Despite more than a year of central bank moves to tame inflation, Fidelity’s latest bottom-up survey of company analysts shows labour cost pressures still are not easing. The good news is that most analysts do not believe high interest rates will drive the US economy into a deep recession.
In a year when markets have been dominated by top-down talk of an imminent recession that never seems to arrive, the latest bottom-up signals from analysts who look in detail at what is happening to companies on the ground are proving an important bellwether.
Fidelity’s regular surveys of our more than 150 sector analysts around the world have consistently painted a hopeful picture of the US economy over recent months. The latest survey for September again offers signs of the softer landing, a view that the US Federal Reserve seemed to warm to when it revised higher its GDP growth forecasts ahead of its September policy meeting.
While nearly 60 per cent of our analysts covering North America are modelling for a slowdown or a slide into recession for the US economy over the next 12 months, more than 40 per cent see the economy in some stage of expansion, and only a tiny percentage expect a deep recession.
Question: “What economic scenario are you building into your financial forecasts for the next 12 months?” Chart shows percentage of analysts who selected each response. Source: Fidelity International Analyst Survey, September 2023.
Inflation in focus
This has obvious implications for the inflation outlook; so too does the survey’s finding that companies’ labour costs are continuing to increase. Meanwhile, after declining for a year, the survey’s non-labour costs indicator has been back on the rise for the past two months.
Chart shows proportion of responses reporting costs are increasing minus those reporting costs are decreasing; significant increases and significant decreases receive a higher weighting.
Questions: “What are your expectations for total labour costs over the next 6 months compared to current levels?”; “What are your expectations for total non-labour costs over the next 6 months compared to current levels?”. Source: Fidelity International, September 2023.
The uptick in non-labour costs may reflect the ongoing presence of supply chain bottlenecks in the industrials and communications sectors, as picked up by our August survey. Chart embed:
Question: “To what extent have you seen supply chain bottlenecks ease at your companies over the past 6 months?” Chart shows percentage of analysts who selected each response. Source: Fidelity International Analyst Survey, August 2023.
Where there is inflation there is also nominal revenue growth and, where companies can raise prices by more than their rising cost base, there is also scope to expand margins. Our analysts report that, on balance, this is happening at the companies they cover. Chart embed:
Question: “What are your expectations for EBITDA margins over the next 12 months compared to current levels?” Chart shows proportion of responses from analysts reporting they expect margins to increase minus those reporting they expect margins to decrease. Significant increases and significant decreases receive a higher weighting. Source: Fidelity International Analyst Survey, September 2023.
But the survey also shows that companies still expect to hire in net terms in Europe and the United States. If wage costs are increasing, it is partly because companies are supporting them by seeking more staff in ever tighter labour markets - and we have yet to reach the pain point when those costs become too high.
Finally, many of the companies our analysts cover have a lot of free cash. Thanks to an inverted yield curve, that cash in many cases is earning more than it costs to pay the interest on debt issued before the current hiking cycle kicked in. Our survey suggests those debt costs will stay manageable for some time: a third of analysts said that aggregate interest expense increases over the next 3 years would be less than 5 per cent, while another third said interest costs would rise between 5 per cent and 15 per cent.
So, while big-picture cost rises are back in play, there are some silver linings for companies too. In the case of interest expenses, they have not yet risen as far or as fast as hikes in policy interest rates might suggest. Nor are costs the only thing going up; revenues and margins appear to be keeping pace (or better). For now, at least, these dynamics are helping to keep recession at bay, suggesting rates aren’t the only thing that could be set to stay higher for longer.
