Small Business Confidence Improves Despite May Correction & Chinese Tariffs

Small Business Confidence - Redbook Same Store Sales Growth Slows

Before getting into Small Business Confidence, let's review the Redbook. We go into every GDP report with the assumption that the consumer will drive GDP. Consumption drives about 2/3rds of economic growth. However, consumption growth was weak in Q1, but headline growth was strong. It’s highly likely Q2 GDP growth lives or dies based on consumption growth. Specifically, I don’t see trade and inventory investment driving GDP growth.

Investors expect headline GDP growth to be below Q1’s rate of 3.1%. But we also expect consumer spending growth to be slightly higher than Q1’s rate of 1.3%. Consumer spending growth should be helped by the latest auto sales report. 

Keep in mind, the next Q1 GDP update will be on June 27th. It's highly doubtful that this impacts the stock market as investors are already focused on Q2 and Q3. It will only matter if there’s a big revision, which is possible.

With this in mind, Redbook’s same store sales growth reading from the week of June 8th saw growth fall sharply from 5.8% to 5%. Growth was in the mid-5% range in May, implying the May retail sales report will be solid. We still need more readings to see how June will turn out. 

May yearly retail sales growth should improve because the Easter holiday seasonal adjustment will be gone. The retail sales report comes out this Friday. Expectations are for a bounce back in monthly growth as headline growth is expected to improve from -0.2% to 0.7%; the control group’s monthly growth rate is expected to go from 0% to 0.4%.

Small Business Confidence - Another Big Boost In Small Business Optimism

Small business confidence was hurt more by the November 2018 elections when the Democrats took control of Congress than it was by the Chinese tariff announcement on May 10th. The NFIB confidence index fell from 107.4 to 104.8 in November, while the index increased from 103.5 to 105 in May. That beat estimates for 102 and the high end of the estimate range which was 103.5. I didn’t see such an increase coming. I expected the index to fall because of the tariff announcement and the decline in the stock market.

Some investors are worrying about the negative yearly growth rate. But that misses the huge improvement this year as it is up 4 months straight. Plus, it is near its all-time high. A small yearly decline misses the big picture. 

It’s fine to be bearish because of the economic slowdown, but it’s impossible to see this as a weak report. Only people who think confidence is a sign of impending doom should see this poorly.

Specifically, 6 components rose, 3 components were steady, and 1 component fell. The biggest increase was in the net percentage of businesses that said now is a good time to expand. That was up 5 points to 30%. 

As you can see from the chart below, the net percentage of small businesses expecting the economy to improve was up 3 points to 16%. Similarly, plans to make capital outlays and plans to increase employment were up 3% and 1%. 13% of small businesses stated they were uncertain about their outlook because of the political climate. If a trade deal is made, this will dissipate and the overall index will likely hit a new record high.

May PPI Report

Small Business Confidence - While high inflation isn’t a pressing issue that will force hikes, inflation needs to fall significantly for the Fed to cut rates. That makes inflation data important again. It didn’t take long after the Fed said it would be patient for the market to price in action soon. Apparently, patience now means waiting a few months. The Fed didn’t see this slowdown coming. This setup explains why the May PPI report is important.

Specifically, monthly headline PPI was 0.1% which met estimates and was down from 0.2% in April. On a yearly basis, headline PPI fell from 2.2% to 1.8%. That missed estimates for 2%. That’s the type of inflation decline I mentioned would help workers when I discussed the decline in weekly wage growth in May. To be clear, PPI measures producer prices. 

However, these prices will eventually trickle down to the consumer. PPI without food and energy was 0.2% monthly which matched the consensus and was above April’s 0.1% rate. Yearly, core PPI was 2.3% which met the consensus and was down from 2.4%. Core inflation excluding transportation services was 0.4% monthly and 2.3% yearly. Monthly growth matched April and doubled estimates. Yearly growth was up from 2.2%.   

Since the Fed looks at core inflation, this report shouldn't impact their decision making. 

Small Business Confidence - We’ve recently seen energy prices drop which should push headline inflation lower, but core inflation has been stubbornly high. To be clear, inflation meeting the Fed’s target wouldn’t be high if the Fed was expected to keep rates the same, but it’s high if you expect rate cuts. It’d actually be low if the Fed was planning to hike rates.

Trade services inflation was -0.5% which was the 3rd decline in the last 4 months. There are weak price and demand conditions for wholesalers and retailers. Consumer food prices were down 0.1% monthly and up 1.2% yearly. Energy prices were down 1% monthly and 3% yearly. Core personal consumption prices were up 0.2% monthly. 

Excluding transportation services, they were up 0.5%. Portfolio management fees inflation was 1.8% monthly and 5.5% yearly. That could drag the May CPI reading down slightly.

Small Business Confidence - CPI Expectations

May CPI report will have a huge impact on monetary policy expectations if any of the numbers miss or beat expectations. This estimate is for headline yearly CPI to fall from 2% to 1.9% and core yearly CPI to stay at 2.1%. That’s helpful for consumers, but not for the Fed. 

Luckily for the Fed, it follows core PCE which is usually below core CPI. It’s very likely to stay below 2% in May and probably will stay below 2% for the rest of the year. We could see inflation increase after the rate cuts. But that would be considered goods news as the biggest battle the Fed is fighting now is this economic slowdown.  

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