Why Christmas is a poor recession indicator

There's a lot of tension in the retail sector ahead of Christmas, which is unsurprising considering what a make-or-break time it is for the trade. But is it really going to be the calamity the pundits have predicted?

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There's a lot of tension in the retail sector ahead of Christmas.

This isn't unusual. Of course retailers get nervous before Christmas. It's the biggest part of their year. If they mess it up, they stand to lose a lot of money. And of course, their lobby group, the British Retail Consortium, is always on the lookout for a chance to paint as bleak a picture as possible, in the vain hope of twisting the Bank of England's arm into an interest rate cut or two.

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But although I think next year will be miserable for retailers, I wouldn't be surprised if Christmas is perfectly reasonable rather than the calamity many might be predicting.

Why? Well, before I explain, let's turn to what's happening in the US

We've been discussing the (more than likely) forthcoming US recession here for quite some time. Now concerns over the threat of a major downturn are starting to hit the mainstream. In this morning's Times, Gary Duncan highlights a recent gloomy research report from Merrill Lynch's David Rosenberg.

Obviously there's the house price slump and oil prices taking off to worry about. But it's quite sobering to see the impact that these have already had on corporate profits. Almost all US companies have reported their third quarter earnings now, and according to Standard & Poor's, it's not looking good. Typical earnings per share fell 8.9% on last year, and 12.4% quarter-on-quarter.

"But what about employment?" is what the optimists - including one analyst I was chatting to on Friday - always say. But - as I've pointed out before - employment is a lagging indicator. By the time employment data turns down, we're already in trouble.

And as Mr Rosenberg flags up, that may already be the case. The number of Americans out of work for 15 weeks or more is ticking higher, which according to Mr Duncan, has happened ahead of "every US recession since the Seventies."

"Well, then, what about Black Friday?" retort the optimists. Despite the name, Black Friday is usually good news for US retailers the day after Thanksgiving, it was once the point at which most retailers moved into the black', or started turning a profit, for the year. And it seems to have been a pretty decent year this year.

According to Newsday.com, early data from ShopperTrax found that sales on Friday came in at $10.3bn, up 8.3% on last year, the biggest jump in three years. However, according to the National Retail Foundation, the amount spent by individual consumers averaged $348, down from $360 each last year, which suggests the sales drew more customers this year, but they were all looking for cheaper goods.

Some analysts have warned that Christmas sales growth will still be the slowest in five years, while others say that the real reason for lower spending is simply that people are buying laptops rather than expensive TVs.

But whatever the eventual turnout is, Christmas sales on either side of the Atlantic don't really tell us much about the economic outlook, because people don't tend to cut back until they have to. The reality is that for most people these days, Christmas spending is not seen as a luxury. Buying Christmas presents is a necessity.

People always say that they're going to try to spend less at Christmas, the same way that people say they're going to stop smoking, or give up alcohol for a month, or do more exercise. They're full of good intentions, but as soon as push comes to shove, those go right out of the window.

If the money's there, or the credit line's available, then people will always spend at Christmas. No one wants to cut back on the kids' toys, or a nice present for their spouse, or on a bit of one-upmanship with next door over the decorations.

So even if there are vague worries about the credit crunch, or the slowing housing market, or job security, they'll be pushed to the back of people's minds. After all, who wants to be seen as a misery at this time of year? If 2008's going to be grim anyway, we might as well have a nice blow-out this December and pay for it all later.

It's not until people are under real pressure when the pain is in the real world, and not just in the headlines that spending gets cut. When the mortgage has jumped by £140 a month; when your company's profits have dropped for the first year in five; when your bonus packet comes in a lot lighter than you expected that's when Christmas spending starts to dry up.

A lot of those things are starting to happen, but it's not sunk in yet house prices have only just begun falling, lenders are just starting to tighten up, and outside of the City, threats of job losses are a while away yet.

So retailers might get lucky this year. But they'd better make the most of it.


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Turning to the wider markets

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In London, mining stocks and housebuilders led the blue-chip FTSE 100 index 106 points higher to a close of 6,262 on Friday. Rio Tinto and Taylor Wimpey were the day's strongest performers, both notching up gains of over 7%. For a full market report, see: London market close.

On the Continent, the Paris CAC-40 added 105 points to end the day at 5,521. And in Frankfurt, the DAX-30 was 46 points higher, at 7,608.

Across the Atlantic, investors came back from their holidays in buying mood on Friday, although the major indices still ended the week in negative territory. The Dow Jones industrials index rallied 181 points to a close of 12,980. The tech-rich Nasdaq was 34 points higher, at 2,596. And the S&P 500 was up 23 points, at 1,440. Some of the day's best gains were found amongst recently out-of-favour financial stocks such as Citigroup and JP Morgan Chase.

In Asia, the Japanese Nikkei added 246 points to close at 15,135 today. And in Hong Kong, the Hang Seng was 1,085 points higher, at 27,626.

Crude oil futures rose again on Friday as the dollar sank to new lows, and had climbed a further 56c to $98.74 this morning. Brent spot was also higher, at $96.42, this morning.

Spot gold hit a two-week high of $828.70 this morning, before falling back to $824.60. Silver was last trading at $14.78. And platinum hit a record high of $1,486 on supply concerns in South Africa, the world's largest producer of the metal, but had since fallen back to $1,477.

In the currency markets, the pound was at 2.0693 against the dollar and 1.3925 against the euro. And the dollar was at 0.6726 against the euro and 108.54 against the Japanese yen.

And in London this morning, Richard Branson's Virgin Group was announced as the government's preferred bidder for troubled mortgage bank Northern Rock. Virgin's bid includes an immediate £11bn payment towards the £25bn lent by the Bank of England. However, the bid values Northern Rock below its Friday closing price. Shares had fallen a further 16% so far today.

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John Stepek

John is the executive editor of MoneyWeek and writes our daily investment email, Money Morning. John graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.

He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news. John joined MoneyWeek in 2005.

His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.