Monthly Macro with Richard de Chazal—June 2024

In this episode of William Blair Thinking Presents, macro analyst Richard de Chazal walks through highlights from William Blair's 44th Annual Growth Stock Conference and explains how the event provides a window into the state of the U.S. consumer. He also dissects the latest macro data, including CPI and PPI releases, the FOMC meeting, and the impact of the European elections on the global macro landscape.

Podcast Transcript

00:20
Chris Thonis
Hi everybody. Richard de Chazal and I are back for another episode of Monthly Macro, this time to talk about all the things that have happened since the last episode in May, and there has been plenty to dissect, so let's get started. Richard. Welcome back.

I feel like this one may be a little bit tough to keep to our typical 25-to-30-minute episode, but let's see what we can do.

To start, I thought we could first chat a bit about William Blair's 44th Growth Stock Conference, which took place June 4-6th in Chicago. So, a couple weeks ago. It brought together thousands of institutional investors with hundreds of CEOs, CFOs, and executive managers of quality growth stock companies. There was a pretty good buzz to the event this year.

I know you mentioned in the past that you look at this conference as an opportunity to, to gauge the economic reality from the bottom up relative to our normal, as you say, 10,000ft, macro, top-down view. So, it's a little bit different. Now, I thought you could first maybe walk us through some of the key takeaways from the conference. Everything from economic sentiment to the labor market, which I know you put in a report. Then maybe after that we talk about the state of the consumer. But let's start with that first.

01:34
Richard de Chazal
Sure. I like the conference. For me it's kind of this three-day deep dive into the guts of corporate America. You kind of get to lift the lid on the various sectors of manufacturing, consumer, healthcare, tech, financials, all that kind of stuff. You know, get to see what these companies are most excited about, what they're most worried about, and also get to see investors in person as a big group and see what they're thinking about. What are they pushing back on the narrative for these companies? Where's their skepticism? Where's there real optimism. So, I think it's for me it's kind of this great way to put some flesh on the bones, some color to the black and white statistics that we look at each day. So, it's great.

In terms of impressions, I'd say I was a little bit surprised that, you know, in the manufacturing companies I saw, I think there was a little bit more softness there than I was kind of expecting to hear, in the sense that if you look at the economic data, things like the ISM that had sort of been in recession, I think for the last 18 months or so, we've come back close to 50, back above safety, sort of hovering around there. And I was kind of expecting to hear companies say, "well, supply chains have kind of smoothed out. We sort of, you know, gotten around some of those disruptions. Things are starting to kind of improve a little bit. There's sort of light at the end of the tunnel a little bit." And I think certainly with the distributor side, they were saying things are kind of flattish, still a bit soft. I don't really see a big inflection point just yet. So, I think that that was interesting. I think there's a cyclical softness there. But then structurally, there's huge amount of excitement around AI, electrification, energy, water usage, automation, robots, all this kind of stuff. So definitely a revolution there.

And then I think the tech companies I saw probably sort of similar story where again, it was a little bit softer in the near term. Companies talking about purchases being much more discerning or the purchasers being much more discerning about what they're putting money into.

And still a bit of uncertainty around AI. Some conservatism there. Not what was kind of happening in the late 1990s where people were sort of throwing money at this thing. They're a little bit more cautious about where the benefit is going to come from. And they just don't want to just kind of chuck money at it.

And you know that's definitely what our analysts have been talking about for a while. So, they've been on top of that. So, it was just interesting to hear the companies themselves.

04:50
Chris
Yeah. We have a couple of podcasts on that previously. Yeah.

05:03
Richard
Yeah, yeah. You're right. And our tech guys wrote a really good report on that this week. Worth looking at.

05:05
Richard
What else? Small and medium sized businesses. I think the message was there, which was consistent with the economic data. So, if I'm trying to parse the economic data, compare and contrast the data to what companies were saying, that was really consistent.

