Tuesday, June 16, 2009

Home Depot Raises Expectations As Consumer Confidence Grows

Home Depot raised profit expectations as consumer confidence continued to grow for the fourth straight month. Retail sales also exceeded expectations, which could mean that consumers are more optimistic about the economy. This could expedite economic recovery as consumers account for over two-thirds of US economic activity. For more, see the following post from our friends at Money Morning.

Are consumers’ happy days here again, or are the recent signs that growth in sales, confidence and an overall improvement in the economy just a mirage?

Confidence among U.S. consumers rose this month for a fourth straight time, according to the Reuters/University of Michigan (UM) preliminary index of consumer sentiment. The index increased to 69, which is less than what was forecast but still the highest level in nine months. May’s index was 68.7.

“Confidence is slowly but surely coming back,” James O’Sullivan, a senior economist at UBS Securities LLC told Bloomberg News. “In the next few months we should see more follow-through in the labor market, which in turn should give confidence a further boost, which in turn should lead to a sustained recovery in consumer spending.”

Another report from Investor’s Business Daily and TechnoMetrica Market Intelligence’s “Economic Optimism Index” shows consumer confidence rose to 50.8 this month from 48.6 in May. A figure above 50 indicates optimism, while one below 50 reflects pessimism.

“Consumer confidence is building on the momentum that it picked up in April, reflecting the strength we are seeing in the stock market," Raghavan Mayur, president of TechnoMetrica unit TIPP said in a Reuters interview. "Across the board, there is an optimistic feeling that the economy is recovering.”

The rise in consumer confidence is not just idle talk-consumers are backing it up at retail with their wallets.

Retail sales in May increased by 0.5% over April following four straight drops, according to a Commerce Department report released last week. Economists were anticipating a 0.2% gain, according to The Associated Press. The general merchandise, food stores and restaurant categories were the ones in the sector that posted significant gains.

Retailers like The Home Depot, Inc. (NYSE: HD) reflect consumers’ confidence and the increase in sales. The home improvement chain raised its forecast for the year, saying its profit would anywhere from flat to a 7% drop. It previously gave guidance that profits would be down 7%.

But the optimism should be tempered, as the “rules of engagement” will be different in the post-recession economy, according to Deloitte Strategic Advisor Richard Hyman.

Big financing promotions, which propelled a lot of consumer spending in the last 10 years, is all but gone now that credit is tighter, according to Hyman.

“Consumers were also able to spend more because of the easy availability of credit, most notably through mortgage equity withdrawal and they responded by buying more items,” Hyman said. “These conditions underpinned retail growth for the past 10 years but have now disappeared. However, it’s worse than that. They will clearly not return once the recession is over.”

The worst economic downfall has produced scars on the spending habits of consumers, and it’s likely that when the dust clears, most will demonstrate they have learned their lesson about reckless spending.

“This will produce polarization: needs-driven spending will gravitate towards retailers able to tick the most important consumer boxes like price and convenience,” said Hyman. “Although it will remain the engine of retail growth, wants-driven spend will slow and consumers will be much more choosy.”

This article has been reposted from Money Morning. You can view the article on Money Morning's investment news website here.

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