Why are retail sales so important for the economy?
Retail sales are a reflection of consumer health. In 2013, U.S. retail sales were estimated at ~$4.5 trillion or ~27% of the gross domestic product (or GDP). Therefore, shifts in retail spending are key drivers for economic growth and can have a significant impact on financial bourses, such as the S&P 500 Index (VOO). An increase in retail spending is generally associated with consumer confidence and an improving economy. A decrease in retail sales, would imply the opposite. In this section, we will analyze some of the macro factors that will likely impact retail sales.
Labor market trends
Job creation in the economy is key to future retail sales. More jobs will mean people will have more money to spend on discretionary items, which benefits retailers. The U.S. economy added 288,000 jobs in April, which beat analyst estimates by a very wide margin.
However, the participation rate remains the labor market’s Achilles heel, which declined by 0.4% to 62.8% in April, compared to March. Wage growth was almost flat. The latter two factors need to strengthen to sustain retail spending growth.
If jobs are created at the current rate, this will be good news for retailers like Nike (NKE) and YUM! Brands (YUM). It will also benefit ETFs like the SPDR Consumer Discretionary Select Sector ETF (XLY) and the VanEck Vectors Retail ETF (RTH).
Consumer confidence and consumer spending
An increase in consumer confidence usually causes consumers to spend more money on discretionary expenditures, which positively impacts retail sales. The Thompson Reuters University of Michigan Consumer Sentiment Index, which had hit a 9-month high in April, fell unexpectedly in May on higher food and energy costs—this took a toll on household budgets. The fall in the Index seems inexplicable given the positive payrolls report in April.
However, consumer spending trends appear to be increasing—personal consumption increased 0.9% in March over February, which was the fastest rate in nearly five years. Increases in consumption spending bode well for retail sales. To learn about other measures of consumer health, please read the Market Realist series, A must-know investor’s guide to the evolving consumer health.