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Yellow Flags for Consumer Spending

Jason Stipp
Robert Johnson, CFA

Jason Stipp: I'm Jason Stipp for Morningstar. After a better-than-expected February retail sales report, enthusiasm for consumer spending, and thus the economy, seems to be on the rise. But Bob Johnson, our director of economic analysis, sees some yellow flags for consumer spending. He is here with us to explain.

Thanks for joining me, Bob.

Bob Johnson: Great to be here.

Stipp: So, there is some exuberance you're sensing about consumer spending, the economy in general, and you're saying, "not so fast." How exuberant do you think people are getting about the economy, and what's driving it?

Johnson: Let me pin that down. It was interesting. I was on a panel this weekend, and I am usually the most bullish guy on a panel, or relatively bullish, and I was actually the least bullish of all the panelists this time around.

To put some numbers behind it, in general, the consensus was about 2%, maybe even 1.9%, GDP growth for 2013. That number is now approaching 2.5% on a consensus basis. And again, my estimate was 2%-2.5%, which it has been for some time, and I'm going to stick with that, and I think the best shot is probably at the middle of that. But the consensus numbers have come up.

The numbers for the first quarter have gotten particularly ebullient. There were some forecasts I heard over the weekend … were as high as 3% for the first quarter. I think the consensus there is also right at that 2.5% mark. Again, I think probably something 2%-2.5% even for the quarter works, but those numbers that are 3% are probably a little optimist.

Stipp: So for the full year, you're coming in at or a little below consensus. There are certainly other [economists] who are on the other side of that [consensus]. Why do you think that is? Why do you think there are some that are even more bullish in thinking that we'll do better than that 2.5%? What's behind it? You're saying maybe the February retail sales report started some of this. Why is that?

Johnson: I've been relatively consistently bullish on the economy, and I think there are lot of, what I'll call, Jonny-come-latelies that have looked at some of the data lately and gotten more bullish than maybe they should. And I think the retail sales report for February, the government one, was really a number that woke everybody up a little bit. We showed 1.1% retail sales growth in one month, which annualizes to 12%, and we also had decent auto sales.

People thought, gee, that's a huge number in February. And this was with the payroll tax going on and the tax refund [delay], then high gasoline prices, [they thought,] boy, the consumer must really be in great shape if he's spending all that money, because that's a number we hadn't seen for a while.

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But you peel that back a little bit, and the growth was only four-tenths of a percent, which annualizes to about 4.8%, which is about what the long-term trend has been since the recovery began, because a lot of that was gasoline prices and a lot of it was autos, and some of that was building materials. So you strip that back, and you're down to something that's a more normal growth rate. And I think [the February retail sales report] didn't even have necessarily the full impact of all of the payroll tax items just yet. And we've got some early signs that maybe March data will be a little weaker.

Stipp: So let's talk about some of the other things that you're looking at for retail sales. So, you're saying February looked better to a lot of people than it probably actually was, that it was more in line with recent longer-term trends on consumer spending. But you track some other data that's looking a little on the weak side for consumer spending.

Johnson: Yes. The reason I am raising the yellow flag and wanted to talk about this a little bit today is that I've made a big deal in the past about the International Council of Shopping Centers, and we do get weekly data from them. It's not a lot of stores, and it tends to be focused on some of the smaller goods and not the bigger goods a little bit. So it's not perfect. We look year-over-year and average it over four to five weeks, like we've always done, and that number has been rock solid between 2.5% and 4% every week for the last three years. Now, that average has dropped down to 2%, and we've had five of the last six weeks below 2%, and this last week, the data that we got on Tuesday, showed that the sales year-over-year, and again it's a single point, grew only 1%, the worst number since 2010.

Now, maybe it was some of the snowstorms, maybe it was last year we had really warm weather and people bought their spring clothes early, and this year they didn't. So I'm not fully hitting the panic button, but even the Association makes a monthly forecast, which measures a slightly difference set of stores. But based on what they're saying, they brought down their sales growth estimate by 0.5%, and that was already a relatively low number at about 3.5%. So, clearly, I am a little bit concerned about this data, which has proven in the past to be such a good indicator for me to say, I'm not worried about the consumer. I am a little bit with this set of data.

Stipp: And some folks after the February report said, the payroll tax holiday expiration obviously didn't have an effect. The February report looked stronger. But you're saying it's a little too early to make that call. Do you think that some of the payroll tax hikes are showing up in this recent shopping center data that you're seeing? What might explain it? There could be short-term factors, but there are other bigger headwinds that are out there right now as well.

Johnson: Right. There are others, but talking in terms of the payroll tax, keep in mind, the first check that it hit if you were on a biweekly [pay cycle] was the middle of January, and if you're on a monthly [pay cycle], it was the end of January. And people don't look every day at their checking account. They may not have realized that happened. But now this month they're seeing that [they've] got to transfer a little extra money this month [from savings], or I am a little short for this week's groceries. And it doesn't show up on day one. And I think people saw the February report and extrapolated maybe just a little bit too much. I think at first we made too big a deal about the payroll tax, and now probably not enough, and now we'll come down the middle again.

Stipp: And you've noticed a trend in past years where in the springtime the numbers on spending will look pretty good, but then the wheels come off a little bit later in the year. Do you think we'll see something similar this year?

Johnson: It sure kind of feels that way to me. Obviously, February already looked very strong. We may get a decent number for March, because Easter falls entirely in March this year; last year it was partially in April. They'll try to seasonally adjust for that, but they won't hit it all and they won't hit it right. And the tax refunds that normally happen in February probably happened in March this year. So March may actually look pretty good. But then I think by the time we get to April and May, maybe things won't look quite as robust for consumer spending.

Stipp: As a last question, I want to just get some guidance on how we should be looking at the consumer spending data in the next few months, and when does a yellow flag become a red flag, or when does it go back to green? What are you going to be closely following to get a sense of if this weak trend that may be starting is continuing or it was just a blip?

Johnson: The first thing I'll do is, I'll keep watching this International Council of Shopping Centers data to see if … that 1% was a one-week fluke. If we get 3%-4% next week, then that erases a little bit of the pain. But still we've had a number of weeks in a row where that number has been a bit concerning, so I'll keep watching that number.

The first thing I do when I come in in the morning, I check gasoline prices on AAA, and they're still kind of trending down, but I've noticed oil prices themselves, the barrel of oil, has been going up the last couple of days. So, I am a little afraid some of that benefit may stop out on us here. Those are two things that I watch very closely.

I'll watch this month's auto sales closely. Auto sales have been a big driver of the economy, and if that number kind of slows down, that would be another area of concern. I'll be taking a close look at this week's auto report more than usual.

Stipp: So bottom line, certainly no rocket ships for consumers right now, no acceleration from the longer-term trends. In fact, there is a little bit of weakness, a little reason for concern. You'll be keeping a close eye on it, but certainly a good context for this very important 70% part of the economy. Thanks for joining us, Bob, and for those insights.

Johnson: Great to be here. Thank you.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.