In #StrongDollar, We Trust

“Kennedy Pledges He Will Maintain Value of Dollar”

-New York Times, 1960


As William Silber points out in Volcker – The Triumph of Persistence, that’s what JFK was rolling with 2 weeks before the 1960 US Presidential Election. It was a pro-growth campaign about American progress. A #StrongDollar has always symbolized that.


After LBJ, Nixon, and Carter spent 15 years devaluing the Dollar, this progressive conservative American mantra lost its place in the vernacular of what Hayek called the Political Economy. Why? Currencies and the central bankers that manipulate them get politicized.


After watching Bernanke devalue the Dollar as aggressively as any Fed Chairman since Arthur Burns (1970s), now you are watching the Japanese take a page out of his un-American playbook. That’s not a partisan comment either. Long-time Democrats will recall Kennedy’s thoughts about the US Dollar and monetary policy were crystal clear:


Price stability belongs on the social contract. We give the government the right to print money because we trust our elected officials not abuse that right, not to debase the currency by inflating… Failure to maintain those promises undermines trust in America. And trust is everything.” (Volcker, pg 53)


The world no longer trusts the Japanese.


Back to the Global Macro Grind


But do Americans trust President Obama and Ben Bernanke? Does Wall Street? Do we trust that if the US unemployment rate continues to surprise on the downside in 2013 that these politicians will get out of our hard earned currency’s way?


Today is a big day on that score. While it’s tough to get comfortable with a number that the US government effectively makes up, we’re confident that the market is confident that Bernanke is somehow confident betting the entire bond bubble farm on one made-up number.


To be balanced, if there’s one thing we are overly confident in, it’s that Bernanke’s growth forecasts will continue to be wrong. We think both US employment and consumption growth surprises to the upside during #StrongDollar periods like the one you are seeing now.


Does the market like this? Which market? First, let’s look at what USD Correlation Risk is telling us on a 1-month duration: 

  1. US Dollar vs SP500 = +0.84
  2. US Dollar vs Brent Oil = -0.71 

Hooowah! Al Pacino couldn’t have said it better. Like taking a flyer in a Ferrari for free, American Consumers absolutely love #StrongDollar, Down Oil. Basic Materials and Energy stocks, not so much.


Commodity-linked country stocks markets don’t like it either:

  1. Russia – RTSI down again this morning and down -13.3% since January 28th 2013
  2. Brazil – Bovespa is a big commodity index, and continues to be just nasty YTD (-10.3%) 

For Commodities overall, the last 2 months have been flat out nasty:

  1. Rubber -21.1%
  2. Silver -15.2%
  3. Corn -14.2%
  4. Copper -10.9%
  5. Platinum -10.7%
  6. Wheat -9.0%
  7. Brent Oil -7.9%
  8. Soybeans -7.8%
  9. Lean Hogs -7.4%
  10. Gold -7.4%

So, I guess if you are really long commodities, being long Gold right now would be your outperformer!


Long-time market history fans know that Gold has been annihilated, multiple times, during #StrongDollar periods. Until Nixon and Connolly (his politically compromised Treasury Secretary – the guy who rode in the car with JFK during the assassination) figured out how to Burn The Buck for political victory (1971), US Dollar strength (particularly in the 2nd half of 1969) crushed the Gold bugs.


But this is much larger than #AngryBugs at this point. This is really the first opportunity since Q1 of 2009 where #StrongDollar Commodity Deflation has provided a real-time Tax Cut to American Consumers of food and oil.


The Fed’s Bill Dudley would disagree with me on this, but I don’t think you can eat platinum or rubber. That said, producers who need such things to make what we consume will pay less for their inputs, if pervasive Dollar strength continues.


So, again – I call on the great market minds in Washington D.C. to do what’s right and:

  1. End the most dovish Fed policy in US history
  2. Continue with the shift toward conservatism in fiscal policy
  3. Spread the love about #StrongDollar’s benefits (Obama, Yes You Can!)

Especially at the pump and at our dinner tables, we can trust that a lot more than we’ve trusted the #PoliticalClass under any of the Nixon, Carter, Bush II, or Obama regimes. “And trust is everything.”


