The S&P500 pushed higher 2.6% last week, on light volume, partly due to the holiday shortened week. Volatility eased, but also in part because many traders were on vacation.
The economic reports were light. The Treasury sold another chunk of debt, but we’ll need to wait a few weeks to learn how much of it (and other older Treasury debt) the Fed purchased. Initial claims came in at 550,000. Continuing claims remained above 6 million. The U.S. trade deficit widened slightly, primarily due to the increased cost of importing oil. Consumer sentiment rose, but consumer credit shrank.
Technically the S&P500 remains heavily overbought on the daily charts. It’s also toppy on the weekly charts. But it remains in a mildly sloping downtrend that began in December 2007.
Consumer credit fell off a cliff in July–down $21.6 billion from the prior month. To put this in perspective, the consensus estimate for this change was only $4 billion. And it was more than double the prior month’s drop of $10 billion. Worst of all, July’s drop was the largest monthly contraction in consumer credit since 1943, when naturally consumer credit (and spending) fell as the economy shifted resources to fight World War II.
And credit is contracting because of two reasons that will not go away anytime soon: 1) Banks are cutting down credit limits, hiking interest rates and fees, and even shutting down customer accounts entirely. 2) Consumers are themselves refusing to take on more debt; instead, they’re paying it down.
Why does all this matter?
Since the U.S. economy depends on consumers for 70% of its total activity, the implosion in consumer credit points to a large reduction in consumer spending, a reduction that is gaining momentum.
And this is a reduction that appears to be both large in magnitude and long-lasting in duration. In other words, America’s consumer is changing. This data suggests that our love affair with consumption may finally be over. Frugality is making its way back into our culture.
This is great news in the long run–we save more; we invest more for the future.
But this is absolutely terrible news in the short run, especially for the folks who are forecasting a strong V-shaped recovery in the economy. In virtually every recovery after WWII, the consumer led the way. The consumer, starting with modest debt loads, took on more debt and helped to power sharp recoveries in GDP growth.
But when the consumer–today–is saddled with near record levels of debt and desperately trying to pay it down, there is no way he, or she, can propel economic growth.
At today’s price levels, the U.S. equity market is discounting a 4% growth rate in the economy going forward. I’ll take the under on this one.