QQQ - The Consumer Is Starting To Buckle

2023-10-12 14:00:26 ET

Summary

• Former Walmart CEO Bill Simon was on CNBC this week warning that consumers are starting to buckle due to various negative factors.
• Consumer health is being impacted by inflation, higher interest rates, federal budget issues, polarized politics, and student loan repayments.
• Consumer activity is crucial to the U.S. economy, accounting for 70% of economic activity, making it important for investors to pay attention to this trend.
• My take on consumers and the retail space in front of upcoming third quarter results is provided below.

An empty stomach will teach you lessons a full stomach can't ."? Michael Bassey Johnson.

Former Walmart Inc. ( WMT ) CEO Bill Simon was on CNBC on Monday and stated that " consumers are starting to buckle for the first time in a decade ." Mr. Simon also currently sits on the boards of Darden Restaurants ( DRI ) and Hanesbrands ( HBI ) , so he has a catbird's seat on what is happening in the consumer space. Among the many things he listed as negatively impacting the health of the consumer are " inflation, higher interest rates, federal budget wrangling, polarized politics and student loan repayments ."

Author's Note: I closed out my bear put spreads on Darden at the end of September for better than a threefold gain (and left some money on the table by not being more patient, it should be noted).

I covered most of these developments around the American consumer in a recent article entitled " The Consumer Is Toast ." I think this theme is quite important to investors, as consumers drive nearly 70% of economic activity in the United States. In addition, third quarter earnings season is about to kick off, which will give investors new data points to digest from the retail space as well as forward guidance for consideration.

investors saw quite a bit of deterioration at the lower and middle parts of the consumer population when retailers reported second quarter earnings in July and August. Dollar Tree ( DLTR ) was typical of retailers catering to the lower-end consumer. The discounter reported notable margin erosion and gave tepid forward guidance with its second quarter results. As can be seen from the chart above, the stock has been crushed since second quarter results came out on August 24th.

The SPDR® S&P Retail ETF ( XRT ) has also declined since second quarter earnings came out from retailers, although this exchange-traded fund ("ETF") has perked up a bit lately. Perhaps this was a result of investors hoping for better tidings from retailers' third quarter numbers, which will be posted in the coming weeks.

Unfortunately, I believe those hopes are highly likely to remain unfulfilled. There are several key reasons for this view. First, all the massive excess savings accumulated during the Covid pandemic, and its immediate aftermath have now been spent.

And it is not like normal personal savings is enough to sustain the current rate of consumer spending. Thanks to the highest inflation levels since the days of Jimmy Carter, commencing in the second half of 2021 and running through 2022 before starting to ebb noticeably in 2023, the average consumer has lost a considerable amount of buying power since the 2021. They have largely maintained their spending levels in recent quarters by reducing their personal savings. This is reflected in the current personal savings rate in the U.S., which is approximately half what it was prior to the pandemic and at its lowest levels since the Great Financial Crisis.

The consumer has offset this savings deficiency somewhat by turning to credit cards. As a result, total credit card debt has surged to top $1 trillion for the first time recently. With consumer delinquencies rising, bank credit criteria tightening, and interest rates on revolving debt at historical highs, that is not a long-term solution.

As retailers report third quarter earnings in a few weeks I will be interested in a couple of things. The first is their guidance for the critical fourth quarter holiday season. The second is whether the weakness retailers have seen from the lower and middle parts of the consumer population now starts to bleed over to the higher end as upper income shoppers start to " hunker down ."

If that happens, it does not portend well for the overall economy. RBC Capital Markets was out with a particular dire forecast earlier this week around the " luxury" shopper. They noted that:

Luxury downturns have happened three times since 2010. They have, on average, lasted four quarters and have seen 12% share price declines. RBC notes this time may be different -- and worse -- given high interest rates, inflation, and China macro issues ."

I personally will be watching the third quarter results of Williams Sonoma ( WSM ) closely. I recently executed some out of the money, long-dated bear put spreads against this retailer after noticing its CEO Laura Alber sold $15 million of her stake in the firm on September 25th. More importantly, results from Williams Sonoma should be good tea leaves around how the high-end consumer is performing. Results should provide insights on how tepid housing activity is starting to impact ancillary sectors as well.

And that is my take on the consumer as we get ready for third quarter earnings season from the retail sector.

A poor but confident man is as hard to find as a rich but shy man ."? Mokokoma Mokhonoana.

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