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Inflation's not over, but another big driver's starting to turn. Pricing power is weakening...
Or at least, there are signs that confidence in that pricing power is starting to turn...
It's no time to jump to premature conclusions about the future. However, I do think we're finally seeing the worm turn for the economy. A few corporates are dropping hints too.
I strongly suspect that with the benefit of 20/20 hindsight, the amazing, incredible, spectacular jobs report will turn out to be a weird anomaly rather than a sign of labour market strength.
Even though we're all getting excited about economic growth again, what's the driver? Things being a bit less bad than they were? 👇
A rally is just a crash waiting to happen, and a crash is just a rally waiting to happen. One way or another you'll be right eventually... It's useless conjecture.
So, I'm fully aboard the "inflation doesn't get sorted without a recession" train. Same goes for the associated rate cuts.
The general persistence of inflation is another matter altogether. It's not hard to envisage a world where inflation sticks at something like 3.5% while the economy gradually slows.
Like a ship dragging along the seabed, the friction slows it down, but doesn't damage the hull enough to sink the boat. Usually though, a recession does kill inflation, at least for a while 👇
So, what's the corporate role in all of this?
Well, their input costs went up. So they raised prices. Consumers paid those prices. So they did it again. And again. Price discovery isn't just a financial market phenomenon.
We covered this corporate pricing power recently here 👇
Then the NY Times ran this headline 👇
The general rule is that once you see a market theme in the mainstream media, the trend is over. A similar principle to the magazine cover as a contrarian indicator.
At minimum, it shows that the theme's mature and running out of steam. Back to the NYT 👇
From soda to soap, consumer giants like PepsiCo and Unilever continue to raise the prices of their products significantly, passing on the higher costs they face, and consumers continue to spend, cutting back only modestly in recent months.
Prices will continue to rise, or at least remain at high levels, executives said.
Now, those two things are VERY different.
Prices will continue to rise or stay the same is a different dynamic to prices will continue to rise (f**k you, pay me).
PepsiCo is one we've been closely monitoring over the past year precisely because of their ability to push price even if it came at the 'cost' of lower sale volumes.
Lower volumes didn't matter. Price hikes were far outpacing any decline in sale units so profits were extraordinarily healthy. Now they're taking a break... 👇
They're not doing this out of the kindness of their hearts. To me, it looks as if they're close to optimal price discovery. For now at least.
CFO Hugh Johnston explained the decision on the analyst call 👇
Look, obviously, 6% revenue growth in Consumer Products is still a very healthy growth rate, and we certainly feel good about that as the guide. Would we expect volumes to be down? Perhaps they'll be down a little bit. Let's see how the year plays out.
Right now, the consumer is still quite good. But we also have to plan for multiple scenarios. And in the back half of the year, given interest rates are as high as they are, it wouldn't be shocking if there were a mild recession in the U.S. and in some of our developed markets.
We've taken actions in terms of productivity to make sure in a recessionary environment, we're still well insulated to hit our numbers. But we've got to plan the business such that with interest rates as high as they are, you could certainly see some impact over time on the top line.
So that's kind of the way that we're thinking about this one. And then let's see how the year plays out. If the year plays out better, then that's great. We'll invest back. And I think we'll -- everybody will be happy with that outcome.
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Walmart's playing their role here too. Even if PepsiCo tries to push prices, they might find an unwilling retailer... 👇
Rod Little, CEO of Schick razor maker Edgewell Personal Care Co told Reuters that it "will be very difficult" to pass new price increases through to retailers going forward. Walmart is Edgewell's biggest customer.
"(Walmart) said to us, 'From here, our consumer is challenged, we're going to be looking out for consumers, so you're going to have to have really good reasons if you're going to price up from here," Little said in an interview.
"Because the consumer is now under more pressure, and Walmart is under pressure, that sets up a dynamic where there's probably not a lot of pricing going forward."
The consumer's under pressure. Some will point to recent data and ask... What pressure?
"The primary factor driving spending decisions is income – not just income today but the expectation for income tomorrow.” said Michelle Meyer, North America Chief Economist, Mastercard Economics Institute.
“The strength in the labor market remains a critical support for consumer purchasing power and we’re seeing this reflected in our SpendingPulse insights for January.”
As the economy right-sizes, re-sectorises (former tech workers flow into other sectors of the economy) and generally reconfigures, layoffs are set to mount.
Uncertainty about job security and the future will weigh on consumption. Good news (lower corporate pricing power creates more stable prices) will eventually (soon?) turn to bad news...
For the economy and for markets...
Are we there yet? No idea. We're definitely closer and running out of reasons to be optimistic.