So, if you look at something like the Small Business Survey, sentiment survey, that's been really weak, and companies were basically saying the same thing, the sort of mom-and-pop enterprises were struggling. They're getting kind of killed by higher regulation, by higher input prices, but then in sort of an inability to push price on to their consumers and these larger franchises who can deal with that regulation, they have better economies of scale, that kind of thing where we're really eating their lunch, as it were.

So that was interesting. So, I think my view is generally that the near term's kind of cyclical story still a little bit soft, kind of these rolling pockets of softness on the whole. The economy's still doing pretty well, though.

Definitely some interesting structural stories. And then the mood from investors I thought was pretty positive. I think there was a real excitement about looking for something other than those magnificent seven type names. And I think because this is a midcap conference, I think there's always a bit of excitement about discovering this kind of, hidden gem, as it were. And the next best big thing. And I think investors are kind of tired of the Mag 7 stuff and really keen to push the boat out a little bit further and broaden the depth of the market, if you will.

06:47
Chris
Which makes sense. An as I briefly mentioned, you also published a report in tandem with our consumer research team that used the Growth Stock Conference as a vantage point from which to view the state of the U.S. consumer.

We can't talk names specifically, but do you mind us providing a bit of insight into the takeaways from that as well?

07:07
Richard
Sure. I mean, that was great. Yeah. So, I did this report with them where I sort of presented the macro-overview, and then they can, put in the names in there. So, if you want to read that report, you know, it's worth looking at.

I think the message that I'm seeing in the macro data and then was really reiterated, by the companies we saw, the consumer companies, is that the consumer as a whole is still really resilient. They've got these strong balance sheets, really low debt ratios. They've locked in low mortgage rates for longer. And the labor market is still very tight. So, the unemployment rate, you know, 4% or below the last three quarters.

But I think what's changing is there's a bit of a slight shift going on where we saw in the Covid period, this really leveling up of your lower income consumer where there was suddenly huge demand for labor.

Remember that companies became really flexible and how they were going to, you know, employ that labor and giving workers, more options they need to come and work for them. Stimulus checks were issued out and wages shot up and tips were really high. So, I think, you know, the consumer basically got this big pay rise during Covid.

And now I think what's changed is things are sort of normalizing or renormalizing where the savings have kind of been spent down. Inflation is being a little bit stickier. Real income growth is kind of flattish to still slightly positive. And job openings we've seen those started to fade a bit. And we're seeing a little bit of a pushback for from those lower income consumers.

So, we're seeing a trading down. We're seeing companies talking about a more discerning consumer going to private label. They're pushing back on price, which is great for inflation. And so that's sort of I guess at the margin, crucially, companies aren't laying off workers yet. Middle- and higher-income consumers are actually doing pretty well. And I think we saw two examples at the conference that were kind of interesting and sort of indicative that not everything's terrible is you do actually see some trading up going on and two areas we saw that, one was from fast food to fast casual, where consumers were previously saying going to McDonald's or whatever and buying kind of a fast-food meal there. But there's been a lot of inflation there. And they're looking at the price differential between fast casual, where maybe the quality is a little bit higher, but the price point has been compressed and it's only slightly higher. So, they're opting to trade up to those, better value options. And then interestingly, another area was in the HVAC area.

So heating, ventilation, and air conditioning, where companies were saying that the consumer is in a pretty good place. And one example is they're actually choosing to trade up to fully replace their HVAC if it breaks down, rather than repair. So, you would expect a more stressed consumer to say, we can't afford the full replacement. Let's just, you know, repair that which last, say, 3 or 4 years or so, as opposed to full repair which lasts, you know, it's a higher ticket, but more expensive. So, I think net net, you know, we're seeing a consumer that's being a little bit buffeted by crosswinds. It's not a hurricane. It's not a crossfire hurricane, to quote that, famous band.

So, it's still sort of resilient with, again a little bit more softness than we'd seen previously.

