Are We There Yet?

By Ross Waetzman, CIRA, CDBV, Director

August is the lazy month of summer vacation. Families also know it’s the month when kids ask, “Are we there yet?” Looking ahead at the landscape of distress, I ask the same question.

Everyone is grumbling about inflation. One overlooked feature of inflation is that it is often aggravated by economic growth. Since the pandemic, inflation has been 2.0% higher than historical averages. Real GDP growth (after inflation) has remained within historical ranges only because consumers are paying higher prices. This persists only if wages rise faster than inflation.

Labor shortages are allowing workers to negotiate higher wages. The US has 9.8 million job openings but only 5.9 million unemployed workers. These are not temporary issues and, per the Fed, could make inflation persistent.

Despite higher wages, low-income earners are struggling to keep up. Since January 2020, real wages have declined by 20.0%. In June, wages grew faster than the inflation rate for the first time in 26 months.

Turning to corporations, earnings show signs of slowing but not of distress. As of Q4 2022, 67.0% of S&P 500 firms reported higher-than-projected earnings. This is down from an average of 75.5% the previous year but still above the long-term trend of 66.0%. Could soft corporate guidance blur the health of Corporate America?

One reliable indicator of distress has been the “spread” between high-yield debt rates and that of US Treasury securities. Spreads significantly exceeding 8.0% for long periods are often associated with recessionary periods. With the rate at 3.8%, bond markets aren’t showing signs of concern.

So, all’s well in paradise? Not exactly. Consumer spending power may be dwindling. Approximately 60.0% of Americans are living paycheck to paycheck, suggesting this group needs to reduce consumption. The dog days of GDP growth may soon be over.

As for our ETA for full-on distress, signs for an offramp are not yet visible, but all indications are that they are not much further down the road.