It was another wild ride for stocks last week, which ended on a very positive note as the S&P 500 finished Friday with a near 2.5% gain on heavy trading. More importantly, the rally took place without having to ride on the back of oil, which was relatively flat on the day. For once we can actually think, if only for a second, that stocks were actually trading off good news alone. Friday was the culmination of a week that featured a Fed meeting, high-profile company earnings and first-tier economic data releases. Thankfully, the Fed appeased markets with a fairly dovish statement while a few critical consumer-related companies reported strong earnings.
Also, the Bureau of Economic Analysis reported fourth-quarter GDP data Friday morning that showed a rising level of consumption. The initial read on 4Q GDP showed a 0.7% gain from the previous quarter while all of 2015 was up 2.4% from last year. As usual, most financial media ran with the 0.7% gain as the prelude to recession and thus deemed overall growth as weak. While it's easy to put up those headlines, a deconstruction of the GDP data tells a much different story.
Since the U.S. is a consumer nation, our trade deficit takes away from GDP growth and negatively skews it. So to get a clean look at consumption, which is the main driver of the economy, we should focus on Personal Consumption Expenditures (PCE). PCE made up 87.5% of GDP as of this most recent report. (Unless otherwise noted, PCE data is taken directly from www.bea.gov.) Below is a breakdown of the PCE index:
Fourth-quarter PCE came in at healthy 3.1 gain from 2014, with health care driving a significant portion of it. That said, since 1990, the average year-over-year change in PCE has been 2.7%, which makes 2015 a relatively strong year for consumption. Things get very interesting when we look at PCE data along with another data point in the GDP report: the personal savings rate (PSR), which is calculated as personal income minus expenditures and taxes.
Looking at the above chart, we can see that PSR was fairly level until the Financial Crisis when it understandably spiked up and PCE dropped. Now, in a post-crisis world, we can see that spending has picked up, but not at the expense of savings. This is a function of a strong labor market and the collapse in commodities, especially oil. The drop in goods prices resulting from lower commodities and the massive savings accrued to energy consumers has allowed for greater overall consumption. To have both consumption and savings going up simultaneously speaks volumes about the benefits of depressed commodity prices in a healthy consumption based economy. Going forward, this increase in savings will also provide a nice cushion for sustained consumption when inevitable downturns do occur. This is an important relationship to keep an eye on.
In support of the PCE data, this week we also got earnings reports from Visa (V), MasterCard (MA) and PayPal (PYPL). They all had pretty much the same thing to say and that was that people are spending money. All three companies reported strong growth in U.S. payment volumes and saw their stocks rewarded for great performance.
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I read an article on Bloomberg last week that touches on a popular narrative built around the existence of and divergence between a consumer and a corporate economy. The confusion comes from the fact that a healthy consumer is operating independently of a multi-national corporate world, which is beleaguered by the strong U.S. dollar and other external turbulence. This really should not be confusing when we already know, based on BLS employment data, that 83% of private employment in the U.S. is from the domestic services sector.
This leads right back to what drives GDP and shows the isolated nature of the U.S. economy. By no means is the U.S. economy completely free and clear from exogenous shocks, but it is able to withstand far more turbulence than financial media would let you think. Short-term volatility in the stock market is not a reflection of the health of the economy. This is why data points like PCE, savings rates and weekly unemployment claims are so important. There used to be a saying in the 1950s that went like this: As General Motors goes, so goes the nation. Well, the new saying should be this: As the consumer goes, so goes the U.S. economy.