February 10, 2004

Take a Look at THESE Earnings

You just saw a spate of healthy fourth quarter corporate earnings. And I hate to crash the party. But here's a question you should demand a good answer to if someone tells you to buy stocks at these valuations. Question: How can stock prices rise when consumer earnings are falling? Everyone talks about corporate earnings. But the fact is, household earnings are part of what drives demand for stocks. If folks don't have money, they can't buy stocks. And not just money...but money about and beyond what they need to pay rent (or the mortgage), and other expenses. Of course, as the previous post shows, a lot of discretionary spending (cars, consumer goods, food, alcohol) can be financed on credit. And so can stocks too, come to think of it. Yet it gets harder and riskier to run up tabs and spend money when hourly earnings growth is slowing down. And it becomes harder to figure out how corporations will continue to improve earnings and profits when at the household level, consumers are watching their wage growth hit the skids. What kind of skid are we talking about? The Labor Department's non-farm payroll report last week revealed that: * Growth in average hourly earnings has slid five consecutive months. * December's growth of 2% is down 31% from the growth rate in August. * Seven industries posted outright earnings deflation in December: retail trade, durable goods, manufacturing, natural resources, transportation, utilities, and "other services." Am I making a mountain out of a statistical molehill here? After all, growth is growth right, even at slower rates? Wrong. That is, growth in DEBT is faster than growth in INCOME. As my friend Greg Weldon surmised, "Since August, average hourly earnings have CONTRACTED by 31% while consumer debt has EXPANDED by 35%." It doesn't take much marginal difference in disposable income to change the spending habits of consumers. Even if you're comfortable running a household deficit (via credit), you're only likely to do so as long as your income continues to grow. If your income is growing...your debt load as a percentage can grow too...without appearing to change much. But if this dynamic holds--debt loads growing faster than incomes, and incomes disinflating or actually shrinking--you could quickly see some radical changes to consumer behavior...which has obvious consequences for the stock market. More on this as the week progresses...


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