A debate is raging on Wall Street regarding the gap between “soft data” and “hard data.”
Soft data refers to forward-looking sentiment measures — like the Conference Board’s Consumer Confidence Index, the University of Michigan Consumer Sentiment Index and the ISM Manufacturing Purchasing Managers’ Index (PMI) — that ask people to look out into the future and estimate whether their economic situation is going to be better or worse than what it is currently.
Hard data refers to backward-looking performance measures — like Retail Spending, Durable Goods Orders and the Gross Domestic Product (GDP) — that gather data on what production and spending has actually occurred in the economy and whether or not the economy has grown.
Soft data measures have been climbing higher for months, but hard data measures have not followed suit. For instance, while consumer confidence has been increasing dramatically since the presidential election (see Fig. 1), retail spending has been declining (see Fig. 2).
This tells us that, while consumers have been happy to respond with a positive outlook for the future when surveyed on the phone, they have been less willing to put their money where their mouths are and show that confidence by spending more.
This is concerning for investors because stock prices can only be driven higher by hope and confidence for so long. At some point, consumers actually have to go out and spend to keep stock prices aloft.
Watching the Bellwethers
To get a feel for how confident Wall Street is that soft data increases will be followed up by hard data increases, traders will often watch bellwether stocks like Capital One Financial Corp. (NYSE:COF) to see how they are performing.
When these stocks move higher, it is a sign Wall Street still has confidence the increase in hard data is on the horizon. When these stocks move lower, it is a sign Wall Street is losing confidence that the increase will materialize.
COF is an important bellwether because it is directly tied to the financial health of U.S. consumers through the loans it issues and its large presence in the subprime credit card market. When consumers are confident and financially stable, they use their credit cards more, take out more loans and stay current on repayments. When consumers are less confident and financially unstable, they use credit cards less, take out fewer loans and are less able to stay current on repayments.
How is COF doing?
COF released its quarterly earnings last night after the closing bell, and the numbers were not great. The company missed revenue estimates by $120 million and missed earnings estimates by 17 cents per share, coming in at $6.54 billion and $1.75 per share, respectively. The miss was largely driven by increases in the company’s loan loss provisions in the face of rising default rates.
COF saw domestic credit card net charge-offs rise to 5.14% last quarter, which is up from 4.16% a year ago. This tells us that more consumers are unable to pay their credit card bills, a troubling sign for the U.S. economy, to be sure.
You can look at the stock chart for COF as a visual representation of Wall Street’s confidence that soft data increases will ultimately translate to increases in hard data as well. As you can see in Fig. 3, COF jumped higher after the election as “soft-data hope” soared, but it has been moving lower since early March, including today’s drop following the company’s earnings announcement.
While the market is still in a bullish uptrend and has bounced higher once again in the aftermath of the French elections, seeing bellwether stocks like COF starting to turn lower is a red flag to keep in mind.
The weakness, or strength, of the U.S. consumer will be confirmed by hard data this coming Friday when we get our first glimpse of the gross domestic product (GDP) numbers for the first quarter of 2017.
Of course, while hard data is important, there is still plenty of hope for the future and what President Trump’s tax plan may be able to do for the economy. So, don’t give up on the soft data, yet.
InvestorPlace advisers John Jagerson and S. Wade Hansen, both Chartered Market Technician (CMT) designees, are co-founders of LearningMarkets.com, as well as the co-editors of SlingShot Trader, a trading service designed to help you make options profits by trading the news.
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