Coming to America: Is the US heading for a recession?

(Music plays).

Susannah Streeter: Hello, and welcome to Switch Your Money On, with me, Susannah.

Sarah Coles: And me, Sarah.

Susannah Streeter: Otherwise known as the Head of Money and Markets and the Head of Personal Finance here at Hargreaves Lansdown.

Sarah Coles: So as usual, we’ve been assessing what’s been happening in the world of money and investing and, given what happens Stateside – and there has been a lot recently – has repercussions around the rest of the world, you’re in for a big USA focus this week.

Susannah Streeter: Yeah, there was first talk of the US potentially defaulting on its debts, which could have had a pretty catastrophic impact on global markets, given how intertwined the US economy is with the rest of the world.

Sarah Coles: Yes, now thankfully that was averted by lawmakers, although it was pretty close to the wire.

Susannah Streeter: Yeah, it was, and now we’ve got all the talk about an impending American recession and, given that it’s the biggest economy in the world, this would have a knock-on effect on demand for all sorts of goods and services and companies across the globe, though it will, of course, depend on just how deep such a recession could be. So far, the US economy has shown considerable resilience, but it is unclear just how long this will last.

Sarah Coles: So we have a US special this week, in an episode we’re calling ‘Coming to America’. We’ll hear from Sophie Lund-Yates, who’s in New York, plus equity analyst Matt Britzman, one of our team of analysts who crunch all the numbers when it comes to companies. He’s going to give us the lowdown on the stocks to watch if the US economy does start shrinking. So it’s great to have you back on the podcast, Matt.

Matt Britzman: Thanks, Sarah. Great to be back. I’ll be looking at three companies this week, so stay tuned.

Sarah Coles: And we’re going to get a Fund Manager’s view with Ziad Abou Gergi, Head of Multi Manager Funds here at HL.

Susannah Streeter: So lots of subjects to talk about, and we have the experts to talk about them. Of course, inflation is still a big worry in the US, even though it’s coming down a bit faster than here in the UK. A big driver of headline prices over the past year has been higher oil prices, given that they feed through to higher prices at the pumps and the cost of transportation, and right now, millions of Americans will have their eyes trained firmly on the fuel gauge, given that the US driving season is officially under way.

Sarah Coles: Yes, it’s that time of year when millions of Americans fuel up their cars to head across the vast country to visit family and friends during the summer months, so last year it was a perilous journey, and not just because of the heat or pot-holes, but because of painfully high gasoline prices.

Susannah Streeter: To the relief of many, crude prices have now come down sharply after last summer’s ramp-up in prices as the vacation season unfolded, but US motorists have been enjoying a so-called goldilocks market, or one which is considered to be just the right temperature for gasoline prices. Production had stayed relatively strong and prices moderate.

Sarah Coles: However, Saudi Arabia’s decision to cut production has caused a bit of a stir in the last week or so, causing benchmarks like Brent Crude to rise a couple of percentage points immediately after the news broke, but it’s not upset the apple-cart too much.

Susannah Streeter: No, not yet, because bubbling along in the background are worries about falling demand due to China’s recovery stalling and the US potentially heading into recession, and for now, those concerns appear to be keeping a lid on prices to some extent, but now Saudi Arabia’s move could provide a floor.

Sarah Coles: And the prospects of the US recession appear to be increasing, with the latest snapshot of the mighty US services industry, the ISM PMI reading, showing that growth slowed by more than expected in May.

Susannah Streeter: So all of this is undoubtedly the talk of the town in New York, where our Lead Equity Analyst, Sophie Lund-Yates, is attending a conference this week. So Sophie, great to have you on the podcast from the Big Apple. There are lots of influential Wall Street movers and shakers at your event. Tell us what people are talking about. I mean, what was the general mood?

Sophie Lund-Yates: Hi, Susannah. So there’s a really great atmosphere here, you know. It’s always exciting when the experts in industry all kind of get together, lots of hustle and bustle, and of course it’s been an unprecedented couple of months for the US, with the banking crisis and major tech rally, and perhaps unsurprisingly, there’s been a lot of reference to uncertainty here with some question-marks still remaining about the next moves of the Federal Reserve. Although it’s looking more likely that rates aren’t going to fall as quickly as once expected, and a leading cause of that, of course, is sticky inflation, and that has been a very hot topic. We’ve heard recently that the US job market is starting to cool off, but I’d like a slightly longer run of data before being able to definitively say that this means core inflation will be coming down at the required pace, and what I would also say is that there have been some really interesting discussions about what investors can do to help prepare their portfolios for tough times. (Laughs). I mean, I could fill the whole episode with this topic, so I will shut myself up before that happens, but I’d just reiterate the point that it is so important to make sure you’re diversified. This essentially means not being over-exposed to one type of asset region or sector – we’ve talked about that before – and it helps spread risk. So if any listeners either aren’t sure where or what they’re invested in, it’s well worth a quick portfolio MOT to see where you stand.

