China brings the focus back to supply chains for U.S. earnings
Earnings in the U.S. have kicked off this week, bringing some of the most notable reports with nearly one-third of the S&P 500 reporting. We expect earnings to remain strong but investors will be looking for any information they can find regarding inflation, supply chains, and Russian exposure. A resurgence of strict lockdowns in China is causing ports to become backed up, potentially leading to higher prices for consumers and causing investors to worry about demand. Most companies have been raising prices so price/volume metrics will be important to judge whether demand is holding up amid higher prices. Unfortunately for the companies, interest rate hikes from the Federal Reserve provide the backdrop for earnings this quarter, and misses or lower guidance will likely be met by poor reception from investors no matter how strong earnings are. We expect the Russia/Ukraine conflict to have a marginal impact on results, but the demand/inflation story will be the main color for the quarter with guidance surrounding China to be the key talking point for the coming quarter’s guidance.
Lockdowns are stacking problems on top of problems
The world has been struggling with inflation and supply chain issues for the better part of two years now, and these struggles appear to be here to stay for the next few months at a minimum. China is dealing with its worst COVID outbreak yet, and Xi Jinping is adamant that the zero-COVID policy is the country’s top priority. We have seen Shenzhen, China’s tech hub, conclude a strict month-long lockdown. However, the country’s largest city and home of the world’s largest container port, Shanghai, has been trudging along in its stringent lockdown state since March 28. The rigorous lockdown policies are beginning to create waves in the commodity and financial markets, as fuel demand in China is projected to fall ~20% in April. One of out every five containers is stuck in various ports around the world, with 30% of the global stoppage happening in China. There is a short lag between governmental-mandated lockdowns and how the country’s trade is affected, and we are beginning to see the impact these lockdowns are having as they ripple across the world. With bottlenecks in China, the spillage is seeping into other areas with the U.S. west coast projected to be next in line. Transportation costs make up nearly 8% of global GDP, and with demand outpacing supply, we should see inflation continue to rise accordingly if this problem persists. The freight cost for a single container from China to the U.S. has skyrocketed, jumping from $5,900 to $15,764 in one year. According to Bank of America, China is responsible for 18% of all U.S. imports and 35% of all U.S. computers and electronics. The global markets are so interconnected that if one country slows it down, we all slow down.
Despite inflationary and supply chain pressures, consumer sector spending remains resilient
The consumer sector includes industries that are typically more susceptible to economic cycles including household goods, automotive, and apparel manufacturers. While rising inflation, supply shortages, and global unrest have hampered the growth of several economic sectors, consumer spending currently remains strong. In the wake of the pandemic, it appears that some of the consumer spending habits developed over the last two years have persisted. While consumers have returned to air travel and eating at restaurants, home-related purchases, like home-based office spaces, fitness equipment, and higher grocery store spending, seem to have persisted. This trend is likely due in part to workplaces that have embraced remote work or hybrid work schedules, and consumers have responded by prioritizing purchases that enhance and facilitate spending more time at home. Discretionary spending has declined as the inflationary impact has led to rising prices, but for the time being, consumers appear to consider their home-enhancing, vehicle, and grocery store spending as obligatory purchases in the post-pandemic environment.