• Posted on June 7, 2024
  • by MI2 Research

“Lowering prices even further could further fuel sales”

The saying is that one should wait until you see the whites of the enemy’s eyes before firing, but are there times when it’s worth waiting until you feel their breath? Case in point, the “whites” (losses) are certainly visible now in real estate debt, as we’ve highlighted in these pages, with the obvious consequences for owners of real estate debt. The latest data from the FDIC served to further highlight the obvious, warning that there are “63 ‘problem banks’ and $517 billion in unrealized losses” courtesy of higher rates hurting bank holdings of fixed income. Yet, while we have noted a number of signs of trouble in consumer spending last week, as highlighted by various earnings reports and price cuts, the consumer may be, just like the peasant in Python’s medieval England, “not dead”. This warning comes from the more positive recent earnings reports, including those of Lulu Lemon and Costco. The former beat (fairly low) expectations and was rewarded with a 10% jump in its stock, blaming size and color demand mismatch in its leggings for holding back results. However, “Comparable sales were flat from last year”. Costco also recently reported earnings that “surpassed estimates” as it “gobbles discretionary market share thanks to its value proposition”. That last part (and the title of the article) is code for the company joining its peers in “lowering prices over the quarter to boost discretionary spending”. So, even if the consumer might not be dead, they are definitely price-sensitive. The Costco “value proposition” was not, however, strong enough for the company to squeeze in a hike in the price of its membership price: “Costco is waiting for the right time to raise membership prices”. Isn’t there a sense in which we are all waiting for the right time to strike? (Related, American Airlines flight attendants rejected a “proposed 17% pay raise” that also included an increase in profit sharing.)

“Reliability and solidity and robustness of those projections”

While the cautious might argue for waiting until we actually see the consumer “tap out”, it appears that the ECB is going in the opposite direction and using dust clouds in the distance to dictate their strategy. This week, the central bank joined the BoC in cutting, so it wasn’t the first major central bank to break the seal. However, it was worth noting some rather amusing details. First, the ECB, whose “primary objective” is “to maintain price stability”, opted to cut at the same time that it increased its forecasts for inflation. Second, Lagarde argued that the committee saw wages “on a declining path” (see this article noting “German wages rose sharply at the start of 2024”, the American Airlines example, and perhaps Mme Lagarde could take another look at the difference between a decline in level and a decline in rate-of-change). Third, the decision was “unanimous” “but for one governor” (who incidentally was “Austria’s hawkish central bank chief Robert Holzmann”, and who, speaking via a spokesman, argued that “Data-driven decisions should be data-driven decisions”. Hard to argue with tautologies!) And fourth and finally, Lagarde noted that “It’s on the basis of this reliability and solidity and robustness of those [inflation] projections that we have made that decision to actually cut”. So, while we may be heading in the wrong direction, my increased faith in my ability to read maps means we should floor it and lay on the horn? As Julian noted in a tweet, “this is from the transitory crowd”. The more cynical might view Mme L’s statement as pre-emptively throwing the economics staff under the bus should it all go wrong. “Well Philip, if you say so, but if this goes wrong…”. The cynical will also have noted Lagarde’s comment that “Those are not our projections. Those are projections of staff”. Regardless, many of us have been once bitten and may now be twice shy on central bank forecasts. Still, caught between the Devil and the Deep Blue Sea, our intrepid ECB leaders may consider they have no choice but to ignore Yogi Bera’s/Niels Bohr’s warning about the difficulty of forecasting the future. Oh well… Full steam ahead!

P.S. The neutral rate continues to be a topic of debate, with Lagarde commenting that “we are not close to the neutral rate. We still have a way to go”, and the Fed’s Chris Waller gave a speech recently on the subject, noting that the “unsustainable fiscal path” of the US and increased treasury supply could put upward pressure on the neutral rate.