Consumers 1 Year Away From Opening Pocketbooks

 |  Includes: SH, SPY
by: John Early

Many people think improvement in household debt service over the last five plus years means the consumer is ready to drive the economy ahead. I think so too after one more year. Here is the correlation.

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The red line shows percent of disposable income spent on household debt service. It reached a high of 14% in the last two quarters of 2007. Since the scale is inverted this is shown as the lowest point on the red line. Also the time scale is pushed forward 81 months. The black line shows the 7 year rate of GDP growth. The last point shows an annualized rate of 1.1%. The relationship suggested in the chart implies the 7 year growth rate would drop to about 0.8% in the second quarter of 2014 and then rise slightly to 0.9% in the third quarter. Hitting 0.9% in third quarter would mean growth annualizing 0% over the next year.

Economic growth looks like it is at stall speed. Sure quarterly GDP growth improved the last 3 quarters. However, annual growth has trended down four successive quarters. Annual growth is calculated from the last eight quarters. You take the average of the first four quarters and the last four, the growth between the two averages is the annual growth rate.

Annual growth eliminates a lot of the noise that comes in quarterly or year over year growth rates, but is also slower to respond to a change in trend. The important question is whether improvement in the last three quarters is the start of an upward trend or mere fluctuation in the down trend. The historical record suggests a stall.

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Annual growth has fallen to 1.6%. The last 11 times annual growth dropped to this level we were in a recession or one started within a few months.

Annual private sector growth has fallen from 3.9% to 2.5% in the last five quarters. Falling to 2.5% has happened thirteen times in the last 65 years; eleven of them corresponded with recessions. The two exceptions were in the 1960s and 1980s.

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Private sector growth was calculated by subtracting real government consumption expenditures and gross investment from real GDP.

The higher than expected GDP growth in the third quarter was due to larger than expected inventory accumulation. If consumers don't open the pocketbooks for another year that bloated inventory will be a drag on growth.

Recession appears likely to start within the next few months. When it comes earnings and stocks (NYSEARCA:SPY) will suffer major declines.

Disclosure: I am short SPY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: There is no guarantee analysis of historical data their trends and correlations enable accurate forecasts. The data presented is from sources believed to be reliable, but its accuracy cannot be guaranteed. Past performance does not indicate future results. This is not a recommendation to buy or sell specific securities. This is not an offer to manage money.