When we meet with our clients to discuss their portfolio positioning and performance, an important part of the conversation is a review of current economic conditions. We emphasize this review because, although we all know from firsthand experience that the stock market can be swung by headlines, emotions, and other factors on a short-term basis, economic growth is the primary driver of long-term stock market growth. The task of interpreting the signals sent by the economy is always challenging, and recent data on the health of the American consumer have been sending confusing signals.
When we step back and look at the big picture over the seven years that have passed since the Great Recession, we can plainly see that a great deal of progress has been made. The labor market has been the clearest symbol of broadly improving conditions as the unemployment has fallen from a peak of 10% to 5%, and underemployment has dropped from 17% to 10%.
Meanwhile, individual household finances have become considerably healthier than they were prior to the crisis. Debt has been reduced significantly and household savings have increased, all the while inflation has remained in check. And yet as the economic recovery continues to mature, investors seem to be exceptionally cautious as though they are waiting for the other shoe to drop. This has translated to heightened market volatility over the past year as investor sentiment shifted quickly and sometimes dramatically in response to the news of the day.
A recent example of this behavior occurred as a series of disappointing earnings reports from retailers led by department stores such as Macy’s and Nordstrom fed speculation that the U.S. consumer is weakening. Consumer behavior is critical to the domestic economy and comprises the vast majority of our GDP growth on an annual basis, so a significant slowdown in consumer spending can be cause for real concern. As a result of these dreary earnings reports, the entire retail sector sold off and pulled stock market indexes into the red.
Just days later, however, the retail sales report released by the U.S. Census Bureau for the month of April quickly contradicted the implication that consumption is slowing. The report showed that Americans are in fact spending at accelerated rates – they’re just not spending at traditional department stores like they used to. Rather, they are spending money at home improvement stores, at restaurants and bars, at the car dealership, and (not surprisingly) at online retailers.
The key takeaway from this example is that in this era of constant news, it is critical for responsible investors to exercise discipline in their approach and try not to be swayed by shifting sentiment. A single piece of information may prove to be valuable, but it’s just a data point until the passage of time proves it to be a trend. Investors that react hastily to short-term sentiment will find themselves disappointed with long-term results.