The temperature is not the only thing heating up this summer. On Friday, July 27th, the White House announced 2nd Quarter real (after inflation) growth at an estimated 4.1% annual rate, making real GDP growth in the last four quarters up 2.8%. The elusive figure of 3.0% GDP growth rate seems within grasp.

Now, this estimate may move up or down as the data are verified and refined, but this news is categorically positive and should be cause for celebration. Breaking down the GDP number into its constituent parts reveals that the growth rate is not only sustainable, but there is evidence to believe it may be higher in future quarters.

  • Personal consumption contributed the most to growth, which indicates consumers are comfortable spending money. The low unemployment rate and health of the job market helps, but it speaks to consumer optimism.
    • In addition, the Federal Reserve released information in June showing that household debt as a percentage of net worth is at the lowest in 30-years. That shows two positive developments:
      • People are not borrowing money to fund their current purchases, and
      • They are also paying down debt. 
  • Net Exports (up 1.1%) jumped in the second quarter and many are arguing that the current trade skirmishes by the Trump Administration are causing farmers and other exporters to boost their exports prior to retaliatory tariff increases. This may be true to a degree, but you'd have to sell A LOT of soybeans and dairy products to account for an increase of that size. 

The categories which cause me the most optimism for future quarters are primarily Business Investment (up 1.0%), and secondarily Inventories (down 1.0%).

  • Business Investment in Structures has grown 13.9% and 13.2% in the first and second quarter of 2018, respectively. Growth in Intellectual Property is up 8.2% and 14.1%, respectively. Investment in Equipment slowed from prior quarters, but the trend is still healthy.
    • This investment reveals corporations are benefitting from the tax reform package signed into law in late 2017. Corporations are taking the opportunity to reinvest in their facilities, equipment, and workforce in order to improve their future profitability.  
  • Inventories fell 1.0% in the 2nd quarter, which means companies will need to increase production in future quarters in order to replenish inventories as consumers continue to make purchases. As inflation increases, consumers will make future purchases at higher prices, leading to higher corporate profitability, all things being equal.

To relate the GDP growth rate to the markets and your investments, consider this.

High Demand (personal consumption and depleted inventories)
Efficient Facilities (business investment)
= Greater Corporate Profitability

Greater Corporate Profitability = Higher Future Stock Prices

For the full report and analysis from First Trust Portfolios, please click here.

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