If Consumer Confidence Is an Indicator, Market Sell-Off Not Far Away

Market Sell-Off Not Far AwayOnce again, and I may be the only one saying this, as key stock indices like the S&P 500 and the Dow Jones Industrial Average reach new heights, I see more downside risk developing for the stock market. Economic fundamentals and the stock market are moving in opposite directions. Unfortunately, reality will hit key stock indices sooner than most think.

Take a look at the chart below. The red line represents the performance of the S&P 500 and the green line represents the change in the University of Michigan Consumer Sentiment Index—a gauge of consumer confidence.

$!ESUMCSENT University of Michigan Consumer sentiment stock chart

Chart courtesy of www.StockCharts.com

The long-term chart of the S&P 500 and consumer confidence reveals something that mainstream economists never really talk about. If you observe closely, you will notice that whenever consumer confidence becomes stagnant, the S&P 500 rises; and whenever consumer confidence falls, a drop in the S&P 500 is not far behind. From 2002 to 2007, consumer confidence was flat. As a result, the S&P 500 rose and reached its all-time high, but as consumer confidence fell, a massive, broad stock market sell-off followed.

Notice in the chart above that, since 2009, consumer confidence has been stagnant.

Now the preliminary University of Michigan Consumer Sentiment Index shows a reading of 71.8 for March—the lowest consumer confidence level since December of 2011. In February, it stood at 77.6—a decline of almost 7.5% over a one-month period. (Source: Reuters, March 15, 2013.)

As I have written in these pages before, consumer confidence gives us an idea about consumer spending. When consumers feel less comfortable, they pull back on their spending. As a result, the demand for goods and services decreases and companies sell less, resulting in lower profits for U.S. corporations.

With consumer confidence falling, companies on the S&P 500 are expected to show negative corporate earnings growth for the first quarter of 2013. If this occurs, then it will be the second quarter of negative growth in corporate profits in the last three quarters.

If consumer confidence is any indication of where the stock market is headed, then it’s not looking very promising for upside potential.

Michael’s Personal Notes:

U.S. gross domestic product (GDP) increased by only 0.4% in the fourth quarter of 2012, according to the Bureau of Economic Analysis (BEA). While the mainstream may rejoice in this news, sadly, the increase in GDP was nowhere near the 2012 third-quarter GDP growth—it increased by 3.1% during that quarter. Recent GDP numbers show the U.S. economy is struggling.

The devil resides in the details:

• U.S. government spending and investment decreased by 14.8% in the fourth quarter, compared to an increase of 9.5% in the third quarter of 2012—it held the GDP of the U.S. economy higher in the third quarter.

• Businesses in the U.S. aren’t selling—they’re just piling up their inventories. In the fourth quarter of 2012, private sector inventories caused GDP to decline. Businesses added inventories of $13.3 billion in the fourth quarter.

• In the fourth quarter of 2012, real purchases of goods and services by U.S. residents (no matter where they were produced) were unchanged. In the third quarter, they increased by 2.6% in the U.S. economy. The latest statistics show consumers simply aren’t buying.

• Exports from the U.S. economy decreased by 2.8% in the fourth quarter, compared to an increase of 1.8% in the third quarter. If consumers in the U.S. economy aren’t buying, and businesses aren’t selling to other countries because the eurozone is so depressed, what happens to the profitability of U.S. companies?

In addition to all this, the BEA also stated that in the fourth quarter, the U.S. economy’s GDP increased to a 12-month following total of $15.86 trillion. When I look at this number, the only thing I can think of is the current state of our national debt—which stands above $16.75 trillion and will most likely hit the $17.0-trillion mark soon. Our debt is 107% of our GDP!

Our nation is in deep trouble. This slight increase in GDP in the fourth quarter of 2012 doesn’t impress me at all. When I look at the health of the U.S. from a broader view, it’s not a great sight. U.S. GDP shrank over the third and fourth quarters of 2012—and it won’t surprise me to see it turn negative in the first quarter of 2013.

What He Said:

“Investors have been put into an unfair corner. Those that invested in stocks because they got caught in the tech boom (1999) have seen their investments gone. Now, those that have leveraged heavily to play the real estate game, because it is the place to be (2005), could see the same fate as the stock market investors. Thanks again, Mr. Greenspan.” Michael Lombardi in Profit Confidential, May 27, 2005. Michael started warning about the crisis coming in the U.S. real estate market right at the peak of the boom, now widely believed to be 2005.