Our immediate-term Risk Range for Gold, Oil (Brent), US Dollar, USD/YEN, UST 10yr Yield, VIX, and the SP500 are now $1, $105.68-108.93, $82.52-83.41, 94.04-96.35, 1.76-1.92%, 12.31-14.61, and 1, respectively.


Best of luck out there today,



Keith R. McCullough
Chief Executive Officer


In #StrongDollar, We Trust - Chart of the Day


In #StrongDollar, We Trust - Virtual Portfolio


TODAY’S S&P 500 SET-UP – April 5, 2013

As we look at today's setup for the S&P 500, the range is 25 points or 0.70% downside to 1549 and 0.90% upside to 1574.     










  • YIELD CURVE: 1.53 from 1.54
  • VIX closed at 13.89 1 day percent change of -2.25%

MACRO DATA POINTS (Bloomberg Estimates):

  • 8:30am: Trade Balance, Feb., est. -$44.6b (prior -$44.4b)
  • 8:30am: Nonfarm Payrolls Change, March, est. 190k (pr 236k)
  • 8:30am: Unemployment Rate, March, est. 7.7% (prior 7.7%)
  • 1:30pm: Baker Hughes rig count
  • 2:30pm: Philadelphia Fed vice president Nason speaks
  • 3pm: Consumer Credit, Feb., est. $15b (prior $16.15b)


    • CFTC holds closed meeting on surveillance and enforcement matters, 10am
    • Talks resume on Iran’s nuclear weapons program in Kazakhstan


  • Payrolls in U.S. probably rose in March as demand picked up
  • Blackstone said to sidestep Michael Dell’s role in buyout talks
  • Soros joins Gross in warning Kuroda plan risks rout in yen
  • BP to ask judge to halt some oil spill settlement payments
  • Olam to discontinue legal action against Muddy Waters, Block
  • Euro-area Feb. retail sales fell less than est. from Jan.
  • German Feb. factory orders may rise from Jan.: survey
  • Grohe owners said to mull IPO, sale of bathroom fixtures maker
  • Banks warn stricter securitization rules risk credit drought
  • North Korea regime uncertain, maintains stability: South Korea
  • Japan considers shooting down North Korea missile: Sankei
  • U.S. budget, Bernanke, China, Masters: Wk Ahead April 6-13


  • WTI Set for Biggest Weekly Drop Since September Amid Iran Talks
  • Gold Traders Split With Bullion Nearing Bear Market: Commodities
  • Soybeans Fall for Third Day as Bird Flu in China May Hurt Demand
  • Platinum to Slump as Europe Car Sales Tumble: Chart of the Day
  • Copper Swings on Chile Export Curbs and Signs Economies Struggle
  • Cocoa Falls a 3rd Day as Rain May Help Crop; Sugar Also Declines
  • SGX to Introduce Iron Ore Futures as Investors Bet on China
  • Russian Grain Crop Seen by Rusagrotrans Up 28% in Coming Season
  • Le Fracking for Geothermal Heat Draws Ire of French Oil: Energy
  • Coal Strike Looms as Workers Protest Stake Sale: Corporate India
  • Meat Industry Renames Beef, Pork Cuts Before U.S. Grill Season
  • RIN Ethanol Price Risk Remains Skewed to Upside, Goldman Says
  • Aluminum Premiums Reach Record as Warehouse Releases Limited
  • Gold Trades Near 10-Month Low in London on Recovery Outlook






















The Hedgeye Macro Team











investing ideas

Risk Managed Long Term Investing for Pros

Hedgeye CEO Keith McCullough handpicks the “best of the best” long and short ideas delivered to him by our team of over 30 research analysts across myriad sectors.

HedgeyeRetail Best Ideas

Takeaway: Here's our incremental thinking on our Retail Best Ideas. NKE, RH, FNP, KORS, JCP(what?). DKS, GES, UA, LULU, M, CRI. Then there's our bench

Here’s an overview of incremental thoughts on our Retail Best ideas.


