12.01.2022 Christmas selling season is in full swing: holly and tinsel are draped from store shelves and carols are blaring from the ceilings. But the festive atmosphere belies the pressure store owners are under this year. Not only are retailers scrambling for customers, but they are also racing against the clock. The Federal Reserve has ratcheted up interest rates at a pace not seen in decades to quell inflation rates not seen since Olivia Newton-John topped the Billboard charts. Bond yield curves have inverted, suggesting tougher times ahead. Economists are calling for two consecutive negative growth quarters early next year. That means retailers had better make hay while the sun is still shining.

10 Year Yield Minus 2 Year Yield and Recessions

Retailers are sitting on excess inventory and will want to sell as much of it as they can while customers’ wallets are open. Consumer spending accounts for more than two-thirds of overall economic activity and the Christmas selling season accounts for nearly 20 per cent of annual consumer spending. Seasonal sales this year are expected to be between six and eight per cent higher than last year, according to the National Retail Federation. Sales volumes are expected to be flat relative to inflation. For now, the unemployment rate is in the low threes and wages are rising.

Inventory sales ratio

Consumer spending has held up. Americans are sitting on about $1.3 trillion of excess savings that they accumulated during the pandemic, although those balances are dwindling. Many households have turned to credit cards to stretch their spending power. Credit card balances expanded 15 per cent over the last four quarters, according to the Fed.

Federal Reserve Consumer Credit Outstanding Amount Revolving SA

For the last two holiday seasons, retailers struggled with pandemic-related disruptions including lockdowns and kinked supply chains. Retailers have been hoping for a return to normal this year. But any retailer who’s been tracking consumer confidence is worried. The University of Michigan’s Consumer Confidence Survey has plunged below levels seen at the bottom of the pandemic. Historically, retail sales trend closely with confidence. Today’s sagging confidence augurs sharply lower sales. Retail sales grew 1.3 percent last month, fueled by groceries, gasoline and home renovation projects.  Inflation-adjusted discretionary spending levels plunged: general merchandise sales fell 5.4 per cent year over year, while furniture was off 7.3 per cent and electronics are nearly 20 per cent lower.

Consumer Confidence vs Retail Sales Adjusted for Inflation

Many retailers are offering steep discounts, even in the face of higher labor costs, to outrun the recession. The average discount for Black Friday deals this year was 30 per cent, according to The New York Times. Another challenge is that middle-class consumers are expected to spend 15 per cent more on “experiences,” such as travel, concerts and sporting events, this year compared to last year, according to a recent New York Times report. Some shoppers are already cutting back on discretionary purchases. Bottom line: We expect a strong Christmas selling season, but it will be at the expense of profit margins.

Profit Margin S&P Retailers