Sarah Coles: So there’s definitely a lot going on! Can you tell us some of the big headlines from the event?

Sophie Lund-Yates: Sure. It may not come as a surprise to hear that the debt ceiling deal has very much been in focus. It’s hard to overstate the importance of this, which is essentially an agreement between the two US parties to raise the government debt ceiling, which stopped them from a historic, and catastrophic, default. This will mean 1.5 trillion dollars in savings over the next ten years and it will be important to understand which areas of the economy this will impact. Now attention is turning to what could be next for the US market, with names like NVIDIA, which is the chip stock that recently smashed through the 1 trillion mark, and what’s been really interesting for me while I’ve been here is this has really been a source of debate about whether the surge in artificial intelligence stocks is leading us kind of into this bubble territory and the comparisons to the dotcom boom, or if it’s a marker of the potential opportunities.

And there’s also been a focus on the opportunities in the energy transition, which has been a really good reminder about the importance of this, both in terms of the planet of course, but also looking at the fact that being green is good business sense.

And what I would just like to say as well, on a slightly different note, it’s also important to talk about why I’m here in the first place! I’ve been invited to this conference as an alumni of Bloomberg’s New Voices programme, which is aiming to boost female representation in financial news and media. It is an amazing initiative and the results have been very impressive so far, and it is great to hear from senior figures about how a more diverse pool of opinion and analysis makes for better research and engagement.

Susannah Streeter: So Sophie, you’ve talked to an awful lot of people and they’ve said an awful lot of things, but what’s the most interesting thing someone has said to you?

Sophie Lund-Yates: So I was able to talk to some New Yorkers about how the tough economic conditions are affecting their daily life, really, and you can hear some details in the clip in a second. And apologies for the background noise – I was in the middle of New York, in my defence.

(Clip plays).

Sophie Lund-Yates: So thank you so much for talking to me. What is your name?

Diana: Diana.

Sophie Lund-Yates: You work in the city. What would you say for the wider economic environment scene, so obviously interest rates on the rise, persistent inflation here in the US – is that affecting you personally or business-wise in any way? Have you noticed any kind of changes there?

Diana: I would say, business-wise, definitely. The rise of pricing and inflation has really affected, I would say, business this year. And personally too, I’m a mother so just to buy like a handful of things at the supermarket is ridiculous. You know, eggs – forget about it! I like to be organic, especially when you have a child, but I’ve noticed myself… okay, she can do without the organic apple today! (Laughs).

Sophie Lund-Yates: I think that’s fair. I think that’s fair. Are you an investor? Do you invest anywhere or do you kind of…?

Diana: I don’t, unfortunately.

Sophie Lund-Yates: Okay, that’s interesting, so why not?

Diana: Just with everything that you read online and like the things, the ups and downs that’s going on, so it’s scary. Like before, it’s scary because I did not know how to or where to start, and then you get all the information and then you’re getting all this back and forth on the news, like, ‘It’s great – do it,’ and then it’s like, ‘No, it’s not a good time.’ So now it’s like, okay, I’m all… (laughs).

Sophie Lund-Yates: So what – final question, really – what would make you take that first step to investing?

Diana: I guess it’s just more like a guidance to what’s going on in the world, so kind of letting you know exactly what you’re getting yourself into.

Sophie Lund-Yates: Great. Well, thank you very much.

(Clip ends).

Sophie Lund-Yates: So as you’ve just heard, one woman who’s a general manager at a Manhattan hotel told me that she’s making dramatic decisions when it comes to her grocery shopping, you know, not buying eggs because of her household budget is that tight – that’s just an incredibly stark reminder of what’s going on – and should also serve as a reminder for investors about how difficult the consumer backdrop is. She also spoke about how managing cost inflation and demand in the hospitality industry is a genuine and very tangible question-mark. The challenge is keeping the business ticking along without pushing prices so high that customers don’t spend, really.

Sarah Coles: And the quirkiest anecdote you’ve heard?

Sophie Lund-Yates: Good question! Well, apart from being genuinely shocked at how much prices have increased here – I mean, you are looking at twelve dollars for a bottle of beer, and that’s before tax – I’d have to say really that what stood out for me was the sunsets during the smog alert while I was there. So you might have seen on the news how Canadian wildfires sent New York into this thick fog, and it was just incredibly surreal and a bit dystopian, if I’m honest.

