rates to be a positive surprise.