Edge and Odds

The enemy of knowledge is not ignorance, it’s the illusion of knowledge (Stephen Hawking)

It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so (Mark Twain)

Edge and Odds

Invest with smart knowledge and objective odds

WHERE’S WALDO?

Trends in employment (+2.0% YoY), working hours (0.0%), and hourly wages (+2.5%) together provide a good proxy for current labor income growth of around +4.5% YoY. With overall inflation at zero, real labor income growth is also around +4.5% YoY. The savings rate in Q3 was unchanged from last year. Gas prices are down more than $1/gallon (-30%) from last year and food-at-home inflation is a low +0.8% YoY.

Why is it then that discretionary spending looks so weak? Has the U.S. consumer, always so ready to fulfill his/her patriotic shop-and-spend obligation changed so much? Even as we approach the annual pilgrimages to the malls? Where’s Waldo the American consumer?

Understanding and analysing retail sales has become tricky given the many cross-currents within the retail trade (e.g. on-line growth, market share shifts) and the high divergences in inflation trends by categories due to falling commodity prices and the rising dollar. Seasonal adjustments have also become suspect given the recent wide fluctuations in the economy and the weather.

This is some of the stuff that you might have read from the various analysis of Friday’s retail sales report:

  • Consumer spending at retailers climbed just 1.7% since October 2014, compared with a 4.7% annual increase the year before that.
  • Following a 0.1% dip in September, ‘control group’ retail sales rose just 0.2% (half the expected 0.4% rise).
  • Retail and Food service sales ex-gasoline increased by 4.1% on a YoY basis (1.7% for all retail sales including gasoline).
  • Excluding motor vehicles, sales were up 0.2% in October. And excluding gasoline, sales rose 0.1%. When excluding both categories, sales were up 0.3% last month and a healthy 3.5% from a year earlier.
  • Core sales, the figures that are used to calculate gross domestic product and which exclude categories such as autos, gasoline stations and building materials, climbed 0.2 percent last month, less than the 0.4 percent median forecast of economists surveyed by Bloomberg. The readings for September were revised up to show a 0.1 percent gain compared with a previously recorded 0.1 percent drop.
  • Falling gasoline and food prices probably also restrained the core readings. Sales at general merchandise stores, which include warehouse big-box merchants that also sell gasoline, fell 0.4 percent. Grocery stores, which typically see receipts rise, saw a 0.3 percent decrease.
  • The rate of purchases last month was also held back by a 0.5 percent decrease at auto dealers.
  • Sales at nonstore retailers jumped 1.4% last month, and are up 7.1% from a year ago, the strongest of any retail category. That helped keep the overall sales figure in positive territory in October from a month earlier, up 0.1%, despite a 0.5% slump in auto sales and parts—even as unit sales of cars rose—and a 0.9% decline at gas stations.
  • Large retail chains, including Macy’s Inc. and Nordstrom Inc., warned this week of an unexpected slowdown in spending at their stores. Their disappointing performance sent shares of major retailers tumbling.
  • Nordstrom executives were at a loss to explain a sudden deceleration in sales that began in August and continued through October. “We’ve got less people buying clothes this quarter than we expected, and there’s really nothing else to point to,” Jamie Nordstrom, the company’s president of stores said on a conference call Thursday.

    Nordstrom said its business slowed across all regions, categories and channels, including online, where it had been growing strongly. The slump forced the company to discount more than usual to clear unsold goods.

And the clincher which scared many:

  • The Last Two Times Retail Sales Were This Bad, The US Was In A Recession.

In the confusion, the S&P 500’s consumer-discretionary sector, which includes several retailers, was the biggest decliner on Friday with a loss of 2.7%. The sector fell 4.6% for the week, its largest loss since late August. The S&P Retail Sector ETF is down almost 9% in the last 8 days. That is the fastest collapse in this bellwether industry since August 2011.

Let’s look at this in a dispassionate, organized way using YoY rates of change to avoid the more iffy seasonal adjustments and applying specific inflation measures to get a better read of volume trends:

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  • Discretionary spending is +4.7% in October, +4.6% last 3 months with apparent inflation +1.0%. Apparent volume is thus +3.6%.
  • Car sales are +6.2%, +6.6% last 3 months, virtually no inflation. Apparent volume +6.1%.
  • Housing-related spending is in the +4.0-6.0% range in real terms.
  • “Other goods” may look weak until we understand that their wares are generally deflating.
  • Even apparel looks better when considering declining prices and unseasonal weather.
  • Restaurant sales are strong.

In all, these are no recessionary data, quite the opposite in fact.

Then we have the “general merchants” which include department stores. Their nominal sales are up only 1.6% when “CPI ex-food, shelter and energy” is up 1.0% and CPI-apparel is –1.4%. Hard to say what volume is but it is not negative in my view. The fact is that these big department stores, from Nordstrom to Sears to Walmart, are dinosaurs trying to survive in a rapidly changing world.The whole specie is getting killed by the “non-store retailers” and the shrewd discounters such as TJX. Those still able to fight are mainly trying (able) to eat their congeners.