Susannah Streeter: Thanks Sophie, we’ll leave you to the pretzels on the streets of New York, and welcome Matt Britzman, who probably has had to make do with a good old British sandwich at his desk. Matt, have you?

Matt Britzman: Yeah, Susannah, it’s a BLT for me today. Probably nothing to quite the standard Sophie has in the US at the minute.

Susannah Streeter: Good old BLT, though. You may be this side of the pond but you’ve been peering into the possibility of a US recession and have a couple of stocks to watch. First up, lets unscrew Coca-Cola’s cap.

Matt Britzman: Yes, thanks, Susannah. This name needs little introduction, really. Now I know we’re not at the start of the week segment yet, but the first glass of Coca-Cola, the 1880s. Since then, it’s obviously become one of the greatest brands on the planet, and resilient performance is a key attraction and one that I really want to focus on here.

A quick look at recent performance highlights exactly what I mean. We all know the environment’s challenging, and it’s in these times that brand power makes such a difference. When costs are going up, one of the simplest ways to keep margins intact is to just keep raising prices, right? But not everyone can do that and keep customers from shifting to other products.

A quick glance at recent first quarter results and we see Coca-Cola isn’t having too many problems for now. Prices were hiked 11% over the period and volumes managed to post a small rise too. We expect that trend to continue. It’ll probably take some doing to move customers away from Coke, and let’s not forget some of the other brands under the umbrella as well, like Fanta, Sprite and more recently, Costa. Of course, there’s no guarantees and keeping inflation at bay will likely be an ongoing challenge.

Sarah Coles: Tell me a bit more operationally – is there anything that sets Coca-Cola apart from its peers?

Matt Britzman: Yeah, that’s a great question, Sarah, and the simple answer is yes. Rather than pumping cash into big manufacturing plants, it partners with bottling companies instead, selling just the syrups but marketing its brands directly to consumers. Now the benefit of that helps keep its costs down and helps support the industry-leading gross margins, which at the moment hover around the 60% mark.

Ultimately, in tough times you’d be hard-pressed to find a better brand to stick with. Of course, markets rarely offer a free lunch and the valuation, despite a little weakness this year, remains ahead of the longer-term average.

Susannah Streeter: So Matt, what about a stock which might benefit from consumers tightening their belts?

Matt Britzman: We have another industry giant here, this time from the US retail sector, with Walmart. Now being the biggest isn’t always best, but when you’re a giant and you can offer great value products, that’s a combination that can deliver results in a whole host of environments, and that’s exactly what we’re seeing play out. Walmart managed to grow its grocery market share in the US over the first quarter, and that’s despite already having a massive base. They generated in the region of 100 billion of net sales in the quarter alone, and an interesting side point to that, Susannah, if we dig a little deeper, they’re managing to take market share from higher-income households too, and I think that just helps to highlight the fact that inflationary challenges are impacting behaviours across a range of income bands.

But moving back a bit to recent performance, it’s worth touching on how Walmart’s evolved in recent years. I think it helps frame why it offers an added layer of resilience. The use of technology has been planted deep into the roots. In fact, over half the board have significant technology experience. Let’s not forget this is a retail business, so that’s a clear sign of intent, and the results are speaking for themselves. Global e-commerce sales grew 26% over the last quarter. When you think about this, the omnichannel experience just gives that added layer of optionality that consumers, in this day and age, really crave.

Susannah Streeter: Yeah, they certainly seem to. But how are inventory levels doing? I know that’s been a pretty hot topic in recent quarters.

Matt Britzman: Yeah, it certainly has, Susannah. Inventory levels have been high over the last year as some product categories have struggled. We’re starting to see that normalise to some degree, but it’s certainly something to keep an eye on. Discounting to shift stock is often a necessary evil, but not an ideal spot to find yourself in.

Sarah Coles: Yes, of course, in a recession, people do love a discount and people are really searching for value. I mean, I know everyone I speak to is doing just that. But how well are big names going to hold up, do you think, in the business of essentials?

Matt Britzman: Yeah, that’s a great question, Sarah, and brings me on to the final stock, Procter & Gamble. Perhaps not a household name in the UK, but I bet you some of its products will be. Household and personal products make up the core of the portfolio, with brands like Gillette, Oral-B and Head & Shoulders. Now this may be a pretty simple way to put an investment case, but consumer staples tend to hold up well during tough times. After all, you don’t stop washing your hair or brushing your teeth during a recession, right? So there’s an underlying demand that’s pretty solid, and on top of that, you can add in brand power. That combination, I guess similar to what we said with Coca-Cola, is a potent mix. And histories have proved this, with Procter boasting over 25 years of consecutive dividend increases.