The Retail Group Call: The out-of-consensus call here is to be bullish on retail. But with margins at peak, capex up by 30-40%, and SG&A up by 30-50bp the rate of sales, we need confidence in a given company’s ability to drive top line growth through its model to keep returns headed higher. We think that Retail will increasingly be a game of haves and have not’s in 2013 – and capital efficiency/deployment will be the biggest theme.



Nike (NKE): The consensus view is that the company just put up a great quarter, and now the story is over. But the reality is that it proved that it can continue to drive results in its core US market, while we’re now seeing a recovery in China, Europe and Emerging Markets. Also don’t forget that Gross Margins, which have been an Achilles Heel for over two years, are improving sequentially. Inventories look cleaner than they have in 10 quarters. It is doing this with a disproportionately small amount of working capital and capex, which carries big weight with us. Consensus estimates are still too low.


Restoration Hardware (RH):  The Street has left this one for dead.  But the reality is that RH is seeing an inflection point in its square footage growth by way of rolling out its new Design Galleries – which are 3x the size of its current stores. While bigger stores is usually the swan song for a retailer, in the furniture space is critical. RH has only been able to showcase 25% of its product, and now it is changing its model to show the consumer a dramatically greater portion of its product line, as well as launch new categories like kitchen, bath, flooring, kids, art, etc…. The punchline is that this is a volatile name, but you’ve got square footage growth, productivity improvement from new categories, and a call option on a sustained recovery in housing.  


Fifth & Pacific (FNP): The stock is hitting multi-year highs, but that doesn’t mean that it can’t hit new multi-year highs. The new wrinkle of a likely sale of Lucky along with Juicy Coture is a big positive – as much as we a) like the current momentum at Lucky and b) cringe at selling Juicy at t he bottom. FNP has already gone from being a debt-laden, low margin, low asset turning portfolio of bad brands to being one of the best growth stories in retail. Getting rid of these brands would strip FNP of its debt, which would only make the story that much more attractive. We’re modeling Kate EBITDA to nearly triple to $300mm by 2015. That more than 50% ahead of consensus. Until that’s recognized, the ‘FNP is too expensive’ argument holds little water with us.


Michael Kors (KORS):  Yet another expensive stock, but one where we think we’re looking at 40-50% earnings growth – and expectations that are about 20% too low through 2015. In short, we think that KORS and COH will flip flop as it relates to margins, with KORS accelerating to the low 30s and COH slipping to the mid-20s. We’re modeling another 175 stores added globally on top of 30% wholesale growth. Both of those are very realistic. As it relates to comps, we concede that the productivity numbers are getting stratospheric -- $1,700 today on a trajectory to $2,400 over three years. Though we’ll be looking at moderating growth thereafter, we’ll also be looking at a company that turns its assets 12x annually on top of 22% tax-adjusted EBIT margins. That would make it one of the highest retailers in retail – ever. 25x a $4.00 EPS number in 2015 is hardly a stretch in that scenario. At a minimum, shorts beware.


JC Penney (JCP): Ok…here comes the accountability thunder.

After being short JCP from the Ackman/Johnson $40 ‘$9-$12 in earnings power’ hype, we pulled a 180 at $19 earlier this year. To say that our ‘about-face‘ was the wrong call would be an understatement.


While it’s very tempting to support it here, we simply can’t for anyone with a near-term horizon. We have three primary concerns. 1) First off, we’re at a loss of ($0.91) for the quarter, versus the Street at a loss of ($0.68). We were below-consensus last quarter too, and made the mistake in thinking that it was ‘in the stock’. The timing of the Vornado sale did not help, but clearly, it’s tough to be bullish on a name like this ahead of a miss.  2) The Martha Stewart trial is coming to a head and we’ll see fireworks on or around April 8. It is near impossible to get an edge on which way this will go. 3) The calls for Ron Johnson to be fired scare us. For most companies, we could see how this would make sense. But the company can’t financially afford to change direction under anyone else, and if RJ is out of the equation there’s the risk of major vendors backing out. If the lobbying for him being fired is successful, we’d short every share we could find. The punchline here is that there’s no reason this stock can’t drift lower near-term.


