The US economy has impressively withstood January’s tax increase, at least so far.
With the exception of one disappointing consumer confidence number, nearly all recent US economic reports have come in better than expected. The most recent: last week’s lower initial jobless claims and strong retail sales data, and the US economy looks set to accelerate from last quarter’s anemic growth.
But investors wondering about the outlook going forward for the US economy will want to watch one economic number in particular: February’s personal income figure, which is scheduled for release on March 29th.
Why is this number so important? While consumer resilience to the tax increase can partly be attributed to a stronger labor market, lower savings and low interest rates have also cushioned consumption. For instance, the US personal savings rate has been heading lower for most of the past four years and it plunged to 2.4% in January, the lowest level since late 2007.
But neither low interest rates nor low savings are likely to prove sustainable over the long term. The Federal Reserve is likely to eventually raise rates and without faster personal income growth, consumers are likely to run out of savings, especially considering the massive amount of debt they are still unwinding.
In other words, if consumption and the broader economy are to remain resilient going forward in the face of consumer deleveraging, they will need to be supported by an improving labor market leading to faster personal income growth.
On the other hand, if we see continued muted growth in personal income, US consumption, and the broader economy, will be vulnerable going forward to the tax increase and to what I currently expect to be a modest speed bump in the second quarter — the likely delayed impact of The Sequester spending cuts.
As such, considering where US valuations are, I continue to advocate reducing positions in consumer-related sectors, and looking to put new money to work in international markets, mega caps and the energy and technology sectors. These sectors are accessible through the iShares S&P 100 Index Fund (OEF), the iShares Dow Jones U.S. Energy Sector Index Fund (IYE) and the iShares Dow Jones U.S. Technology Sector Index Fund (IYW).
Russ Koesterich, CFA, is the iShares Global Chief Investment Strategist.