by Louis Navellier
May 24, 2022
The economic news emanating from Britain and the European Union (EU) is continuing to come in weak, as many European countries are expected to slip into a recession this year. For example, real GDP in Britain has declined by 0.1% in March after being revised to unchanged in February. Additionally, Britain’s industrial production declined 0.2% in March for the second straight monthly contraction.
Industrial production in the eurozone was even worse, contracting 1.8% in March as France, Germany, and Spain all contracted, with only Italy bucking the negative trend. I’ll have more to say about Europe in a minute, but the biggest economic collapse is unquestionably happening in China, where April retail sales declined by a whopping 11.1%, April industrial production dropped 2.9%, and manufacturing declined 4.6%. The biggest surprise was that unemployment in China’s 31 largest cities climbed to a high of 6.7% in April, so there is no doubt that China’s Covid-19 lockdowns have devastated that economy.
Although Shanghai is finally starting to reopen, Beijing and other key provinces still struggle under Covid-19 lockdowns. Reports are also emerging that Chinese President Xi Jinping (self-styled “President for Life”) may not retain power as criticism mounts from pro-business members of the Communist Party.
I should add that China’s National Bureau of Statistics announced on Wednesday that new home prices edged 0.11% lower in April, which seems like a tiny number, but it marks the first price decline in over six years (since November 2015). New home prices rose in only 30 of the 70 cities surveyed. This new home price decline comes in the wake of the Evergrande default and China’s government crackdown on housing speculation. Many middle-class Chinese were buying apartments in high rise buildings as an investment, and they never occupied many apartments, so their real estate bubble is being “pricked.”
The big surprise from China was that the People’s Bank of China on Friday cut its benchmark rate on loans of five years or more by 0.15% to 4.45%, down from 4.6%. This is China’s biggest single rate cut since 2019, since the Chinese central bank normally moves in only 0.1% increments. (The People’s Bank of China’s benchmark rate for one-year loans remains at 3.7%.) Clearly, China is making this move because it needs to contain its growing housing crisis and re-stimulate economic growth.
While inflation may be ebbing in China and the U.S., inflation is still accelerating in Britain and the rest of Europe. Britain’s Office of National Statistics announced that consumer prices rose at a 9% annual pace in April, the highest level in over 40 years, and up from a 7% annual pace in March. Soaring rates for electricity and natural gas accounted for much of the escalating consumer inflation in April.
Complicating matters further, energy costs are priced in U.S. dollars, but the British pound has fallen over 12% to the U.S. dollar in the past year, so the cost of imported energy and other items is rising due to a weak pound. The Bank of England has been raising its key interest rates, but so far, these higher rates have not shored up the pound. Even worse, the euro (with its negative key interest rates) has fallen over 13.5% compared to the U.S. dollar in the past year, so inflation in the eurozone is rising even faster.
Germany’s National Statistics Agency announced on Friday that wholesale prices based on its Producer Price Index (PPI) soared 33.5% in April compared to a year ago as energy prices soared 87.5%, led by a 154.8% increase in natural gas and an 87.7% surge in wholesale electricity. Complicating matters further, wholesale metals prices rose 43.3% in the past 12 months. The European Central Bank (ECB) is supposed to raise its key interest rate in July, but right now the ECB’s benchmark rate remains at a negative -0.5%.
Once again, the weak euro is part of the problem. For instance, while gold is flat so far this year in U.S. dollars, it is near a record high in euro terms. Germany’s Finance Minister, Christian Lindner, warned that a weak euro risked driving inflation higher in the eurozone and encouraged the ECB to raise key interest rates. Specifically, after a G7 meeting of finance ministers, Lindner said, “Inflation risks emerge from the development of the external value of the euro, especially in view of central bank policy in the U.S.”
In the last few years, the ECB has been led by French, Italian, and French presidents – in that order – and it is notorious for ignoring the #1 European power, Germany, and its Bundesbank. German central bank governor, Joachim Nagel, who is on the ECB’s rate setting committee, said, “We need to take decisive action. … Negative interest rates are a thing of the past,” adding that, “When you’re in an inflation environment around 7% … I think the conclusive decision out of that is that interest rates have to go up.”
The U.S. is blessed with a strong U.S. dollar, putting downward pressure on commodity prices (since commodities are priced in U.S. dollars). The Wall Street Journal dollar index has risen an impressive 8% this year. A strong dollar is also expected to put downward pressure on import costs and further reduce inflation. Friday’s Wall Street Journal raised the possibility that the euro may hit parity with the U.S. dollar after hitting a low of $1.035 earlier this month. In light of Germany’s soaring PPI and the ECB’s inaction in the face of rising inflation, the euro could dip to 95 cents per dollar in the upcoming months.
The only “glitch” associated with a strong U.S. dollar is that approximately half the S&P 500’s sales are outside of the U.S., so some multinational companies may post slower sales growth from getting paid in weak currencies and operating in slowing economies around the world. As a result, domestic-centered stocks (like Costco or Lowe’s) are expected to continue to outperform some multinational stocks (like McDonald’s or Procter & Gamble) for the foreseeable future.
