September 15 2023

Last Shot Everyone

Resilience has been the master word for qualifying the US economy in 2023, much to everybody’s surprise. As consumers make for 70% of the US GDP, let’s talk about them a little bit.

How are they feeling? Well, a little squeezed lately. Granted, households net worth increased substantially, by 17% from 2020 to 2Q23. Main drivers have been real estate, treasuries, and equities, to the detriment of pensions, mutual funds, and deposits.

As households’ net asset value increased, so did their confidence and consumption. Higher employment rate, and elevated savings rate above 10% through the covid period, fueled their pent-up demand.

Fast forward to today, savings rate has normalized around 3.5% in Jul23, and business climate is getting more tense, fear of a less-rosy tomorrow has been suddenly shooting up.

Symptoms of such slowdown are visible in higher delinquency rates, and credit card balances. Besides all the talks about an economic soft landing and a gradual reduction of inflation, credit is harder to come by, and CPI remains elevated historically.

Worse still, prices continue rising in areas that consumers can’t escape, which disproportionately hurts lower income households e.g. food, rent, and vehicle maintenance prices rose between 6.5% and 12% YoY in Aug23.

While lower energy cost has balanced out consumers’ wallet over the past year, dropping between 3% and 17% YoY, a transitory supply squeeze resulted in steeper gasoline and fuel cost in Aug23, which rose 11% and 9% resp in Aug23.

At a macro level though, things still look pretty good. The US economy is insulated from a short-term oil shock, as now a net exporter of oil. No sector is particularly overbuilt, with the notable exception of commercial real estate. There are still an extraordinary number of jobs openings. Strength in services have been picking up the slack in manufacturing activity. Businesses are sitting on historically high profits, and low outstanding funding costs. So what could go wrong ?

First, US trading partners are not doing so well, starting with Europe and China mired in a downcycle. Secondly, recession may come later in 2024, but will surely come as refinancing walls arrive. It will come slowly with a gradual decay in lower credit quality, then suddenly.

To this end, equity managers look slightly complacent dancing until the music stops, finding a justification in eye-watering US valuations, ARM listed this week at 97x FY23 operating income is a case in point, even though they advocate for rebalancing portfolios into value and non-US equities. Bond managers rejoice about higher yields, and more conservatively embrace higher credit signatures, or very short duration, albeit some argue that investors should benefit from longer duration as rates seem to have peaked.

On my end, considering that the US economy is the only one standing, and its grassroot consumers are feeling challenged, taking some chips off the US equity table, into money market at 5%+ makes sense. I find a better risk-return in EM stocks, albeit allocation remains modest. Elsewhere in fixed income, I am not a fan of ultra long duration either in absence of more conviction from the Fed.

Stay safe out there !

About –

360 Advisory LLC is a Boston-based RIA managing investments