Can’t figure out the economy? Walmart, Home Depot are also struggling

If you think the economy is confusing right now, consider how confusing it must look for Home Depot and Walmart.

Last week, two major retailers sent cautious signals about the health of the American consumer. In a nutshell: Walmart said U.S. consumer spending started the year strong, but households are expected to ease during the year and produce weak US revenue growth for fiscal 2024 2 to 2.5 percent. Home Depot he said consumer spending was holding up, but that it was expects a stagnant year of sales growth overall with declining profits.

Indeed, the latest inflation from last Friday basic index of personal consumption expenditures was hotter than expected, indicating a consumer that continues to defy expectations. Friday’s PCE index showed consumer spending rose more than expected as prices rose, jumping 1.8% for the month, compared with an estimate of 1.4%.

From strong retail gains to fading hopes that disinflation will be flat in 2023, the latest news from markets and the economy underscores the tough job the Federal Reserve has in cooling the economy without causing a recession.

“The consumer is resilient right now,” said CFRA Research retail analyst Arun Sundaram. “The consumer is still spending, not as much as a year or two ago, but they haven’t stopped completely.”

Consumer, retail stocks will have a very bad week

The The outlook for 2023 from these two key consumer companies sent Dow and S&P 500 they fell on Tuesday, and the market’s recent losing streak continued into the end of the week. It was not a good week for either the retail sector or consumer stocks. The SPDR S&P Retail ETF are up 9% for the year but fell about 7% last week, their worst five-day stretch since July 2022. Consumer staples were the worst performer of any sector in the S&P 500, falling nearly 4.5% for the week.

Getting a good read on the consumer has been an issue underlying the debate in inflation markets as investors question whether households have they lost 6.4% of their inflation-adjusted disposable income last year — which grew by more than 8% in the previous two years thanks to Covid relief programs — will continue spending. January’s relatively high inflation offset the boost in market sentiment the recent choppy report on retail salesso investors, and even the best deals, will have different views on what comes next.

At the macro level, January’s 3% rise in retail sales more than reversed December’s decline and, at 6.4% higher than a year ago, was broadly in line with inflation. The University of Michigan Consumer Sentiment Index has risen since November and his last reading last Friday reported a third consecutive month of strengthening confidence, leading to a 12% improvement in consumers’ outlook for the economy next year. A rival Conference Board consumer survey says Americans thought conditions improved in January but expect a recession later this year.

A view of spending from a big store

Walmart has done it will keep sales growing by expanding its grocery store business, but these sales are less profitable than general merchandise categories where consumer spending is leveling off or falling. It compensates through investment in more efficient operationand strengthening its online unit’s high-margin advertising business.

“Trying to accurately predict fluctuations in macroeconomic conditions and their impact on consumer behavior is challenging,” John Rainey, Walmart’s chief financial officer, told analysts on the company’s recent earnings call. “As such, our guidance reflects a cautious view of the macro environment.”

Home Depot expects high home equity to support consumer demand at least for a while before inflation and interest rate pressures squeeze harder. Existing home sales fell for the twelfth month in a row in January, but slower rate of decline led to some optimism that the housing market could be near the bottom.

“We still see a healthy customer. We have good jobs, job growth, rising wages, still strong balance sheets,” Home Depot CEO Ted Decker told analysts. “We’re seeing a unique environment right now with a lot of cross-currents. Obviously, there’s elevated inflation and rising interest rates, a tight labor market, and softening equity and housing markets. So given all of that, we expect moderation in home improvement demand.”

Home Depot was the second-best performing stock in the Dow last week, down nearly 7% — the only Dow underperformer was Intel, which reduce the dividend by 65%.

Among Wall Street firms, Goldman Sachs economists are of the view that consumer strength may continue, saying household income growth bottomed out in 2022 as Covid-related income support programs ended and will rebound this year, boosting companies, particularly Walmart. Goldman economists expect disposable personal income to grow 6.1% this year, compared to a 0.4% decline in 2022, according to a recent report, driven by rising wages and higher profits for small business owners. This means consumers can spend more without having to dip into savings and investment gains.

“The outlook for sustained growth in consumer spending remains,” consumer analyst Jason English wrote. “Growth in [disposable income] and the easing of core spending inflation means that spending growth will no longer need to be financed by net savings [a] will be reflected in the rate of savings expected from the first quarter of 2023.”

Friday’s PCE report showed that the personal savings rate rose to 4.7%.

House prices, food, inflation

Retail analyst Simeon Gutman at Morgan Stanley described what he saw as a significant difference in outlook from the two major retailers after last week’s earnings. His take: Home Depot’s customer is wealthier than Walmart’s, buoyed in particular by home equity gains in recent years. But Home Depot’s view may not fully account for the coming decline in home prices, he suggested.

“WMT’s more subdued consumer outlook is undoubtedly based on the weakness it has seen in general merchandise and the overall mix shift towards [groceries, which are less profitable]”HD’s more balanced view may underestimate the lagged impact of the rapid slowdown in housing metrics.”

There may be a simple way to reconcile the conflicting signals on consumer and retail numbers, said Richard Moody, chief economist at the Birmingham-based holding company. Financial regions. Walmart may experience the impact of inflation earlier, which will continue, albeit at a slower pace, into the second half of the year.

“The cumulative effects of high inflation will take a toll, and the slowing rate of growth in labor earnings will also weigh on spending,” Moody said. “Remember that even when inflation is slowing, prices are still rising, they’re just rising more slowly, so lower inflation doesn’t free up a lot of money for consumers.”

But Home Depot may benefit from a decline in interest rates at the end of 2023, leading to a modest but steady growth rate in line with the bank’s outlook for the single-family housing market, he said.

Fed, interest rate forecast

However, predicting where rates will end up in 2023 is no easy task. This year began with the bond market believing the Fed was nearing the end of its rate hikes and increasing its chances that the Fed would cut before the end of the year as inflation slowed and it began to look more likely that the economy had reached a “soft landing.” But after two straight higher-than-expected consumer inflation readings in recent weeks, from CPI and PCE, there is now talk of the Fed potentially hiking by 50 basis points at its next meeting. “taller for longer” look. where year-end rates (over 5%) are suddenly back in the driver’s seat among Fed watchers.

The result, heading into earnings reports from retailers like Costco and target next week is that stocks like Walmart will rise if consumers prove to be healthier than both companies’ guidance suggests, Gutman said. And the minutes from the Fed’s January meeting brought up one idea that markets haven’t yet focused on: States that doubled the size of their rainy day funds starting in 2018, in part by holding on to some Covid-driven federal aid, it could provide money to consumers through tax cuts.

“[P]participants noted that inflation erodes household purchasing power,” the minutes said. “However, several participants noted that some states could return some of their large budget surpluses to households through tax cuts or rebates, which would encourage consumption. “