While it’s obvious that a lot of this uncertainty is what’s driving the stock down so hard, the reality is that the better risk-management call would be to support it once a) 1H earnings is past, and b) we have clarity that RJ is keeping his job – even if it means getting involved at a higher price.


If this story is really going to work, getting back in at $19 as opposed to $14/$15 won’t make much of a difference for someone with a 1+year duration. But if the company misses even our bearish estimate in 1Q and/or the research call changes (its ability to roll-out higher productivity shops), we’ll cut bait…fast.



Dick’s (DKS): DKS might be a best in breed, but it’s a bad breed. DKS is low margin, low asset-turning, and subsequently low return. We only like to get involved with DKS on the long side as a rental, and that’s when we can bank on comps in the 5% range or better. Today, we’ve got 1-2% comps, and the only safety there is that the golf business (Golf Galaxy – about 22% of total) is doing well because Tiger is back. The current run rate is not enough to leverage occupancy, which is not comforting given that a) margins are at peak and b) management admitted that it has underspent in its omni-channel growth strategy and needs to play catch up (#$$$). We might be ok with that for an above average retailer, but keep in mind that this is a company that faces stiff web competition from other retailers and even the brands that sell in its stores. The companies that are winning today are the ones that spent on ‘omni-channel’ way back when no one even knew what the heck ‘omni-channel’ was. Too little, too late. We think that DKS is a value trap.


Guess? (GES): The Guess? brand is stalling globally, the executive suite has a revolving door, and the only real bull case revolves around this being cheap on a more ‘normal’ earnings base of $3+ that it earned over each of the past two years. That’s a pipe dream. Even management’s guidance of $1.70-$1.90 is optimistic at best, and if it gets there it will be through cutting costs that arguably be reallocated to other areas of the business. One thing that’s important to consider is that 2/3 of GES’ business is causing the problem – and that’s North America Retail, and Europe. The company is blaming the economy – again. The company needs to understand – as we do – that investors absolutely have zero tolerance for a management team that does not have a process to drive its business in the face of a downturn in the economy.  In the end, we think we’ll need to see new blood in the executive rank at GES who will then need to fight for – and win – the right to reinvest capital into the business to better stratify the brand and build an omnichannel strategy accordingly. We’d definitely put GES in the bottom quartile with its abilities in those areas. Until then, it too, is a value-trap in the mid-$20s.


UnderArmour (UA): We continue to think that UA will join the band of companies in the retail supply chain that is stepping up capital investment this year – both in capex and in SG&A. Growth in Footwear and International are both absolutely critical to UA’s aggregate top line. When that happens, we think that revenue and EBIT growth will diverge. If we’re wrong, then we think it is a matter of time until the top line slows, which would be even more damaging to UA’s multiple.  We still think that this is an exceptional brand, but simply think that it belongs to a company that needs to go through some growing pains before it could deliver upon the expectations currently embedded in the stock.  We think it’s more likely than not that earnings growth gets pushed out by a year sometime in 2H, and that investors should take advantage of this on or just after the 1Q print.


Lululemon (LULU): We rarely make a multiple call, but this is about as close as we get. LULU owns one of the most powerful brands in apparel, and few would debate that. That’s implicit in the company’s sales trajectory, 27% margins, 125% ROIC, and ultimately, its 30x multiple. Unfortunately, its ‘wardrobe malfunction’ that threatened one of its most important products, it begs the question as to whether there’s enough infrastructure at LULU to ensure quality control at a level that is consistent with a company that is going to double in size to $3bn over 3-years.  Keep in mind – in order of magnitude of this blunder is like Nike finding out that all its Jordan’s are defective. We know that costs are going up to some extent. But will they only impact margins by 1%, or take them to 25%, 20%, 15%? We can speculate, but the reality is that we simply don’t know, and the market won’t know either for a 1 to 2-year time period. This kind of uncertainty does not give us confidence that a multiple starting with a 3 – or perhaps even a 2, is bankable until sales and margins reaccelerate.