Investors were rattled by Macy’s –3.9% same-store-sales in Q3 but that came after -2.1% in Q2 and -0.7% in Q1. Why the surprise? This followed lackluster WMT sales trends which are also primarily company specific problems.

Meanwhile, JC Penney, not such a terrific merchant but with new leadership, rang sss of +6.4% in Q3, +4.1% in Q2 and +3.4% in Q1. And even with slow traffic in recent months, Nordstrom was able to get +3.5% sss growth in Q3. With goods inflation generally negative, volume is pretty decent.

Amazon’s North American revenues grew 28% YoY in Q3 after +25% in Q2 and +24% in Q1. Quarterly growth averaged 23% in 2014. Costco U.S. comps are up 4% YoY ex-gazoline and FX in October and +6% in September-October. During Costco’s fourth quarter ended in August, comps were also up 6%, as for all of its F2015. No slowdown there and no recessionary trends there as well. Amazon and Costco are not hot newcomers with low sales base.

Waldo is clearly shopping and spending but he’s seemingly tough to find in “dinostores”.

This CalculatedRisk’s chart that simply ex-outs sharply deflating gasoline sales is a good reflection of the actual, meaningful trends, especially if you consider that inflation is close to zero or even negative on core goods: 

Gift with a bow Gallup‘s November update of Americans’ 2015 holiday spending intentions finds U.S. adults planning to spend $830 on Christmas gifts this year, on average. That is up sharply from the $720 recorded a year ago, and is significantly higher than what consumers have indicated in any November since 2007.

Americans' Christmas Spending Estimate From November of Each Year

Gallup’s initial measure of 2015 holiday spending plans, conducted in October, also showed consumers poised to splurge this Christmas, as that month’s $812 average spending figure was the highest Gallup had seen in any October since 2007. The consistency between the two months is a bit unusual, as Gallup typically finds Americans scaling back their spending plans between October and November.

According to Gallup’s modeling of how prior years’ spending forecasts compare with the final November-December retail sales figures for each year, Americans’ latest Christmas spending data point to an estimated increase of between 5.1% and 5.8% in U.S. holiday retail sales.

If Waldo carries on spending, the inventory glut will quickly disappear and the manufacturing sector will soon see rising orders and production, much to the surprise of the doomsayers.

We now have 92% of Q3 earnings in and Consumer Discretionary companies are expected to show EPS growth of 14.7% in Q3, up from +11.4% expected on October 1 and better than the +12.5% recorded in Q2.

In total, S&P 500 companies are on track to register Q3 EPS of $30.05 vs $30.04 in Q3’14 in spite of all the headwinds encountered (see “Questions” within the Nov. 10 New$ & View$). Mid-quarter, pre-announcements for Q4 earnings are positive for 23 companies vs 18 at the same time last year and negative for 66 companies (68 last year). So far, so good.

Factset calculates that ex-Energy, S&P 500 EPs would be up 5.0% in Q3 on revenues rising +1.1%. Margins are not contracting just yet.

If the Energy sector is excluded from the growth calculations for Q4 2015, the estimated earnings growth rate for the quarter would be 1.6%, and the estimated revenue growth rate would be 1.2%. If the Energy sector is excluded from the growth calculations for CY 2015, the estimated earnings growth rate for the year would be 6.9%, and the estimated revenue growth rate would be 1.9%.

At the end of Q3, trailing 12-month EPS are $119.28, up 0.4% from 2014 EPS even with Energy down some 60% and Materials down 5%. The big drag from Energy will peak in Q4 and completely end in Q2 if current estimates are right.

At 2025, the S&P 500 is selling at 17x TTM EPS and 18.9x on the Rule of 20 scale. Upside to fair value of 2157 is 6.5%. Downside to the two recent lows of 17.8x (1900) would be –6.2%.

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NEW$ & VIEW$ (16 NOVEMBER 2015)

Quiet Ports Spur Slowdown Fears America’s busiest ports reported a decline in imports during the key peak shipping season for the first time in at least a decade.

For the first time in at least a decade, imports fell in both September and October at each of the three busiest U.S. seaports, according to data from trade researcher Zepol Corp. analyzed by The Wall Street Journal. Combined, imports at the container terminals at the ports of Los Angeles, Long Beach, Calif. and around New York harbor, which handle just over half of the goods entering the country by sea, fell by just over 10% between August and October. (…)

Some say the slump is being driven by businesses that have cut back on imports because of a weak economic outlook, which could point to sluggish global growth ahead. Others say it is a side effect of a massive inventory buildup that took place earlier in the year.

