Consumer Sentiment Gives Off Potential Recessionary Signal

Consumer Sentiment - Number Of IPOs Has Cratered

Consumer Sentiment - The number of IPOs has fallen sharply since the mid to late 1990s when internet firms were going public quickly. Public investors had access to a plethora of start ups which weren’t profitable. These were the Venture Capital opportunities of today. 

While the 1990s IPOs initially led to amazing returns, there were huge losses soon afterwards. That’s the volatile life of a VC investor. Most of the firms VC investors put money in don’t survive. But the ones that do can make up for all the losers and more. 

A scary aspect of the current market versus the 1990s is 83% of IPOs were loss making businesses in 2018. This was a higher ratio than the dot com mania in the late 1990s as you can see from the chart below.

Going Public Isn’t Worth It

The number of public companies has declined by about 45% since the peak 20 years ago even though the number of total companies has increased. Also, the average number of public offerings per year was 652 in the 1990s. 

Last year had one third of that as you can see from the chart below. Private market has become more liquid which has eliminated one of the advantages of going public. Some negatives of going public are increased regulations and having to answer to investors. It can hurt a firm’s competitive advantage to make its financial information publicly available. 

Sometimes running a business for long term success can infuriate investors interested in the short term. Anyone can buy a public firm’s stock, while private investors can be curated.

The cost of going public is large. If a firm has access to capital in the private market, why take on this cost? In the past, firms would use going public as a marketing opportunity. Many firms still do this, but not all need to. 

It’s possible to garner much more interest on social media than what an IPO can bring. While Lyft is set to go public this year, it didn’t need to do an IPO to help it grow rapidly since it was founded in June 2012. Uber still hasn’t done its IPO, but it leads the ridesharing category.

Internet Monopolies Are Powerful

Finally, it’s worth noting the expansive nature of some of the internet monopolies which are gobbling up small companies and squashing the competition. Some situations are becoming anti-competitive because these big firms are gatekeepers of the internet, acting almost like a government. 

For example, Alphabet can push its competition further down in the Google search rankings. Apple can pre-load its own apps/services on its devices.

It is up to the FTC to determine when these firms are suppressing competition. In the past few years, they have been allowed to get away with a lot. As investors, regulations aren’t up to us. However, we need to foresee potential changes to regulations. 

Presidential candidate Elizabeth Warren wants to break up the big tech firms. If they aren’t broken up, they could be forced to change their behavior if it’s deemed anti-competitive.

Consumer Sentiment - 2nd Straight Increase In Consumer Confidence

Preliminary March consumer sentiment reading showed consumer confidence increased for the 2nd straight month. Sentiment is rebounding along with the stock market. The government shutdown temporarily caused people to be more pessimistic. Media loves to make news events bigger than they are. 

Most investors knew the shutdown would end relatively quickly, but consumers apparently didn’t.

February sentiment reading was 93.8. Preliminary March reading increased to 97.8 which beat estimates for 95.2. High end of the consensus range was 96.7 which shows how strong this reading was. Expectations index increased almost 5 points to 89.2 which was its best reading since October.

While expectations are important, I cautioned bearish investors against using the decline in January as a reason to be bearish. It was very clear that would be a temporary drop. Sometimes bears get too eager about calling for a recession without understanding the context. I’m not unwilling to go bearish on the economy. I just need to see cyclical weakness that isn’t impacted by a one-time event. 

Soon we will see how much of the manufacturing weakness was caused by the trade war as America and China are working on a trade deal.

Consumer Sentiment - Current Conditions Fall Yearly

Current conditions index increased about 3 points to 111.2 which is the highest level since before the shutdown in December. That means the difference between current conditions and expectations fell. When that difference widens, it has historically meant a recession is coming soon.

The chart below shows another recession signal. 

As you can see, there have only been 3 times the current conditions index has fallen more on a yearly basis when there wasn’t a recession. I think this will be another false reading personally. There are few indicators that suggest there will be a recession this year.

Consumer Sentiment - Weakness From Top 3rd Income Group

Even though I am expecting the spring home selling season to be solid, it’s worth noting that those saying it’s a good time to buy a house has recently been falling. 

Those saying it’s a good time to buy a car has also been declining which is consistent with the weakness in auto sales in the first 2 months of the year. It’s notable that those in the top 3rdof income distribution were less optimistic than the rest of Americans. 

That’s probably because their wage growth has slowed. They are important to the economy as they represent about 50% of spending.

Falling Yearly Inflation Estimates

In the University of Michigan report, one year inflation expectations fell from 2.6% to 2.4%. That was countered by the 0.2% increase in 5 year annual expectations to 2.5%. 

The near term decline in inflation estimates is in tune with the weakness in the February CPI and PPI reports. These readings all support the Fed’s decision to be patient. On Wednesday, the Fed will probably give guidance for 0 hikes in 2019.   

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