Macy’s (M): We simply don’t like how this story is packaged. Macy’s is a lousy secular story with no unit growth that is at peak margins and just had a breakout year that temporarily pushed returns above its cost of capital.  It has a major competitor that is coming back online after a disastrous year, and it will impact the competitive landscape whether JCP succeeds or fails in hitting its own goals.  By saying ‘a major competitor coming back online’ we mean that JCP probably won’t comp down another 30% this year (even if you’re a JCP bear you probably agree with this). That’s the magnitude Macy’s needs to see in order to face a similar competitive set as last year. On the margin front, management already noted that additional gross margin improvement is unlikely, and that we’ll need to see future margin growth coming from SG&A leverage. We’d be much more comfortable paying up for M if we could bank on Gross Margins. But banking on sales and SG&A leverage for a department store? Not quite. And let’s not forget that it’s got financial leverage. We think the downside/upside here is 2 to 1.


Carter’s (CRI): CRI has been an outstanding story, and it’s one where we’ve gotten the research call wrong on the short side. That said, we’re keeping it on this list because it fits so well with our capital allocation theme as we struggle to find another company that is spending more capital for an incremental return that is already embedded in consensus estimates. In other words, there’s extremely little room for error. We started to see product pricing show slight signs of weakness two quarters ago. Then last quarter comps weakened in US Carter’s stores. At the same time SG&A was up 40%, and the company noted that capex was going up from $85mm in 2012 to $200mm in 2013. The Street is modeling margins of 14.4% 3-years out, and we’re hard-pressed to think that we see anything higher (in fact we can’t find comparable businesses that do much better). With the stock at $59, we’re looking at 17.8x, 15.5x, and 12.4x earnings using 2013, 14 and 15 consensus estimates, which assume that CRI grows margins by 330bps over that time period. If we’re wrong on this one, we think it will be the time period over which CRI hits these goals – not that it will surpass the absolute margin levels.  


Today we bought ConAgra Foods (CAG) at $34.60 a share at 3:13 PM EDT in our Real-Time Alerts. ConAgra remains one of Hedgeye Consumer Staples Sector Head Rob Campagnino's best ideas, we bought it back down here as it tests and holds immediate-term TRADE support.



Housing Is The Ultimate Giffen Good

Takeaway: Key housing demand drivers & Demand-Supply dynamics should continue to support prices. We expect a modest Wealth Effect on NTM consumption.

#HousingsHammer was one of our two bullish, domestic-centric Macro Investment Themes in 1Q13 and a key support to our view on domestic #GrowthStabilizing.   


Ahead of a more comprehensive update to our intermediate term outlook for housing (2Q13 theme perhaps?), below we summarily review the current trends in key housing fundamentals, highlight the relevant pricing model dynamics and discuss the potential for rising home prices to flow through to consumer spending and consumption – the so-called Wealth Effect



THESIS:   In our view of housing as a Giffen good, demand and price interact reflexively as demand chases price higher which, in turn, drives further price appreciation in a virtuous cycle.  Employment, Household Formation, Birth Trends & Demographics sit as principal drivers of housing demand and trends across each of those metrics remain favorable.  Rising demand alongside ongoing inventory tightness should continue to support further home price appreciation over the intermediate term.    





Demand – Pending, Existing, and New Home Sale Metrics all continue to reflect rising demand.  Credit demand for residential real estate continues to rise while credit standards for prime borrowers continues to ease according to the FED’s Loan Officer SurveyGrowth in Mortgage Purchase applications, one of the better lead indicators for housing activity, showed further acceleration in 1Q13. 


Employment – Labor market trends continue show modest improvement as payroll numbers have accelerated and Initial Jobless Claims continue to show year-over-year improvement.   Broad employment growth is of obvious import to aggregate consumer demand, but the age demographics that have characterized the jobs recovery remain particularly supportive of housing demand.   


The BLS employment by age data shows that, to a large extent, we are still experiencing a barbell recovery in employment with 20-34 and 55-64 year olds remaining the primary beneficiaries of business hiring.    With New Household formation centered on the 20-40YOA age demographic, positive employment trends and income stability should provide ongoing support to housing demand on a lag.    


