August Doldrums

The Dow, S&P 500 and Nasdaq opened lower again this morning, bringing month-to-date declines to about -4%. Wall Street analysts have characterized August trade action as “sloppiness” or “doldrums,” or just typical “seasonal” weakness. It’s not so much that traders are selling, but rather that they’re not buying. Plenty of solid stocks are pulling back because they’re too expensive—the poster child being Apple, down 10% month this month. Commodities like copper and oil are having a hard time in light of China weakness. And bonds are selling off because interest rate expectations are rising.

I’ve mentioned in recent posts that investors aren’t really sure how to interpret rising rates. For example, does the 10-year Treasury yield’s climb above 4% signal fear or confidence in the future? BMO’s Brian Belsky says the read-through should be mostly positive. Federal Reserve interest rate expectations haven’t moved much recently, and neither have inflation expectations. Bond market trading suggests the Fed won’t need to raise rates further, and inflation will average a very comfortable 2.3% over the next 10 years. His conclusion: US economic growth will remain fairly strong, and the Fed will likely keep rates elevated for a while. In addition, rising government issuance of Treasury bonds to fund deficit spending will push up rates a bit.

The other big debate on Wall Street focuses on how badly consumers are stretched. Some data suggest that savings cushions are being worked down, and credit card balances are rising. Bloomberg ran an article today positing that recent earnings reports from Macy’s, Dollar Tree and Dick’s constitute a “red warning signal about the US consumer.” All three companies talked about weaker business trends and Macy’s noted increased credit card delinquencies. Finally, we’re hearing speculation that the resumption of student loan payments will crowd out other spending. Since consumer spending makes up the lion’s share of our economy, is recession right around the corner?

I don’t think so, and I’ll explain why. First, the Census Bureau’s July retail sales report was very strong. Second, last month a host of bank CEOs told us the consumer is OK. JP Morgan CEO Jamie Dimon said, “the consumer is in good shape. They’re spending down their excess cash. That’s all tailwinds.” Citi’s CEO noted a “more cautious consumer, but not a recessionary one.” BofA CEO Brian Moynihan said full employment and good wage growth continue to drive consumer spending. Third, while earnings reports from a host of retailers were clearly weak, one of the main contributors was organized theft, not a drop-off in consumer spending. And we can’t even paint all retailers with the same brush. Reports from Home Depot, Wal-Mart, TJX and Costco were fairly strong. So in our view, it’s too early to ring recessionary alarm bells.