11:22
Chris
All right, well. Moving on. Last week proved a busy one for macro data, so I wanted to jump into that. CPI and PPI releases, you had the FOMC meeting. And then, of course, the European elections. Do you mind diving into the CPI and PPI releases first and then, you know, we can go on from there? But I know you mentioned in a couple of recent reports that the inflation data was particularly encouraging. So would love to know how so.

11:48
Richard
I think what was worrying was through the first quarter, you saw this kind of bump in the road, and then we were talking about, is it a bump in the road? We've talked about it before, Chris. And I think what we saw now is last month, and I think the previous month where inflation has continued to come down.

So that's kind of confirmation that there really was a bump in the road. The direction of travel for inflation is still lower. And it's now 3.3%, 3.4% on the core rate. So again, that excludes food and energy. So that that was encouraging. And then the producer prices was lower. And that was helpful too, where they were negative on a month-on-month basis. They're still only 2.2% annually. So again, that sort of confirmation that to the extent that producer prices are sort of pipeline pressure for consumer prices, that's not a major problem just yet.

I think two areas slightly more worried about, one is, if you look at sort of the guts of the report, those shelter prices have still been a little bit high. So rent prices and this is where there's a bit of a divergence, I think kind of emerging between people out there in the market saying rents are going to stay very high. I think those rental prices will actually continue to come down. I think there's a glut of unfinished multifamily homes, apartments, that are still being built that are still coming to the market.

So that's adding to the supply, which should, help to bring rental costs down as rates also start to come down, more supply from existing homeowners should come to the market as well. And I think also that if you look at the way the BLS calculates that shelter or rent component, it tends to lag kind of real-world market rental rates by about 12 months.

And we know those are still lower. So those are coming down. And the last point I made is you can't have rent growing at a rate that's faster than income growth for a long time. I mean, you can have it for a period, but obviously at some point people aren't going to be able to afford their rent. So, I think that's what we're seeing. We're seeing sort of this negative almost one percentage point differential in the last month, between rental prices growth being higher than income growth. I think that has to be rectified. Either wages are going to accelerate a lot, which I don't think is going to happen, or that rental prices are going to have to come down.

So, I think I think that's what's going to come down. And I think that's what's still going to get us towards this kind of 2.5% inflation by the end of, or about by the first quarter, say, of next year.

14:46
Chris
And when you say long. How long? Just out of curiosity, is, when you say, it's not typical for rents and then income to diverge as it is, how long is too long?

15:01
Richard
Typically, you see that happen around recessions. It could last for maybe a year. But if you look over time at the differential between income growth and, rental growth, it normally averages about two and a half percentage points. And right now, it's sort of negative one percentage points. That's well below what would be considered normal if you will.

15:30
Chris
Interesting. All right, so let's talk a little bit about the Fed. I know they held rates. They reduced the number of expected cuts from 3 to 1. And then the longer run neutral rate was revised higher again. How much of this was expected? It seems like the data might be going the right way, but is there any concerns on your end coming out of that meeting?

15:50
Richard
I think the Fed came out of that meeting sounding a touch more hawkish than what the market had been expecting. There was this sort of debate because the last time they released this dot plot, they were saying three rate cuts for this year, and the debate was whether it was going to be one or two. They came out with just one. But actually, if you look at it, the numbers of where they were voting, two was really close. So, I wouldn't be too firm that one cut just yet.

And I think the first question that Powell or one of the first questions that Powell got in that press conference was whether he'd seen or the members had seen that inflation report before they actually voted on their dots, which he said they had. And then they were free to adjust their dots accordingly if they wanted to. But he wasn't very specific on whether anybody did do that afterwards or not. So, I think what it means is, the data has been encouraging on the inflation side. I think we're starting to see a little bit more softness on the economy. And I think what we're going to start to see, is maybe the narrative starts to shift a little bit from inflation being very low because the employment side of their mandate was still in really good shape with a very tight labor market. But we start to see a little bit of softness, coming through on that side.

