No one can seem to kill America’s economy, despite everyone’s best efforts

Despite persistently low consumer sentiment, the U.S. economy demonstrates surprising resilience, with August consumer spending and retail sales exceeding expectations and Q3 GDP projected near 4% annual growth. This strength, partly driven by a 'K-shaped' recovery where wealthier consumers maintain spending, contrasts with concerns over rising inflation, a slowing job market, and increasing consumer debt. However, new tariffs, potential government shutdowns, and an expensive equity market present notable downside risks to this trajectory.

Analysis

The U.S. economy presents a significant dichotomy between resilient macroeconomic data and deeply negative consumer sentiment. Despite the University of Michigan's consumer sentiment index falling to a near-historic low of 55.1, consumer spending and retail sales both rose a stronger-than-expected 0.6% in August. This spending underpins robust GDP growth, with Q2 showing the fastest rate in almost two years and the Atlanta Fed's GDPNow model projecting a near 4% annualized expansion for Q3. This divergence is partly explained by a "K-shaped" recovery, where spending from wealthier households buoys aggregate figures, a phenomenon noted by Fed Chair Jerome Powell. However, considerable headwinds persist, challenging this optimistic outlook. Inflation is re-accelerating, with the annual rate rising to 2.9% in August, partially fueled by new tariffs. The labor market is showing signs of weakness, with a net job loss in June—the first since December 2020—and a rising Black unemployment rate, often a leading indicator of a broader downturn. Furthermore, risks are accumulating from multiple fronts: rising consumer reliance on high-interest debt, falling credit scores, the threat of a government shutdown, and squeezed corporate profit margins from tariffs that may soon be passed on to consumers. Equity markets, while at record highs, exhibit stretched valuations, suggesting potential bubble risk.

Key Decisions for Investors

• Given the 'K-shaped' economic divergence, investors should prioritize stock selection within the consumer sector, favoring companies catering to high-income households while exercising caution with names exposed to widespread consumer credit stress.
• Closely monitor leading labor market indicators, such as job growth relative to population gains and demographic unemployment rates, as a definitive downturn in employment could rapidly extinguish the consumer spending that currently supports the economy.
• Evaluate portfolio exposure to sectors impacted by tariffs, as producer price reports indicate margin compression that will likely lead to higher consumer prices, potentially impacting inflation and demand for goods.
• In light of commentary on 'seriously expensive' equity valuations, it may be prudent to review portfolio risk and consider trimming positions in highly valued growth stocks that could be vulnerable to a market correction if sentiment sours.