Economic Outlook 2024
BML Economic Outlook for 2024
The US consumer has been robust post-Covid, due to low unemployment and a willingness to draw down on excess savings. This in turn has been helped by longer duration mortgages reducing the sensitivity to interest rate rises. However, we’ve seen unemployment tick up in 2023 and excess savings will soon be diminished. A period of lower economic growth seems likely, with real GDP growth forecasts of 1.2% for 2024 and 1.7% for 2025 compared to a 2.3% average for the decade 2009-2019. How does this environment reconcile with stock market fundamentals going into 2024? EPS growth of 12% sounds high, but relies on revenue growth of 4.4% and margin recovery back to 2022 levels. Our view is that 2024 forecasts are reasonable compared to real GDP growth of 1% to 1.5%, but too high if the US enters a recession. We don’t currently forecast a recession for 2024, but we’re watching economic indicators closely.
Stock market projections
Current market expectations are for 12% EPS growth for the S&P500 in 2024. This looks high when economists are warning of recession risk. We can adjust the index EPS calculation methodology to look at the median EPS growth, which is 9.1%, reducing the skew from extreme comps. Extracting buybacks, the net profit growth median is 8.2%, and the median revenue growth is 4.4%. Again, be cautious in relying on aggregated data, but we can compare that 4.4% to current nominal GDP growth forecasts of 3.9% and accept that it’s within a reasonable error zone. The increase in profit margins is strong, representing a bounce-back after weak 2023 margins. 2022 profit margins came in at 13.0%, and 2023 is forecast at 12.4%. The margin increase forecast in 2024 takes that back to 12.9%, as supply chain issues and cost inflation subsides. The current market forecasts look broadly like consensus GDP increases in sales, and margins returning to 2021 and 2022 levels.
Source: Bloomberg, BML research
Is this too optimistic?
The consensus is for ongoing below-trend growth in 2024 with US real GDP growth forecast at 1.2%. Unemployment rates are likely to continue to rise and further disinflation is in prospect. While businesses will continue to benefit from lower cost pressures, the likelihood of subdued growth in real demand and rising spare capacity will mean that firms can’t hide in inflation like they have over the past year or two.
That backdrop will prove more challenging for profits growth. While we aren’t uber bearish on the year-ahead outlook for the US economy, a period of well-below-average growth seems likely. Risks to the downside are also more numerous than those to the upside.
Growth is slowing in the US economy
Growth in the US economy is slowing as we approach the end of the year. The unemployment rate has lifted 0.5ppts from the low of 3.4% in January 2023 to 3.9% in October but remains lower than 94% of the time since 1970. Business survey measures of activity have also softened and suggest that the underlying pace of growth may currently be softer than indicated by recent GDP prints. Current forecasts are for unemployment to rise to 4.4% in 2024.
Some reversal of recent economic strength isn’t too surprising given the impressive rebound in US GDP since the pandemic. Compared with the level of output at the end of 2019, the US economy has outperformed the euro area, UK and Canada. While cumulative US growth has been lower than in Australia and New Zealand, that largely reflects much higher population growth in the Antipodes.
The US outperformance can be seen when comparing the most recent GDP growth figures – on both a headline and per capita basis – across a range of economies with decade averages to end-2019 (a crude way to adjust for differences in ‘potential’ growth). The US economy has clearly outperformed, with growth above average over the past year.
The consensus of economists, however, is that growth will slow significantly over 2024 to 1.2% and the unemployment rate will rise a further 0.6% over 2024 . On balance, this combination is consistent with the historic relationship between real GDP changes and unemployment. However, forecasts for these variables have been trending down: lower real GDP, lower inflation, lower consumer spend, and lower employment. How will this really translate into US consumption, which is generally the important metric for the US stock market earnings forecasts?
How resilient the US consumer? A key uncertainty…
Real consumer spending in the US has risen by more, often much more, than in many other economies since the end of 2019. Over the year to the September quarter, US consumption rose 2.3%, which is close to the decade average prior to the pandemic. This was a vastly better outcome (relative to average) than in other major economies and the Antipodes.
The US retail sector has been particularly resilient, with the volume of retail sales continuing to drift higher. Again, a very different story to elsewhere.
An obvious question is why has the US consumer been more resilient?
It’s not because US households have enjoyed significantly better income growth than elsewhere – real household disposable income has been middle of the pack, though it is now benefiting from a sharper decline in inflation than in peer economies.
US households also did not accumulate ‘excess’ savings during the pandemic to the same degree as in some other economies, notably Canada, the UK and Australia.
But US households have collectively been drawing upon those ‘excess’ savings to support spending. This has not been the case elsewhere (at least until recently in Australia).
The relatively lower debt burden of US households has arguably provided more scope for ‘excess’ savings to be spent. In contrast, households in economies with high household debt burdens (Australia, New Zealand, Canada, UK) are likely to have been more inclined to use ‘excess’ savings to shore up balance sheets and cushion the impact of higher interest rates (even where those ‘excess’ savings are considerably larger relative to income than in the United States).
The combination of less indebtedness and the largely fixed-rate nature of mortgages in the US is providing a significant degree of ‘protection’ for US households from higher interest rates. The average interest rate on outstanding mortgages has risen only modestly in the US and in stark contrast to elsewhere. (Sharply higher mortgage rates on new housing loans, however, will continue to weigh heavily on housing construction and existing home turnover.)
Putting all that together, it’s no huge surprise that US consumer spending has been fairly robust in recent years. But growth will become harder to come by. Scope to draw upon ‘excess’ saving is diminishing and our expectation for rising unemployment will further take the edge off spending.
One reason to not be too downbeat on US profits growth? Productivity…
There has been much discussion of the weakness in labour productivity in Australia and some other economies, with many potential factors floated.
There has been less focus, however, on the relatively better performance of labour productivity in the US. The sharp lift in (aggregate) productivity during the pandemic has persisted and it appears to be back on the pre-COVID trend.
While it’s not clear why the US productivity performance has been so different to elsewhere, its continuation would be an underlying positive for profits.
Conclusion
While many indicators have declined for the US, and are expected to worsen in 2024, we haven’t reached the critical mass to flip our outlook to recession. Stock market estimates for 2024 are on the bullish side, but perhaps only by a few percent. A miss of this magnitude is unlikely to greatly move the market. However, a recession and falling profit margins would cause markets to re-price down meaningfully, so we will continue to monitor economic signals and position to protect capital on the downside.
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