Examining the latest economic crop

Last week saw the arrival of a freshly picked economic data crop.  Let’s take a close look at some of the important data…

• In August U.S. consumer spending rose by 0.4%. This was the same level as for July.

Analysis: While it is encouraging to see consumer spending both positive (up 0.4%), and a non-downward trend, the fact is that consumer spending is anemic right now.  Until the U.S. unemployment rate improves I continue to expect meager increases in consumer purchases.  This means that U.S. economic growth is also likely to slow since consumer spending is around two-thirds of U.S. economic output.  And obviously you never want just 0.4% growth in two-thirds of your economy.

Importance grade: 10; along with the unemployment rate, there is no more important piece of economic data than the level of U.S. consumer spending.

• Personal incomes rose 0.5% in the month of August.

Analysis: Often in analyzing these data the names are so bland that it is difficult to discern what the heck the data represent.  Unfortunately, this makes them more difficult to understand.  Personal incomes up half a percent means that people had a little bit of extra money to spend in the month of August than they did before.  I feel it is always important to compare the personal income figure to the consumer spending figure.

Ideally, consumers have a healthy combination of spending, so that the economy grows, and savings, so that the consumer financial situation is less risky.  In other words, just like any other investment you need to focus on return (spending growth) and risk (savings growth).

In August people earned more than they spent.  Incomes were up 0.5% while spending was up only 0.4%.  So logically you would expect the savings rate to be up as well (see below).  There is meaning in these simple comparisons and you can do it yourself – I promise – however, there is also value to a more in-depth analysis.

While personal incomes were up 0.5% in August, unfortunately much of that income came from additional government payments to households such as Social Security.  When you back out those payments, personal income growth was flat with the month of July.  Clearly this is not a good sign.  Additionally, this jibes with overwhelming common knowledge that businesses just are not hiring new employees or giving generous paycheck raises to folks.

So we have our second economic data point in a row that is flat.

Importance grade: 10; long-term readers of the blog know that I don’t hand out 10s to much data.  In fact, I pride myself on examining the useful and the useless data because there is so much noise out there data-wise that it is difficult to know which data are important.  But if two-thirds of the U.S. economy is consumer spending and yet personal income growth is flat, you clearly have an undesirable situation.

• The savings rate was 5.8% in August.  That figure represents a slight increase from the July figure.

Analysis: Another confusing aspect of analyzing data is telling the difference between a straight percentage and a percentage increase in a percentage, that is, growth.  The above data were growth figures and represented dynamic change.  While the savings rate is simply a flat percentage saying that consumers are currently saving 5.8 cents of every dollar that they earn.  In August they were saving a slightly higher amount than in July.  If we wanted to look at the data in a similar fashion to how we evaluated consumer spending and personal income growth we would calculate the percentage change from July to August.  Instead, these data (confusingly) are reported differently.

I am a big fan of savings.  For over a decade the U.S. consumer spent more than he earned.  This excess spending was funded by the consumer in two ways: a depletion of savings and a use of debt, often credit card debt, to extend her purchasing power.  Clearly in the long-run an economy cannot afford to borrow more than it makes as eventually lenders figure out that there is no collateral to back the loan.  Ouch!  Right now U.S. consumers are getting their financial houses in order.  This is one of the reasons for anemic consumer spending and economic growth right now.  In the short-run this creates slow economic growth, but in the long-run it leads to greater economic health and stability.

So again, I am a big fan of savings and am glad that the savings rate was up in August and has been up for almost two years now.  This bodes very well for the long-term health of the U.S. economy.

Importance grade: 6, 10; the two values are for two different time frames: short and long-term.  In the short-run it is not particularly important that the U.S. consumer is saving more money.  In fact, it is a drag to the economy.  However, in the long-run it is critically important that consumers have a healthy combinatin of both spending and saving.

• August saw the University of Michigan consumer sentiment index rise to 68.2 from 66.6.

Analysis: Here is another tricky data element because the index value of 68.2 means what exactly?  I’m not entirely sure either.  However, the trend is that consumer sentiment rose and is getting closer to the mid-70s levels seen earlier this year when the economic recovery seemed much stronger.

You may have thought to yourself many times that the mood of the consumer is very important to the economy.  You would be right.  Grumpy or depressed consumers just don’t buy as much stuff as happy and elated consumers.  That’s what the consumer sentiment index attempts to evaluate.

Briefly: it’s a good thing that it is up and is getting stronger.

Importance grade: 8; while I am encouraged that consumers are feeling better about the world, consumers are also notoriously backward looking in evaluating things.  That is, they forecast the future based on what has just happened.  So an increase in consumer sentiment is typically in response to economic data that have occurred in the more distant past.  In this case, it is likely that the U.S. consumer was relieved by the fact that the economy didn’t melt down in March, April or May as was being talked about at the time.  However, this isn’t particularly relevant to the future.  However, improving consumer sentiment does mean that he or she is more pre-disposed with spending.

• In August manufacturing activity declined by 1.9% to a level of 54.4 as measured by the Institute of Supply Management’s index.

Analysis: That manufacturing has slowed is not a good sign.  The reason is that manufacturing typically requires a large upfront investment in materials in order to make something.  Orders for these raw materials often have to anticipate and precede demand.  So a decline in manufacturing activity frequently presages a decline in the overall economy.  However, don’t start playing “Taps” on your trumpet just yet because a level of 54.4 is above 50.  And why is that important?  Because of the way the index is calculated, any number above 50 still represents growth.  In this case, manufacturing activity/growth slowed, but did not turn negative.

I am fond of saying that one data point does not make a trend.  Even two data points only make a line.  You need at least three data points to begin to discern a real trend.  In this case, we only have one negative data point and the jury is still out as to whether this is something we should be concerned about or not.

I know what you’re thinking: but by the time we have confirmed we are in a downturn again, it will be too late, so what can we do?  It’s true, this is the perennial investment problem: data only answer questions about the past, but as investors we are interest in the future.  But, what do we do to better understand the future?  That is the subject of a future blog post and not coincidentally the subject of my new book (!) just published:

The Intuitive Investor: a radical guide for manifesting wealth

Order it from Amazon, or from me personally.  If you order it from me personally you will pay the cover price, but you will also get an autographed copy directly from me.

Importance grade: 6; manufacturing makes up such a low percentage of our services driven economy that it simply is just not that important any longer.

In my next post I summarize what all of this data mean for you right now.

Jason