But cutting to the chase, there’s nothing here that’s going to shoot the lights out. Sales are expected to grow in the low single digits for the next few years, with a slightly better operating profit outlook if costs ease off over that time, but sometimes that’s exactly what you want as an investor – steady performance and strong operating metrics – which is exactly what’s on offer. Now of course, there’s no guarantee things continue that way and there’s certainly some challenges in the current environment, not least of which is how to keep inflation at bay without taking a big hit to volumes. Management specifically called out the tricky cost environment in recent results, and we saw a 7% price hike pushed through to consumers to help keep that at bay. Results were relatively robust with those prices pushed through, though there was a wobble in volumes which fell 3%.

Now performance was still good enough for full-year guidance to get a bump higher. I think that’s perhaps a small indication that some of the challenges may be starting to ease. I guess time will tell.

Susannah Streeter: Only time will tell, indeed. Thanks, Matt. It’s been really great to have you on the podcast. You can get back to your meal deal now as we delve into what’s whetting the appetite of one particular Fund Manager. Emma Wall, our Head of Investment Analysis and Research, has been chatting to Ziad Abou Gergi, Head of Multi Manager Funds here at HL, and they’ve been focusing on the US market.

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Emma Wall: Hi, Ziad.

Ziad Abou Gergi: Hello, Emma.

Emma Wall: So we’re here today to talk about the US. I thought we’d start with the economic outlook. It’s not all rosy, so economist consensus seems to be pricing in around an 80% chance of recession for the US in the next year, with a six-month lag for the UK and Europe, so it’s not alone in that sort of negative economic outlook, and again, the global picture isn’t particularly buoyant either. But what is it about the US in particular that’s sort of holding that growth back, and indeed may well lead to recession?

Ziad Abou Gergi: The US is at an interesting stage of its economic cycle. Our expectations are in line with the market, that the US will have a slowdown, but we don’t expect the recession to be severe. The reason for that is the Federal Reserve is increasing its interest rate and that will have an impact on economic activity. Having said that, not all companies are impacted in the same way. On one hand, the cyclical companies, their demand is closely linked to the economic cycle, so they will experience a drop in their revenues. On the other hand, there are companies whose demand is strong as they are benefiting from the technological trends that we are seeing. They will manage the slowdown much better. So overall, a slowdown in the US economic activity, but we don’t expect a severe recession.

Emma Wall: And also I think it’s an important point to make that the stock market and the economy are not completely intertwined, so we often see this in the UK, for example, when actually the economic outlook looks bad and sterling gets weaker, because of the proportion of FTSE 100 companies that actually earn overseas, you can actually see the stock market do better when sterling is doing worse. In the US, they don’t quite have that same relationship with the dollar dependency, but it is fair to say that just because the economic outlook is muted, that does not necessarily mean the same is true for the stock market, does it?

Ziad Abou Gergi: Absolutely. You’re absolutely right. Companies have their own cycle, some of them will be related to the economic cycle. The cyclical companies, or sometimes also the smaller companies, will be impacted more by the domestic economy, whereas the large companies, which usually constitute most of the big industries that we invest in, are diversified so are able to weather much better any slowdown. So yes, you’re right. This is why, just because the economy is slowing, it does not mean that the companies are going to be hit in the same way or the market is going to sell-off strongly.

Emma Wall: And in fact, at the time of talking, though indeed anything can happen with markets in the next couple of days, the tech sector has actually had a pretty good run. Now the US has had sort of almost several super-cycles in the last eighteen months, flipping between value company-led rally and growth company-led rally, but tech stocks have been doing particularly well recently, which is very counter to what you’d expect when you see negative economic sentiment – you know, tech stocks basically do better when the market’s buoyant and the economy’s buoyant and people are optimistic about the outlook both for companies and consumers. What happens to those tech stocks, do you think, if we do see that recession, and what do you do as an investor to counter that risk?

