​As Sam Sees It: Are Consumers Confident Enough to Support the Bull Market?

Sam Stovall  |

Each week, we tap the insight of Sam Stovall, U.S. Equity Strategist for S&P Global Market Intelligence, for his perspective on the current market.

EQ: Last week, the Fed said that it expected to raise rates fewer times than it originally planned. This week, we’re getting murmurs that a rate hike could come as early as April. Granted, the comments were from three individual non-voting Fed members. What do you make of this?

Stovall: I think that the Fed is reminding us that even though they have reduced the expected number of times that they plan on raising rates this year from four times to two times, they’re still keeping the rhetoric pressure on to indicate that they will indeed raise rates two times this year. Most people think that it’s going to be June and December, but it could certainly be as early as April. So the Fed is still going to be using data to help make their decisions, but I think what they’re saying is don’t just assume that it’s going to be June and December, and then forget about it. If the data warrants it, they may raise rates in April.

EQ: The market has had a nice bounce off the February low. The S&P 500 is up about 10%, but some groups did significantly better. On a sub-industry level, Diversified Metals & Mining is up almost 70%, Coal & Consumable Fuels up about 50%, Precious Metals up about 48%, Real Estate Development up about 40%, and Oil & Gas Drilling up about 35%. Why are the hard asset groups seeing major moves?

Stovall: I think it’s a combination of things. First off, because the Fed has said that it’s only going to raise rates twice instead of four times, it’s helped some of the higher-yielding asset classes, such as the Dividend Aristocrats on the S&P 500 and S&P 400. Real Estate Investment Trusts (REITs) and preferred stocks have also done pretty well, and the same can be said for Utilities and Telecom on a sector level.

But you’re right that the S&P GSCI Index, which is our commodities index, has also done well because if the Fed is less likely to be raising rates, then at the same time, there is a reduced likelihood that the dollar will be strengthening. With a potential easing of the US dollar as we’ve been seeing over the past couple of weeks, it has taken pressure off of commodities in general—oil prices in particular—and has allowed these sectors that are more commodities-linked to do better.

EQ: The Fed comments may be a result of the general sentiment that the US economy is not facing a recession. In this week’s Sector Watch report, you looked at two key economic indicators that supported that sentiment. What are the indicators that you looked at and where do we stand based on their readings?

Stovall: I looked at housing starts, which I think is probably the more important indicator. Going back to 1959, a 30% decline on a year-over-year basis has typically preceded or accompanied all economic recessions with the exception of one. It did not decline very much ahead of the 2001 recession. With that said, the 2001 recession was also the shallowest since the Great Depression. But for the other seven recessions since 1959, we did see a 30% decline in housing starts.

It’s not necessarily because housing or construction is such a big component of the US economy, but rather because it is such a big reflection of consumer confidence. Nobody is really going to buy the largest asset that they’re probably ever going to own in their lives if they are worried about keeping their jobs and their salaries. Consumer confidence has traditionally been a good indicator because when it is high, it usually does not lead to recession.

EQ: Consumer confidence, though still at a good level, did see a bit of a decline while housing starts are still looking strong. One potential caveat to housing demand is that a lot of the housing activity is fueled by investors rather than consumers. Could this be something to pay attention to when looking at housing data as a gauge for consumer confidence?

Stovall: Sure, you definitely don’t want to leave any stone unturned if you can help it. If you have a lot of investors doing the buying rather than consumers, then that could be pointing to possible weakness in consumer confidence. In fact, we’ve had several months in which the Michigan Consumer Confidence Indicator has been sliding. It is currently off 3.8% year-over-year.

However, history has said but does not guarantee that we usually need to see about a 20% decline or more in consumer confidence before we have traditionally slipped into recession. While a 3.8% decline is certainly not the direction that we would want it to go in, at the same time, we’ve really not gotten to a real point of concern regarding consumer confidence, which usually needs to happen before we end up slipping into recession.

EQ: You noted that housing starts are actually up 31% year-over-year. With that in mind, it would be logical to assume that this would be good for homebuilding stocks. What’s the bull and bear case for these stocks?

Stovall: The main bear case is that should we find that the Fed is behind the curve in terms of inflation, then they probably will have to go back to raising rates perhaps three or even four times this year. Homebuilding stocks do not like higher interest rates. Take 1994 for example. Back then, the Fed raised interest rates seven times in 12 months, pushing the Fed funds rate from 3% to 6%. In that full calendar year of 1994, the S&P 500 was down 1.5% in price, yet the homebuilders were down 35.5% in price. What I’ve also found is, from a broader market perspective, whenever housing starts are up more than 30% on a year-per-year basis, that’s very good for stocks in general.

Since the late ‘50s, whenever the year-over-year percent change in housing starts has exceeded 30%, the market rose by an average of 10.5% and posted a positive result about 72% of the time. Basically, with housing starts up as much as they are, history would say that we’re likely to see an improvement in stock prices in general, rather than a decline. I think that the big worry for homebuilders is whether the Fed needs to become more aggressive rather less aggressive as they have already this year.

The following is a list of homebuilding stocks covered by S&P Global Market Intelligence’s equity analysts that carry 4-STARS (Buy) recommendations: Beazer (BZH $9.14), CalAtlantic Group (CAA $33.00), DH Horton (DHI $30.21), Hovnanian Enterprise (HOV $1.60), KB Homes (KBH $13.72), Lennar Corp. (LEN $47.66), Meritage Homes (MTH $36.19), Pulte Group (PHM $18.65), and Toll Brothers (TOL $29.59).

For more from S&P Global Intelligence, be sure to visit www.getmarketscope.com.

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not necessarily represent the views of equities.com. Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to: http://www.equities.com/disclaimer.

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