According to the CME Group 30-Day Fed fund futures prices, the probability of a Fed rate hike next week is now 87%.
The message being sent from the stock market and economic activity, however, implies investors don't think the economy is ready for it.
In yesterday's column, "Rate Hike Isn't Necessarily a Done Deal," I observed that a negative earnings report from Toll Brothers (TOL) should be considered as an early indicator of what is likely to occur throughout the homebuilders sector.
The reason for this is pretty basic. In an economic expansion, consumption increases lead and companies catering to higher-income consumers lead those targeted more broadly. This process should be evidenced across the entire spectrum of consumer activities.
High-end home sales should lead those of builders serving the entry-level market. The same is true for grocery store sales, apparel, furniture, etc., and I've discussed these all in numerous columns over the past several years.
Speculators, especially those attempting to capture long-term macroeconomic trends before they are evident in economic reports, are aware of this as well and the performance of companies catering to the wealthy should reflect this shift in expectations for economic expansion.
In this column, I'll consider the performance of branded vs. unbranded apparel manufacturers and retailers, which I last addressed in May in the column, "Cheaper Clothing Is Winning the Branding Battle."
The pattern of the past few years has been that companies catering to the broader consumer base through the manufacturing and retailing of unbranded apparel have greatly outperformed those with higher-end products and consumers.
If the economy is shifting toward expansion, as Fed Chair Janet Yellen claims, this process should have reversed over the past six months with the stocks of the higher-end companies outperforming.
This has not been the case, though.
In the past six months, the trend of the discounters outperforming has continued.
Of the seven unbranded discounters I've tracked over the past few years, four are up and three are down over the past six months.
TJX (TJX) is up 10%, Ross Stores (ROST) is up 12%, Costco (COST) is up 22% and Amazon (AMZN) is up 59%.
Burlington Stores (BURL), Target (TGT), and Wal-Mart (WMT) are down 7%, 8% and 18% respectively.
Of the 11 companies either manufacturing or reselling branded apparel, nine are down over that period of time, continuing the pattern that has persisted for the past few years.
Abercrombie & Fitch (ANF) and L Brands (LB) are up 19% and 17%, respectively, but the rest are all down and most by horrific percentages: Aéropostale (ARO) 81%, American Eagle Outfitters (AEO) 2%, Express (EXPR) 7%, The Gap (GPS) 29%, Ascena Retail Group (ASNA) 33%, Urban Outfitters (URBN) 42%, Chico's FAS (CHS) 28%, Ralph Lauren (RL) 13% and PVH (PVH) 31%.
Grocers exhibit a similar pattern of continuing dichotomy of performance, with Whole Foods Market (WFM) having a one- and two-year return of minus 36% and minus 45% vs. Kroger (KR) with plus 33% and 104%.
This continuing pattern is evident as well in the general merchandise retailers. Nordstrom (JWN) has one- and two-year stock returns of minus 22% and minus 5%, while Macy's (M) has posted minus 26% and minus 25%.
At the other end of the spectrum, the deep discounters, Dollar General (DG) has returned plus 4% and plus 18%, and Dollar Tree (DLTR) has done even better with plus 18% and plus 43%.
If the stock market is a forward-looking discounting mechanism of future cash flow expectations that comport with the consumption cycle of the wealthiest increasing their consumption ahead of the broader consumer base, the signals being sent by the performance of these stocks and sectors is indicative of an economy that is not only not on the cusp of an acceleration but continuing to decelerate toward recession.
These patterns are also indicative of the asymmetry of risk that Fed Governor Lael Brainard spoke about last week.
Her message was that the potential negative economic consequences of raising rates too soon or too quickly are greater than the consequences of moving late, specifically in this environment, because with the Fed funds target rate already at 0%, there are no conventional means of response available to monetary policy makers in the event that the economy responds poorly to a rate hike.
