Consumers Emotion out of Sync to Their Spending

Last week the University of Michigan released its Consumer Sentiment Index for March, which dropped for the first time in four months. This report comes before any recent news about the banking industry, and I would expect the next index reading to be the second month of declining sentiment.

In a bazaar disconnect, consumer spending does not seem to sync with their sentiment on their future.

The Great Recession economic collapse (2007 -2008) centered around variable sub-prime mortgages and challenged millions of homeowners' ability to keep their homes. The Recession was the longest and deepest decline of the US economy in decades, with the poverty rate rising from 12.5% to 15% and unemployment soaring to 10% by October 2009. The devastation was significant for households as the largest percentage of homeowners in US history experienced mortgage defaults and foreclosures.

During the Great Recession, it was not just homeowners that were traumatized. The US financial industry was at great risk that, included the unthinkable experience of seeing Lehman Brothers, a multi-billion dollar fourth largest centuries-old investment bank collapse. Millions of Americans watched as more than 25,000 employees were suddenly unemployed and escorted out of beautiful office towers around the world after 158 years in business.

General Motors and Chrysler both declared bankruptcy in 2009, which impacted 100,000's employees and required federal bailout funds to stave the same experience as Lehman Brothers. In September 2008, AIG, the former global dominant insurance company, was also facing bankruptcy that was saved by a $142 billion loan from the Federal Reserve in exchange for 79.9% of the company's equity. The equity years later provided a profit for the Federal Reserve of $22.7B as AIG fully recovered from its crisis.

During the Great Recession, consumer sentiment sunk to the lowest level in 2008 since the University of Michigan began reporting.

Consumer sentiment recovered after the Great Recession rising to former highs from 2015 through 2019. Then, of course, the pandemic took the wind out of everyone's sail as consumer sentiment sank in 2020. The curiosity of consumers is that their sentiment declined in 2020 but not to previous lows in 2008, even though a worldwide viral crisis was threatening the potential of 6% of the world's population dying. US consumers remained relatively positive and actually rallied back to decade highs in 2021 as manufacturing and supply chains were recovering. Consumers seemed to be ambivalent to the relentless messaging from the main media, the World Health Organization (WHO), Center for Disease Control and Prevention (CDC), Dr. Fauci, and many prominent medical professionals and politicians about the continual existence of worldwide risks with the virus.

To slow the unraveling again of the US economy, the Federal Reserved in 2020 dropped the discount rate to 0%, and Federal and State government agencies handed out trillions of tax-free stimulus dollars to individuals and businesses. During the worst of the pandemic, consumer sentiment remained well above the low levels reached during the Great Recession.

Until 2022.

Consumers seemed to have a delayed response to the pandemic in 2022, like PTSD, as sentiment plummeted to the new lowest level in recorded history. Almost two years after the start of the pandemic and well after nearly all US government restrictions on society and businesses were reversed, consumers went into a deep depression in 2022. Even the bounce back from last summer's low up to last month leaves the index well below levels in the past 22 years.

The possible explanation for the delayed reaction by consumers is the drying up of trillions of government stimulus and their personal investment and retirement accounts dropping in value as the stock market selloff was finally acknowledging the financial risks to companies. Ironically, the worldwide risks to mankind barely impacted US consumer sentiment until government subsidies ended and the stock market sold off.

It is impossible from looking at the chart above on Consumer Sentiment to determine when the economy was struggling or rallying. Even more, the bazaar is that consumers' sentiment doesn't impact their spending, and they never stopped spending during ANY crisis since the Great Depression.

Below is a chart from the US Bureau of Economic Analysis for the past 72 years on consumer spending. Except for the dip in spending in 2008 and again in 2020, consumers spent more every year despite their ill feelings.

It's a strange disconnect. One would assume that as consumer sentiment declines, so would spending. But that simply is not the case. Individually we may all believe we spend less during challenging economic times, but as a society, we don't. That is especially true for the government (a topic for another Brief).

This phenomenon provides some insight as to why our economy and stock market bounce back so quickly and always onto new record levels of growth. Consumer spending represents 66% of the US economy's Gross Domestic Spending (GDP). From this data, we conclude that tracking consumer sentiment does not provide direct insight into future consumer spending, the economy, and the stock market.

More applicable data is to track how much money consumers have and how much they spend. For the past several years, consumers and businesses received trillions in stimulus dollars, and then in 2021, wages increased dramatically due to a shortage in the labor market. Despite the economic and health challenges during 2020 and 2021, consumers had money to spend, and therefore the economy was stable.

The good news for 2023 is the US Bureau of Economic Analysis reported that household income increased by 3.2% in Q4 2022, following a 4.8% increase in Q3 2022 increase. Even though government stimulus is mostly gone for individuals, more people are employed in history with rising wages.

What Does This Mean to Me?

Despite the lowest levels of consumer sentiment reached in 2022, consumer spending is the highest in history and maybe the tailwind for the economy and stock market in 2023. So long as consumers have jobs, the economy will be fine. The stock market fluctuates on investor emotions derived from projections of the future, whether accurate or not. Last year investors and analysts were convinced that the US economy was heading into a recession due to the Federal Reserve rate hike campaign that would cause rising unemployment and declining consumer spending. The major indices had their first annual decline since 2012. Neither event transpired, and the indices are recovering modestly.

Technically, the S&P 500 appears to have bottomed on October 12, 2022. Since this low, the index has remained in a mild uptrend, with each new rally peaking above its previous high and selloffs stopping above the previous low. Currently, the S&P 500 is above its 20, 50, and 200 Day Moving Averages (DMA), a positive indicator for the recent trend.

The index needs to rally 4.2% from Monday's close (3/21/23) to breach its previous high reached on February 2, 2023, which may add more confidence to the stock market recovery.

NASDAQ had a deeper selloff in 2022 and has rallied strongly so far in 2023. Currently, the index is up 13.32% YTD and within 2.8% of its previous high, also reached on February 2, 2023.

Our view is despite the recent news of bank failures and the media continually prophesying the threat of another wave of a new virus; investors seem to be relatively optimistic about the future of corporate earnings and profits. If institutional investors were concerned about their accounts, they would not be investing in risker tech companies represented by NASDAQ.

We have mentioned many times over the past decade the value of monitoring consumer spending and institutional investors. Institutional investors influence the majority of the stock market. We have said that we don't need to know what the institutional investors know, the most informed investors, but what they are doing. Since early December 2022, institutional investors have been buying more stocks than they are selling. We maintain our favorable view of the economy and stock market.

Let us know if you have any questions about this Weekly Brief or your financial situation. We welcome the opportunity to be of service to you.