And one thing on the inflation though, is, is as we move into the second half of this year, the comparisons start to become a little bit more difficult because, in the back half of last year, inflation already came down quite a bit.

So, my point is a progress on inflation starts to slow a little bit. So, I think the narrative is going to start to shift for rate cuts from the inflation side more towards the employment side. And the fed starting to say or think about we need to get ahead of any coming slowdown. So, if we really want to engineer that soft landing, we need to start cutting rates now. Because remember, rates act with a lag. And if we don't do that sooner, we maybe risk or will increase the risk of that, of that hard demand. So, I think that's what we'll probably start to see in the coming months.

18:16
Chris
Got it. Okay, so, finally, plenty of news around European elections last week, which was ultimately a swing to the right for France. I feel that that got the most news. What has been the impact since? And then how do you expect this to influence the macro landscape globally moving forward?

18:36
Richard
You now have two surprise-ish elections in the last, month or so. So, one in the UK, which is weirdly on July 4th, which, people are now saying is going to be Rishi Sunak's own independence from office day. Where he, which they are now saying with polling, he could actually lose his own seat in parliament which would be an embarrassment.

But definitely in the UK it's not a lurch to the right. It's a lurch to the left. And I guess kind of the center left where they should win with quite a decent majority if polls are correct. And difficult to know what they're saying though, because it's basically their election to lose. So, they're wisely saying as little as possible. If they talk too much, it might spoil their chances of any election. So, let's just say as little as possible and just get that vote through the door.

And then across the channel on the French side, Macron kind of did this surprise French elections coming out of the European elections, where we did see a swing to the right, but also a big swing to the left. So, the far-right party won the majority there. But there was a big, swing to the left as well. So, I think what Macron did is he basically said, you know, let's, let's call their bluff there. It's sort of put up and shut up and let's do some really swift, elections thinking, that he'd probably win. But it's looking now that that's been a little bit of a, of a dangerous call for him. So, let's see, I think there's definitely a feeling that the European elections matter a little bit less. Were kind of taken a little bit less seriously than your own national elections. And I think that's what Macron is kind of banking on.

But then on the other hand, the French far right, with, Marine Le Pen and her National Party. So, the National Rally party, they've actually been making some really big efforts over the last few years to kind of deradicalize and take out their most radical members, which included her father, kicking him out.

So that's been more palatable to people. And the elections there, just like in the US, immigration has been a huge issue. So, their rhetoric is appealing to people there. So, we don't know, again, in terms of what policies they've put forward, we don't know a lot there.

She's talked about, cutting the VAT or the sales tax on goods. There's a lot of talk about cutting taxes, and not a lot of talk about, budget deficits and how all that stuff is going to be paid for. So, the market, this is clearly uncertainty is what we've got. What kind of reaction we've seen in the market is, is the euro has come down. The CAC 40 has, sold off. And I think the biggest reaction we saw is really in ten-year yield spreads, for government bonds, say, versus German bunds, where those really, cranked up. So, we'll see what happens. I mean, if you look at what happened in Italy when George Meloni's party, the Brothers of Italy were elected, and that was, you know, far right. And there was a lot of concern about what was going to happen there. And then she's actually taken office. And so far, her policies have been fairly sort of just right of center rather than kind of rhetoric where she's been sort of more in line with, with EU thinking,

But I mean, ultimately what I think it does is it sets us up for a very busy second half of the year. I mean, we've got now elections in the UK, elections in France, elections in the U.S., we've got ongoing geopolitical tensions in Israel, in Ukraine, we've got North Korea buddying up with Russia. And it's not clear yet, 100% whether the fed will start cutting rates as well. So, it's going to be an interesting second half and no doubt lots to talk about going forward.

23:36
Chris
That is for sure. All right. Well, Richard, thank you for everything today. It's all the time we have. And guess what? We. We kept it to 25 minutes, which might be some kind of miracle. Thanks again for joining. We'll chat with you next month.

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