ECONOMIC COMMENTARY

CIO Note: The inevitable slowdown

Key takeaways

  • Strong returns in October and November created optimism for a year-end rally; however, mounting concerns regarding a 2023 recession have weighed on investors in December. 

  • Manufacturing investment should accelerate over the next several years as production moves back to the U.S.; however, a slowdown in demand has weighed on manufacturer sentiment in recent months. 

  • Holiday spending is still pacing ahead of 2021 levels; however, higher prices for necessities have hit savings hard over the last few months, thus creating pressure for consumers during the last two months of the year. 

Recession worries dampen investor enthusiasm for 2023 

For many investors, the most challenging aspect of 2022 was the positive correlation between stocks and bonds, and thus the overall negative performance for most major asset classes as higher inflation and interest rates created a major challenge for the proverbial 60-40 portfolio. 

Investors in stocks and bonds digested the greater clarity provide by the Fed during October and November. However, bonds and stocks both found higher ground, and as such, investors came into December riding a recovery in prices that had the potential to continue given historic performance during the final month of the year. 

Equities ultimately lost steam during the first two weeks of December, as the bond market appears to be pointing towards lower interest rates for our progression through 2023. The implication of these lower interest rate expectations is that the Fed will be forced to move off of its current dot plot in favor of a more accommodative stance, primarily due to a slowdown in inflation caused by a meaningful contraction in demand. Simply put, the bond markets are pointing to the threat of recession despite strong non-farm payroll reports during the last several months as well as continued expansion in services activity. 

The Fed, for its part, has done little to corroborate the bond markets’ stance, increasing its expectations for interest rates for 2023 following its most recent meeting in December. It is this tug of war that investors are facing as we move into the new year. Whether it is higher interest rates over a longer time period or a recession as a result of tighter financial conditions, threading the needle next year will require an immense amount of flexibility and thoughtfulness on the part of global central banks and investors alike.  


Tracking signs of long-term growth in U.S. manufacturing  

One area of the economy which was a bright spot during the early pandemic but has waned more recently is manufacturing. Amidst a significant rotation of services to goods spending during 2020 and 2021, manufacturing activity surged, and the ISM Manufacturing PMI topped out at 64.5 in May of 2021. 

Since then, manufacturing activity has been expanding at a slower pace, and contracted in November, falling to 49. The drivers of this weakness were widespread, as new orders, production, prices and employment were all lower month-over-month from October. While this news is certainly unwelcome to manufacturers, there is possibly nowhere in the economy that we are seeing a more pronounced normalization on the supply and demand side than in these businesses.  

Orders have softened and backlogs are now being worked down, aided by increased availability of inputs as supply chains incrementally improve. In addition, survey respondents cited the management of head count and inventories as top priorities, implying that companies are looking to limit excess ordering and hiring when possible – which may fend off the need to cut staff and discount product in the event of a significant economic downturn. 

While we believe that manufacturing will be an important area of emphasis for the U.S. economy over the next several years, the reality is that today’s global economy is still very dependent on China. Optimism has been building over the past month as it relates to the Chinese government’s willingness to ease Covid-19 related restrictions in response to muted economic growth and frustration from citizens as unemployment remains high and supplies remain difficult to obtain.  

With the easing of restrictions over the last several weeks; however, Covid cases are on the rise, and unlike in Europe and the U.S., where anti-viral drugs are available and many of the most vulnerable are vaccinated, China remains woefully underprepared for any meaningful increase in infected persons. The combination of higher infection rates and a sizable unvaccinated population could force government officials in Beijing to change their stance once again in the coming weeks. 

We believe that the disruption created from stretched global supply chains will eventually result in changes in manufacturing and distribution through the world. Here in the U.S., meaningful capital expenditure and innovation will be necessary to improve the productivity and efficiency of this sector, representing an area of potential growth for the next several years.  


Promising holiday spending data tempered by higher prices 

Turning to the consumer, the fourth quarter is always a critical period for retailers, and with the threat of recession looming large for next year, a focus on consumer activity to close out 2022 is warranted. On the positive side, Black Friday online sales increased by +2.3% year-over-year versus 2021 to $9.12 billion, according to a report issued by Adobe. While the increase is a positive sign in terms of retail appetite coming into the holiday season, the year-over-year increase could be accounted for in part by higher prices. 

In addition to the increase in spending, there was a massive increase in usage of Buy Now, Pay Later payment programs, with the use of these payment types up almost +80% from the week prior. This marks a sharp departure from 2020 and the first half of 2021, when the savings rate was running at almost three times what it was prior to the pandemic, and consumers were flush with cash. Now, consumers appear willing to take on at least short-term debt to fund holiday spending, and may not be able to devote as much of their wallet to discretionary spending, given the high costs of food, energy and shelter.  

Sales increases on Black Friday were driven by purchases of consumer electronics, toys and exercise equipment. Online sales for each of these three categories were up well over +200% from the year prior. The buying was not limited to Friday, either, as online sales on Thanksgiving were up +2.9%, and Cyber Monday sales are expected to be up about +5% to approximately $11 billion. Putting all of this in perspective, average online sales in the U.S. are somewhere between $2 to $3 billion for any given day, and while the above figures do not factor in the activity of in-store customers, our view is that a strong online kickoff to the holiday season indicates that some of the seasonal disconnect resulting from last year’s earlier start to the shopping season may not repeat itself this year.  

However, the consumer is clearly being impacted by higher prices. While the relatively stronger results for Black Friday created some optimism that holiday demand would be able to offset the impact of inflation, retail sales as reported by the Department of Commerce fell from October to November by -0.6%, a weak result considering that sales increased by +1.3% the prior month. 

Admittedly, and consistent with Black Friday data, retail sales year-over-year were up by +6.5%, but with housing and government spending likely to remain a lag through at least the end of 2023, consumer spending needs to remain robust if there is any chance of the U.S. economy avoiding a recession in the back half of 2023. 



The written financial and economic data are obtained from FactSet, the Federal Reserve, the Bureau of Economic Analysis, the Bureau of Labor Statistics, Bloomberg, YCharts, the Institute of Supply Management and Adobe as sources but not limited to such. The accuracy and completeness of the financial or economic data are believed to be reliable, but have not been independently verified. 

We encourage you to reach out to your SVB Private Wealth Advisor for a deeper discussion regarding the points above, or a review of your current plan to ensure it remains aligned with your long term needs and goals. 

Shannon Saccocia, CFA, CIMA®

Shannon Saccocia serves as Chief Investment Officer at SVB Private, and is responsible for setting the overall investment strategy for the firm. She oversees the asset allocation, research, portfolio management, external manager search and selection, portfolio implementation, trading, and investment risk management functions.

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