Births – After the biggest decline in over 40 years, Birth trends are beginning to turn.   The correlation between Female Employment growth within the 20-34 Year old cohort and U.S. births is strongest on a 3 quarter lag – the lagged relationship makes common & economic sense as the decision to have a child follows the change in employment status, the initiation of insurance coverage, and a high enough comfort level with job security to take maternal/paternal leave.  The acceleration in 20-34 YOA female employment that began in 1Q12 should drive positive birth trends from here. 


Household Formation – Household formation fell well below the historical average into and following the great recession, going negative in 2009.   Household formation growth has been a good leading indicator for the housing market as the late 2Q11 acceleration presaged the positive inflection in the housing market into 2011 year end.  Following its initial positive inflection in 3Q11, household formation growth has accelerated over the last year and remains positive for forward housing demand.   


Demographics – from a secular perspective, growth in the 30-40 YOA cohort sits as one of the few population demographic bright spots with that age demographic facing a secular upswing for the better part of the current decade.  Accelerating population growth in this key demographic for housing should provide a positive baseline of organic demand growth.   


Housing Is The Ultimate Giffen Good - U.S. Housing Demand


source: Hedgeye Healthcare

Housing Is The Ultimate Giffen Good - Births vs. Employment Model   1Q13 normal


source: Hedgeye Financials

Housing Is The Ultimate Giffen Good - 2yr comps Household Formation


Housing Is The Ultimate Giffen Good - 30 40 YOA Population 



SUPPLY:   Rising demand and falling supply is price positive and Inventory tightness has only increased since the start of the year.   New Home inventory remains near all time lows, Existing home inventory is down >50% since the July 2007 peak and months supply is at the low end of the historical average from 1


There may exist some capacity constraint as builders work to fill rising demand, but housing starts could still compound at double digits for the next three years just to get back to the longer term average.  While any emergent capacity constraint may marginally dampen upside potential in transaction volume, it remains supportive of price appreciation.   


Housing Is The Ultimate Giffen Good - Housing Supply 2


Housing Is The Ultimate Giffen Good - Housing Starts   Permits


PRICE:  The FHFA Home Price Index, Case-Shiller HPI, and Corelogic home price data all continue to register price acceleration.  The latest Corelogic data, tracked by our Financials team, estimates home prices grew 10.2% y/y in March, flat with growth in February, and up from 9.41% y/y growth in January.  So long as inventory remains low and the core drivers of housing demand remain positive, we continue to expect demand-price reflexivity to support housing market strength over the intermediate term.   


Housing Is The Ultimate Giffen Good - U.S. Housing Prices 




Pundits and Policy makers like to casually interject the “wealth effect” term into discussions around financial and housing asset appreciation/depreciation impacts on consumer demand – the term is self-descriptive and, intuitively, the idea that if you have more ‘resources’, your capacity for consumption increases is a fairly digestible concept.  There are, however, some key conditions underneath the wealth effect phenomenon that need to be met for increased housing wealth to manifest in increased spending and consumer consumption.   


Below we take a quick, didactic tour of the wealth effect and the important considerations as it relates to the flow through impact on consumption. 


Wealth Effect – What is it:  When home prices rise at a premium to inflation, real housing wealth increases.  The wealth effect ‘theory’ posits that when real housing wealth increases, consumer spending permanently increases by some fraction of that wealth increase in every subsequent year.   It’s the “some fraction” part of the theory that sits at the center of ongoing research and debate.  


Consumers, on balance, don’t immediately convert 100% of a wealth increase into current consumption.  Instead, in annuity like fashion, they tend to spread that ability for increased consumption out over their lifetime.  Economists attempt to quantify this phenomenon - how consumption changes following changes in housing wealth  - by measuring “Marginal Propensity to Consume” – the term used to describe how much consumer spending increases for each additional dollar of housing wealth.  In general, studies examining the marginal propensity to consume show that consumer spending increases between 2 and 7 cents for each dollar of housing wealth increase.   