Despite the weak peak, imports in the first 10 months of the year at the nation’s busiest ports are still up 4% from a year earlier, Zepol data show. Rather than ordering huge shipments of goods in the late summer and early fall, more businesses are stocking up throughout the year and holding on to inventories for longer. (…)

Last week, the consumer goods-focused ports of Long Beach, Calif. and Oakland, Calif., both reported year-to-year declines in imports in October, another sign that retailers have scaled back their orders from overseas after seeing inventories pile up earlier in the year. (…)

There clearly is an inventory correction going on.

Businesses Are Stockpiling. What Does It Mean?

In September, overall business sales were flat but inventories climbed 0.3%. That pushed the inventory-to-sales ratio to its highest level since the waning months of the recession, the Commerce Department said on Friday.

If they keep piling up, outsized inventories could even be a harbinger of economic slowdown or recession. (…)

What’s driving the surge in inventories? It’s mostly retailers, which includes auto dealers, but manufacturers’ and wholesalers’ inventories also have been creeping up. But the figures aren’t wildly out of line with prerecession norms. (…)
Consumer Sentiment Climbs as Americans Buoyed by Price Discounts

The University of Michigan’s preliminary consumer sentiment index for this month rose to 93.1, a four-month high, from 90 in October, a report showed Friday.

The gain in confidence was propelled by those in the bottom two-thirds of the pay scale as a firming job market and cheap fuel costs made for the most-favorable income expectations in almost nine years. That bodes well for the holiday-shopping season after retail sales were weaker than projected last month.

“Confidence rose in early November mainly due to a stronger outlook for the domestic economy,” Richard Curtin, director of the Michigan Survey of Consumers, said in a statement. “Buying plans remained very favorable in early November due to low prices and currently low interest rates.”

The Michigan sentiment survey’s index of expectations six months from now increased to 85.6, a five-month high, from 82.1 in October. The gauge of current conditions, which measures Americans’ views of their personal finances, rose to 104.8, the highest since August, from 102.3 last month.

Japanese Economy Contracts Again Japan’s economy shrank again in the third quarter, entering a second technical recession in two years.

(…) Gross domestic product—the broadest measure of a nation’s economic activity—shrank at an annualized pace of 0.8% in the July-September period from the previous quarter, government data showed Monday. That followed a revised 0.7% contraction in the second quarter. (…)

A drop in inventories cut 2.1 percentage points from total growth, outstripping positive contributions from private consumption and exports. That could turn into a positive in coming months, though. When inventories are low, companies usually increase output, leading to faster growth in subsequent quarters.

Business investment shrank an annualized 5.0% during the quarter, a second-straight decline, as a global slowdown weighed on corporate earnings. (…)

Private consumption, which accounts for some 60% of Japan’s GDP, grew 2.1% after contracting 2.3% in the previous quarter. But few economists see this as heralding a sustained recovery. Sluggish wage growth continues to burden consumer sentiment. (…)

Thai Economy Turns a Corner as Junta Starts to Boost Investment

Gross domestic product expanded 1 percent in the three months through September from the previous quarter, the National Economic and Social Development Board said in Bangkok Monday. That compares with the 0.6 percent median estimate in a Bloomberg News survey of 20 analysts. GDP climbed 2.9 percent from a year earlier, more than the median forecast of 2.5 percent in a separate survey. (…)

The agency predicts GDP growth this year will be 2.9 percent, the fastest in three years.

Annual inflation up to 0.1% in the euro area

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Call me Trivia question: What was the annualized rate of core inflation in the Euro area during the last 3 months:

  1. 0.0%
  2. –1.0%
  3. +0.7%
  4. +4.1%

Hint for you: Just last week, European Central Bank President Mario Draghi expressed concern that core inflation in the eurozone may be backsliding.

The right answer is 4: +4.06% with the last 3 months being +0.3%, +0.5% and +0.2% MoM respectively.

True, if you add July’s –0.7% print, core inflation is back to tame area. But then, maybe, we should add February to June which was +5.8% annualized. But add January’s –1.8% and first half core inflation is but +1.2%.

In all, first 10 months of 2015: two big down months (Jan. and July), three big up months and five so-so months. Total first 10 months annualized: +1.1%.

Erratic. But certainly not “backsliding”. In fact, November-December better be quiet on that front…

Lagarde: Yuan Should Be IMF Reserve Currency China’s yuan should be included in the elite basket of currencies that comprise the International Monetary Fund’s lending reserves, IMF head Christine Lagarde said.
Yuan Set to Join IMF Basket in Step Toward Currency Big Leagues
Oil Slump May Prompt U.A.E. Spending Cuts, Central Bank Says

The United Arab Emirates may cut government spending as a result of the slump in oil prices, Central Bank Governor Mubarak Rashed Al Mansoori said.

The decline in the government’s oil revenue “may trigger further fiscal consolidation, albeit at a gradual pace, to preserve priority spending in support of non-oil growth,” Al Mansoori said at a conference in Dubai on Monday. Oil accounted for almost a third of the nation’s gross domestic product last year, government data show.