U.S. Economic Statistics Continue to Outshine Other Nations
The Commerce Department on Tuesday announced that retail sales rose 0.9% in April, just slightly less than economists’ consensus estimate of a 1% increase. The most bullish news was that March retail sales were revised up to a 1.4% increase, up from the 0.7% previously reported. Vehicle sales surged 2.2% in April, which is a good sign that consumers are buying big ticket items. Interestingly, gas station sales declined 2.7% in April, so excluding gasoline sales, retail sales rose an impressive 1.3%. Miscellaneous store retailers soared 4% in April, while spending at bars & restaurants rose 2%. Also notable is that on-line sales rose 2.1% in April. The bottom line is that in the past couple months, consumers are spending more than the underlying rate of inflation, which bodes well for continued strong GDP growth.
I should add that thanks to healthy consumer spending, both Target and Walmart announced that their first-quarter sales rose, but both companies were impacted by higher transportation costs and supply chain woes. While Walmart continues to capture more on-line market share, Target posted impressive same-store sales growth of 3.3%. Unfortunately, Target’s operating margin declined to 5.3% vs. 8.13% in the same quarter a year ago. As a result, it will be interesting to see if Target decides to raise its prices.
I mentioned in a podcast last week that Wall Street is trying to push a narrative that consumer spending is sputtering as consumers struggle to make ends meet. This is definitely happening on the subprime end, since Equifax reported that the proportion of subprime credit cards and personal loans that are 60 days late are now rising faster than normal. Specifically, these subprime delinquencies have risen for eight consecutive months through March. In February, 8.8% of subprime vehicle loans were at least 60 days delinquent, but those delinquent subprime vehicle loans fell to 8.5% in March. Overall, as food and gasoline prices continue to rise, subprime borrowers will likely continue to struggle to make ends meet.
Turning to GDP, the Atlanta Fed revised its second-quarter GDP estimate to an annual pace of 2.4%, down slightly from its previous estimate of a 2.5% annual pace. The Atlanta Fed remains right in the middle of the economists’ consensus estimates, ranging from 1.3% to 4% growth. Due to the big upward revision for March retail sales, I expect that the Commerce Department will upgrade its first-quarter GDP.
The Commerce Department on Wednesday announced that building permits declined 3.2% to an annual pace of 1.819 million, led by a 4.6% decline in single family home permits. Additionally, the Commerce Department announced that new housing starts declined 0.2% to an annual pace of 1.724 million, due to a 7.3% plunge in single family home starts. In the past 12 months, housing starts have risen 14.6%.
The National Association of Realtors on Thursday announced that existing home sales declined 2.4% in April to an annual pace of 5.61 million. In the past 12 months, existing home sales have declined 5.9%. The inventory of existing homes for sale at the end of April is 1.03 million, a 2.2-month supply. Due to this tight supply, median home prices rose to a record $391,200, up 14.9% in the past 12 months.
The Labor Department on Thursday announced that unemployment claims in the latest week rose to 218,000 vs. a revised 197,000 in the previous week. This represents a steady rise in continuing claims, since they bottomed out at 168,000 on April 2nd. Continuing unemployment claims came in at 1.317 million compared to a revised 1.342 million in the previous week. Overall, the labor market remains relatively healthy, so continuing claims should continue to decline.
In summary, our best defense remains a strong offense of fundamentally superior stocks that benefit from high energy and commodity price inflation, especially companies being paid in U.S. dollars. Our stocks benefit from high prices for copper, crude oil, natural gas, fertilizer, lithium, and other high commodity prices. These higher prices are expected to persist as the European Union (EU) strives to break away from Russian energy sources. Normally, natural gas prices can soften in the summer months, while crude oil can ebb in the fall as seasonal demand drops, but due to all the LNG and crude oil exports to Europe, these seasonal pressures are lower. As a result, our big bet in energy stocks is looking to be safe for now.
The electric vehicle (EV) revolution remains alive and well in Europe, but an acute battery shortage has pushed some popular EVs up to a two-year waiting list if you order an EV. Furthermore, due to soaring prices for cobalt, lithium, and nickel, some EV manufacturers have closed their long-term order books. Many of them will likely need to follow Tesla and raise prices due to soaring lithium-ion battery costs.
Navellier & Associates owns Costco Wholesale Corp. (COST), Walmart (WMT), Lowes Companies (LOW), Procter and Gamble Co (PG), Target Corp. (TGT), and McDonald’s Corp. (MCD), in managed accounts. A few accounts own Tesla (TSLA), per client request in managed accounts. Louis Navellier and his family own Costco Wholesale Corp. (COST), and Target Corp. (TGT), via a Navellier managed account and Costco Wholesale Corp. (COST) in a personal account. He does not own Tesla (TSLA), Lowes Companies (LOW), Procter and Gamble Co (PG), Walmart (WMT), and McDonald’s Corp. (MCD), personally.