Actual increases in housing wealth as well as expectations around future price appreciation are thought to be the lead factors driving consumption and spending decisions.   The important, if obvious point, here is that even if home price appreciation is positive, if it’s less than what consumer were expecting (& basing spending decisions on) then the impact to go-forward consumption would be negative, and vice versa.  Households would increase/decrease their savings rate to close the delta between expected and actual housing wealth changes.     



Key Conditions It makes intuitive sense that an increase in real wealth, be it from housing or financial asset appreciation, lends itself to increased consumption.  However, a number of key, practical conditions must be satisfied for increased housing wealth to translate into higher consumer spending on non-housing related goods and services.    

  1. Non-housing Assets:  Rising home values don’t serve as direct means for increased consumption.   Housing wealth increases need to displace other savings and investment for it free up cash flow to drive higher discretionary consumption.  Put differently, an increase in housing wealth only drives increased consumption if households hold fewer non-housing assets than they would otherwise have held.  Historically, real increases in housing wealth have been associated with a decrease in the personal savings rate.  In effect, individuals let their home do their saving for them while diverting  would-be savings into greater current consumption.
  2. Equity Extraction:  Home price appreciation can help drive non-housing related consumption if it causes households to extract equity via increased borrowing, generally via cash-out refinancing’s (the technical term for this is Net Mortgage Equity Withdrawal, or MEW).  Additionally, households can extract equity by simply moving to a cheaper residence with the dollar delta between the two homes representing the increased capacity for non-housing related consumption.         

In short, if real housing wealth increases but households don’t decrease savings/other investment, increase home equity backed borrowing, or downsize to a cheaper residence, then that wealth increase will be largely ineffectual in driving higher consumption growth.   



Net-Net, What Kind of Impact Will Increased Housing Wealth have on Consumer Spending and Consumption Growth? 

The idea of the Wealth effect remains a working theory with the net impact to GDP beholden to a host of situational specific and idiosyncratic economic and behavioral/psychological factors. 


Despite the inherent uncertainty, applying a few simplifying assumptions allows for a reasonable estimation of the net impact to consumption stemming from a real housing wealth increase.


In the scenario analysis below we applied the range of historical estimates for Individual’s Marginal Propensity to Consume (MPC) against the actual increase in aggregate, gross housing market value from 2011 to 2012 (Fed Flow of Funds Data).  Across the range of MPC’s, on a nominal GDP base of $15.86T, the realized $1.4T increase in gross housing market value translates to 27-62 bps points of incremental growth.   


Against this estimate of gross wealth effect impact, we then applied a series of discounts:

  1. Negative Equity discount:  Is a rising home price really going to drive incremental spending for an individual going from very negative equity to less negative equity?  As of 3Q12, approximately 14% of all homes were underwater – implying that 85% of homeowner are subject to the wealth effect.  We applied a 15% discount to the Gross Wealth Effect impact to account for negative housing equity in the analysis below.
  2. MEW Discount:  Net Mortgage Equity Withdrawal peaked at ~$140B during the housing bubble and subsequently went negative into and after the great recession.   Here, we take a conservative view and side with the preponderance of data that says the consumer still isn’t in a mood to re-lever.  We applied a 10% discount for MEW with the expectation for a depressed impact versus historical precedent.   
  3. Confidence/Psychological Discount:  Expectations around wealth increases play an important part in marginal spending decisions.   Similar behavioral dynamics tend to characterize positive and negative price/wealth inflections, but they tend to play out in converse – a phenomenon which is largely tied to expectations.  Individual expectations around future price changes are generally biased by ‘State Dependence’ (ie. how you feel now) whereby recent price trends color expectations around future price changes.   Applied to housing,  as home prices rise/accelerate, consumers generally extrapolate forward similar levels of price appreciation. Conversely, coming out of a period of declining prices, expectations around future price changes are probably conservative with consumer needing to see sustained stability/appreciation to drive incremental spending.  We applied a 10% discount for this dynamic in the scenario analysis below.     

Triple-Net, a quasi-conservative approach at quantifying the flow through impact from increased housing wealth to consumer spending suggests we see 25-40bps of incremental consumption growth over 2013.   


Housing Is The Ultimate Giffen Good - Housing Wealth Effect



Christian B. Drake

Senior Analyst 


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