by Bryan Perry

August 17, 2021

The current investing landscape has been full of surprises and sudden changes that have kept investors and fund managers guessing as to how best to be positioned – even for just the month ahead. It was only two weeks ago that the 10-year Treasury rate was knocking on the door of the 1.0% threshold before a blowout jobs report and the passage of an infrastructure bill in the Senate infused the reflationary stock sectors and touched off a frantic bout of selling in the Treasury market, taking the yield back to 1.37%.

Ten-Year Treasury Note Index Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

At first glance, this looked to be a green light for the stock market to pad its gains – and in fact, it did. As of last Friday, both the Dow and S&P 500 closed at new all-time highs with Nasdaq just a whisper below.

It was a telling moment for the market in that it somehow shrugged off what was a big downside surprise in consumer confidence. The preliminary University of Michigan Consumer Sentiment Index for August saw a stunning decline to 70.2 (consensus expectation: 81.6) from the final reading of 81.2 for July. That is below the April 2020 low of 71.8, when fear of COVID-19 was sweeping the land. This marks one of the largest monthly declines of the past 50 years. Two key data points factored in the report: The Current Economic Conditions Index fell to 77.9 from 84.5 and the Expectations Index dropped to 65.2 from 79.0.

According to the analysis by Briefing.com:

“The key takeaway from the report is that the plunge in consumer sentiment wasn’t just related to concerns about the Delta variant. It was linked to all aspects of the economy…from personal finances to prospects for the economy, including inflation and unemployment. Moreover, the deteriorating sentiment was seen across income, age, and education subgroups, and observed across all regions.”

University of Michigan Consumer Sentiment Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Over two-thirds of U.S. GDP is consumer-dependent, so when a report like this crosses the tape and the market doesn’t give back 3% or more, then it stands to reason that the market narrative is well anchored in the notion that the Fed will maintain QE for longer than what was thought just a week ago.

Leave no doubt, this consumer sentiment bombshell is a shocking report on the heels of a banner earnings season, accompanied by robust corporate guidance for the third quarter and the balance of 2021. Looking beyond Covid restrictions, it would seem from within the body of the report that inflation and personal finances are the main culprits, not so much the employment component. After all, the most recent labor data showed a robust hiring atmosphere with “For Hire” signs posted everywhere you look. There has also been a sudden and sharp pullback in the Personal Savings Rate – back to pre-pandemic levels – implying that Americans went on a spending binge in the second quarter as the economy reopened.

A scarcity of homes, prime rentals, new cars, used cars, and travel options have pushed prices for these and scores of other items and services much higher. American consumers gladly paid those premiums, at least for the past three months, according to the chart below. But now, with both federal and most state governments already scaling back and eliminating monthly assistance and forbearance, the pressure to make household budgets balance falls squarely back on the consumer, at least in the short term.

Personal Savings Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

The $250 to $300 per month cash payment per child under 17 (up to $3,600 max per child) has started, but the long-running pandemic unemployment insurance will expire September 6. The ongoing healthcare crisis has people holding out for an extension – and there are advocacy groups calling for extending these programs – but there is little political momentum behind them now. (Without supplements, state benefits replace about 38% of a worker’s previous wages on average, according to the Labor Department.)

For consumer sentiment to crash like it did this month, this signals future discretionary spending is going to slow and inflation in all its forms may not be as transitory as the Fed had forecast. This was clearly reflected in last week’s release of the Producer Price Index for July, which showed final demand gaining 1.0% month-over-month, twice the consensus of a 0.5% gain, following a similar 1.0% increase in June.

According to the Bureau of Labor Statistics, on a year-over-year basis, the Producer Price Index for final demand was up 7.8% on an unadjusted basis, versus 7.3% in June. That is the largest advance since this series was first calculated in November 2010. The main takeaway from this report is that producers are without a doubt paying higher prices for all manner of inputs, which would likely result in them passing on those higher costs to consumers. This is just for goods; inflation in the service sector is also way up.

Final Demand Producer Price Index Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

I believe this inflation fear is the largest contributor to the trap-door consumer sentiment decline – a trend that doesn’t look to be tempered anytime soon, with ongoing global supply chain bottlenecks still very prevalent in key industries. Examples: Custom home builders can’t get Viking ranges until early 2022, or Sub-Zero refrigerators until December due to shortages of semiconductors for high-end appliances.

As for the market’s non-response – the major averages likely held up well because the rush back into the few mega-tech stocks helped keep those indexes buoyant since they represent roughly 25% of total assets in the S&P 500 and 50% in the Nasdaq. That rotation back into big-cap tech was glaringly obvious in Friday’s session as risk was reduced in consumer discretionary, financials, energy, and industrials. Health care, utilities, consumer staples, and REITs also outperformed, making a more defensive tone by Friday.

One last observation is the deterioration of the NYSE Advance/Decline Line in June and July, having stabilized this month, albeit on lighter volume due to seasonality (vacations). This bears close monitoring, as it is a sign the bull market is getting thinner. Fewer stocks will lead or participate in further gains.

New York Stock Exchange Advance/Decline Line Chart

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

To sum it up, there is a firm bid under the market, but it is more skewed to those best-in-class stocks.

All content above represents the opinion of Bryan Perry of Navellier & Associates, Inc.

Please see important disclosures below.

About The Author

Bryan Perry

Bryan Perry
SENIOR DIRECTOR

Bryan Perry is a Senior Director with Navellier Private Client Group, advising and facilitating high net worth investors in the pursuit of their financial goals.

Bryan’s financial services career spanning the past three decades includes over 20 years of wealth management experience with Wall Street firms that include Bear Stearns, Lehman Brothers and Paine Webber, working with both retail and institutional clients. Bryan earned a B.A. in Political Science from Virginia Polytechnic Institute & State University and currently holds a Series 65 license. All content of “Income Mail” represents the opinion of Bryan Perry

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