Strike While the Iron Is Hot

By Alexandria | Hightower on September 19, 2023

Week of September 18, 2023

Economic Strength in Numbers. Atlanta Fed GDPNow predicts Q3 GDP will expand +4.9% q/q. August industrial production was above last year’s levels and expanded for the second-consecutive month, driven by durable goods – a significant component to GDP – and energy. Consensus expected the September Empire Manufacturing Index to contract, but it expanded. Retail sales are experiencing a bounce-back from the early-summer slowdown, with broad strength. Initial claims remain pinned around 220,000 – far away from 350,000 recessionary levels. We are seeing recession predictions for 2023 being pushed out again as resilience has become embedded across the U.S. economy – driven by jobs, savings and spending. The S&P 500 is currently above strategists’ year-end consensus.

Better final demand and overall economic activity is leading to higher inflation, evidenced by CPI. CPI increased to +3.7% y/y in August, compared to +3.2% low in July. Energy-related prices and shelter-related service costs created upward pressure on inflation. We are paying close attention to labor negotiations and wage strikes happening across industries, as wage increases get passed down to consumers in the form of price.

Chart 1: Remaining Data-Dependent on Inflation, Still Above Fed’s Target 2%[1]

Home prices are still elevated. Homebuilder Lennar (LEN) underscored the strong housing demand in its Q3 earnings report. Home deliveries (+8% y/y) and new orders (+37% y/y) increased, while the average sales price ($488,000) ticked down slightly versus last year’s ($500,000). The average 30-year fixed mortgage rate increased to 7.18% last week – anchored above 7% amid economic strength and inflation.

Overall, the U.S. economy is doing better and that makes us feel good through the rest of the year. We are watching the impact from employee strikes and acknowledge that the restrictive Fed policy will continue to have lagged impacts.

• Employee Strikes. Employers have held onto legacy wage contracts that lag inflationary prices, and unions are latching onto higher productivity, high job openings and higher inflation to negotiate preferred wages and benefits for their employees. Writers, shippers, pilots, baristas, factory workers and employees in more industries are striking. Higher labor costs will push through in price. According to the Economic Policy Institute, the top 1% of works have seen wages rise 145% since 1979, while the average annual wages of the bottom 90% increased just 16%.[2]

The latest industry to strike is the United Auto Workers union, which is taking aim at its employers Ford, GM and Stellantis.[3] CEO compensation from these employers has grown more than 40% in the past four years. UPS (UPS) recently negotiated new labor agreements and quickly announced a 5.9% shipping rate increase. American Airlines (AAL) approved new contracts that will raise pay more than 40% over four years and quickly cut profit forecasts, citing higher costs.[4]

When people make more money, they spend it. Consumer sentiment remains high, inventories are low – supporting business profits – and back-to-school shopping is a good indicator ahead of the holiday season. Walmart (WMT) raised its annual profit forecast and last week, its CEO Doug McMillon said, “things are better than I would have expected them to be when we started the year,” as potential headwinds from higher borrowing costs and student loans are being offset by saving yields and higher wages.

• China Stimulus Working. China’s August activity data reported better than expected. Industrial production, services and retail sales all rebounded from July levels, beating expectations. Overall, China’s economic activity is still subdued and any conclusion for steady recovery is premature, but it is a sign that China’s incremental stimulus, which began in late July, is having its intended impact.

China’s weak property market maintains a challenging outlook. Outside of real estate, we are focused on an improving consumer and U.S. companies with exposure to China’s 900 million influential and loyal consumers.

• Inflation and Economy Keeping Longer Yields Elevated. Hotter-than-expected headline CPI and PPI reports led to higher Treasury yields across the curve; the 10- and 30-year lead selloffs which decreased the 2/10 inversion finished to -71 bps. Market participants and the Fed continue to diverge in the rate path through the end of the year, with the Fed penciling in one more hike while market participants have priced in less than a 50% chance.

High yield spreads have continued to tighten, reaching new YTD lows last Thursday of +404 bps. Muni yields followed Treasuries higher across the curve on the week.

• The Week Ahead.

Earnings – Tuesday: AZO; Wednesday: FDX, GIS; Thursday: DRI.

Economics – Monday: NAHB Housing Market Index (September); Tuesday: Building Permits and Housing Starts (August); Wednesday: September FOMC Meeting; Thursday: Philadelphia Fed Index (September).

Return for Selected Indices^[5]

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[1] Source: FactSet (chart). As of September 17, 2023.

[2] Source: Economic Policy Institute. As of September 17, 2023.

[3] Source: CNN. As of September 17, 2023.

[4] Source: CNBC. As of September 13, 2023.

[5] Source: Bloomberg. As of September 17, 2023.