Ziad Abou Gergi: You’re right, it is quite interesting to see what’s happening on the technology stocks. Now these stocks obviously had a bad year last year in 2022. This year, they’re performing much better. Having said that, if you look into what is performing well within the technology sector, you would say that only few companies are really leading the market up. So some of the technology stocks, they are more exposed to the cycle, they are obviously impacted, but few of the stocks that are still in what we call the super-cycle, as in still they are experiencing very high demand, which is not related to just because we are in an economic acceleration etc. Just because there is a fundamental change in the way we behave etc, that makes that demand strong and it’s going to stay strong over the next few years. So these stocks, and obviously we know the big ones are holding up well even though the economy is slowing, so how do we approach that as fund managers? I think diversification is key, and it will always be key for us. What I mean by diversification is not to try to speculate on one sector or one type of company that we invest in. We keep the diversification across various styles, so we do have companies that are growing above the economic trends, but also we have companies that probably were impacted by the slowdown but they are trading at very attractive valuations and prices, which actually makes them an interesting investment to buy now if we have a long-term horizon. So diversification is key to make sure that the performance that you are delivering is consistent.

Emma Wall: That of course then smooths the return pattern, or should do – nothing’s guaranteed – that the client and the investor gets, doesn’t it? So if you have one company that’s doing well one day, another company that’s not doing so well, and those two then flip, as we have seen in the last eighteen months, as you said yourself, you know, tech stocks leading the rally this year, but it was value stocks that led the rally last, you should then get a much smoother, in theory, investment journey, shouldn’t you?

Ziad Abou Gergi: Absolutely, and the journey of the return that we are delivering is quite important. So by doing this – we call it blending, or this constructing our portfolios through the diversification – yes, we will still have a very good return over the long term, but we are smoothing the journey that we are delivering into our funds and into our clients.

Emma Wall: Ziad, thank you very much.

Ziad Abou Gergi: Thank you, Emma.

(Music plays).

Sarah Coles: That was Ziad Abou Gergi, Head of Multi Manager Funds here at HL, with Emma Wall, our Head of Investment Analysis and Research.

Susannah Streeter: And please bear in mind that these are the views of the Fund Manager and are not individual stock recommendations. You’re listening to Switch Your Money On from Hargreaves Lansdown, and all of this talk of American snacks has got me thinking, Sarah, for our stats of the week, and I’ve been delving into the business of – drum-roll – hot-dogs in the United States. So this is a quick-fire round. Are you ready?

Sarah Coles: Oh, yes, always very keen to answer quiz questions, particularly when they’re about food.

Susannah Streeter: How many hot-dog stands do you think there are in New York City?

Sarah Coles: Well, I suppose it should be possible to work this out, because there are eight million people living there, I think, so… oh, I don’t know, maybe I cannot work it out, but I’d say an awful lot. Let’s guess. Let’s say, a thousand.

Susannah Streeter: Well, triple that and more. It’s 3,100. So next up: how much do you think it costs to operate a cart near Central Park Zoo?

Sarah Coles: (Laughs). I’ve no idea. I guess… maybe you get danger money being so close to the monkeys.

Susannah Streeter: Maybe you do, because it’s in excess of 20,000 dollars a year for the most desirable locations, and the cost of buying another twelve prime locations in the city are above 100,000 dollars.

Finally, Sarah, do you know which US city sells the most hot-dogs?

Sarah Coles: Well, this has got to be a trick question. I’d like to say New York, but d’you know, I reckon this is going to be a trick. This is a double bluff, isn’t it?

Susannah Streeter: It is actually Los Angeles. Apparently, it’s never too hot for a hot-dog. LA sold 30 million pounds of hot-dog meat during the course of last year, and that’s according to the National Hot-Dog and Sausage Council. Now there’s a job! New York came second, and Dallas third. Hungry yet, Sarah?

Sarah Coles: (Laughs). D’you know, I’m not sure that sweaty hot dog meat is getting anyone particularly hungry. If it were pretzels on the other hand, now then I’d be in.

Susannah Streeter: I’m off for a bagel – smoked salmon, cream cheese, with a pickle or two – and I hope Sophie brings me back some Reese’s Pieces.

That’s all from us for this time, but before we go, we do need to remind you that this was recorded on the 9th of June 2023, and all information was correct at the time of recording.

Sarah Coles: Nothing in this podcast is personal advice. You should seek advice if you’re not sure what’s right for you. Unlike the security offered by cash, investments rise and fall in value, so you could get back less than you invest.

Susannah Streeter: Yes. This is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment.

(Music plays).

Sarah Coles: And this hasn’t been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication.

Susannah Streeter: Non-independent research is not subject to FCA rules prohibiting dealing ahead of research. However, HL has put controls in place, including dealing restrictions, physical and information barriers, to manage potential conflicts of interest presented by such dealing.

Sarah Coles: You can see our full, non-independent research disclosure on our website for more information. So all that’s left is for me to thank our guests Sophie, Matt, Emma, Ziad and our producer, Elizabeth Hotson.

Susannah Streeter: Thank you so much for listening. We’ll be back again soon. Bye!