Dynamic generational shift influencing consumption

As most readers already know, the financial markets have been fueled by extremely accommodative monetary policy since the Great Recession. However, we are now more than six-plus years into the current bull market in U.S. stocks, marked by gains of approximately 225 percent on the S&P 500 Index. In a historical context, this represents the fourth most profitable bull market since 1930 (Bloomberg Finance).

On top of this, we anticipate that the U.S. Federal Reserve will begin to raise rates either at the end of 2015 or beginning of 2016, given continued strength in U.S. economic data.

Internationally, we also know that the European Central Bank's policy is to implement stimulus in the form of quantitative easing, purchasing ‚?¨60 billion of government and corporate bonds each month until September 2016. What we do not know though is how the stock market and economy are going to handle a transition from a liquidity driven market to a growth driven market.

With these conditions, the current backdrop for corporate America is relatively strong as most corporations have remained lean after the recent crisis. We continue to witness most corporations carrying high levels of cash. They have also refinanced debt at low interest rates, lowering overall debt expenses, while enjoying little to no wage pressures. All this has resulted in U.S. corporations operating at near record high operating margins. Collectively, these conditions have helped propel bottom line earnings growth and, in turn, the stock markets.

However, the issue companies currently have is where they can find top line (sales) growth. Consumption since the financial crisis has been tepid due to lost household net worth, saving more to reduce debt and an unsteady labor market. With consumption comprising nearly 70 percent of U.S. GDP and thus being the largest contributor to GDP, a hesitant consumer is clearly not optimal for companies' sales prospects. These conditions have resulted in a current price to sales ratio for the S&P 500 Index that is in the highest quintile. The only other time it was this high was at its peak in 1999 and 2000.

As a generally hesitant consumer weighs on current sales prospects for companies, there are additional conditions that weigh heavily on future sales growth prospects to future workers known as millennials, or individuals between the ages of 15-32.

First, those that graduate in 2015 from a four-year collegiate program have approximately $35,000 in student loan debt. That's more than twice the cost of graduates who attended in 2000 and could result in monthly bills of close to $400 the most indebted ever as costs for college becomes less affordable (The Wall Street Journal. "Congratulations, Class of 2015. You're the Most Indebted Ever [For Now] May 8).

Secondly, health care coverage for young adults has now drastically changed since the adoption of the Affordable Care Act. In the past, it was an individual's responsibility and choice for health coverage and costs. Today, there are plans of coverage that must be selected to meet minimum essential coverage; otherwise fees will be placed when filing tax returns.

Finally, the shift from most corporations offering its employees defined benefit plans to defined contribution plans is another hit to this generation's bottom line budget. Defined benefit plans were prevalent in the past, where the plan provided a fixed amount of retirement money for individuals, and the employer made most of the contributions to funding.

However, as of the end of 2013, a Towers Watson study found that only 24 percent of Fortune 500 companies offered a defined benefit plan to new employees, compared to 15 years earlier, where 60 percent of companies offered defined benefit plans (http://bit.ly/1HnkBFv). Today, most companies have defined contribution plans where individuals are responsible for making their own contributions toward meeting their retirement savings goals.

What does this all mean for the economy and stock markets? The future generation primed to drive our economy has less money to spend after accounting for the previously mentioned expenditures. Moreover, millennials have seen the negative impacts of the 2008 Great Recession and, as a result, there have been signs of a generational change where they now try to avoid debt, save and buy items with cash.

The bottom line of such a change in mentality would be much lower trending economic growth than has been witnessed in past business cycles.


Travis M. Gallton, CFA, is a senior equity portfolio manager for Karpus Investment Management, a local, independent, registered investment advisor managing assets for individuals, corporations, nonprofits and trustees. Offices are located at 183 Sully's Trail, Pittsford, NY 14534; or call (585) 586-4680.

Published: Fri, Jun 12, 2015


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