Submitted by Andrew Zeitlin of Moneyball Economics [7] [7]
Connect the Dots
The University of Michigan’s Consumer Sentiment dropped from 91.9 to 85.7 – the lowest level in a year.
Meanwhile the S&P 500 remains down, -5% year over year and -10% since July.
[8]
It’s no coincidence that consumer sentiment stumbled at the same time that the stock market plunged.
Coming back from Summer vacations, households saw:
- The deepest drop in 401K wealth in years
- The most prolonged drop in years
It has been a shock because investors have been conditioned to ignore the dips; or better still, to buy the foolish dips (BTFD) because time-after-time the dips reverse within a few weeks and the market plows onward and upward. In July last year, the market tumbled 3% and then fully recovered within four weeks.
This time is very different. Household 401Ks tumbled 10% and remain down after ten weeks – deeper and longer. That’s a big break from the normal routine. Another difference is that previous market drops had identifiable causes: a government sequester, a Greek bond collapse, and so on. Not this time, and that will create a lot more anxiety and uncertainty because without a clear reason for the collapse there can be no clear remedy.
Investors are asking what’s wrong and they can’t help but notice reports of negative economic news, from a slump in payrolls to slowing factory production. From The Economist to USA Today, the media is discussing a global economic slowdown. Once it hits USA Today, Middle America is informed. Fears of a slowdown accompanied by a very real hit to household wealth will make US consumers defensive. We recently warned [9] that consumers were very sensitive to the stock market and that it would definitely hit spending if it did not reverse quickly.
[10]
August Retail
Because of the conditioned response and the expectation that all would return to normal growth, the stock market tumble did not hold back consumer spending in August. September, on the other hand, is a much different beast. Suddenly economic slowdown is a very hot topic.
Holiday spending and travel are now at risk. The next few weeks are when travel and holiday shopping budgets are set. Those budgets aren’t typically funded by stock portfolios or 401Ks, but if households suspect that a falling equity market is signaling a recession is coming, then job security anxiety increases. They know from experience that after markets turn bearish, the next shoe to drop will be jobs. That leads to frugality and consumer spending retrenchment. It becomes a self-fulfilling cycle.
Is the stock market down because of an impending recession? I don’t think so. First, because the US economy is more stable than it appears, once we look past the problems in the energy and materials sectors. The economy is slowing and this cycle is long in the tooth. The second reason is the timing, suddenness and breadth of the drop. From July into September, all asset classes fell. Gold wasn’t a safe haven in the carnage – it fell from $1,200 to $1,100. We had a race to the exits as everyone ran to liquidate, and by everyone we mean banks and big investors. The trigger for the sudden run was the strong possibility of a Fed rate hike in mid-September.
Adding to the race for cash was China’s yuan devaluation. A lot of investments were backed by the yuan, so when it dropped in value, a lot of big investors had to cover their very big bets. That meant cashing out of other positions. It launched another liquidity fire sale.