UK: A happy consumer is not built to last – Deutsche Bank

Oliver Harvey, Macro Strategist at Deutsche Bank, notes that the UK retail sales numbers for December were softer than market expectations on Friday, with core retail sales dropping 2% mom versus a consensus of 0.4%.

Key Quotes

“Discounting before the Christmas period was one culprit fingered by analysts, but a closer look at the detail reveals some more concerning trends.”

“First, the drop in household goods store volumes, encompassing bigger ticket items, was the weakest monthly fall in history save for the 2008 crisis. Retail sales are notoriously volatile and one shouldn’t read too much into a single data print; but greater than two standard deviation falls in this series have presaged slowdowns in the past, the one caveat being February 2013, just before the start of the current recovery.”

“More importantly, there are compelling macro reasons for sales volumes to start falling. Retail discounting, a trend in place since 2013, has reversed with the price deflator for core retail sales now in positive territory. Unsurprisingly, as prices rise volumes should fall. In the UK’s case, however, discretionary consumer spending is also likely to be hit by rises in oil, with fuel prices having far outstripped the cost of other consumer goods since Brexit. Elsewhere, internet purchases have risen in price faster than many high street goods, likely reflecting both lower and the ease of changing menu costs for online retailers reacting to the fall in GBP.”  

“A key question is whether volume growth slows enough to lower overall sales values. On that front, it’s helpful to refer to recent consumer survey data. Both the GFK and ECFIN surveys agree that consumer confidence has resumed its downtrend after recovering somewhat during last summer. Retail sales now look very out of line with economic confidence, and history suggests it’s the former not the latter that catches up.” 

“It may be that retail sales have held up so far because consumers have front-loaded purchases ahead of an anticipated inflation shock this year. Under this scenario, the UK’s economic resilience since June represents no more than an Indian summer, or perhaps a Brussels summer, before political and economic realities take their grip.”

“In terms of sterling implications, the market is now pricing around a 50% chance of a hike from the Bank of England by the end of the year. A more dovish Bank of England is not a core component to our bearish sterling view, but if the analysis above materializes this would appear a mispricing. A more cautious UK consumer should be consistent with lower real rates and a weaker pound.”