Global Perspectives Report Global Perspectives Report


Resilient U.S. Economy Continues Its Solid Growth


by Craig Holke, Investment Strategy Analyst

Key takeaways

  • The U.S. economy continues to grow at a solid, above-trend rate. Greater business investment would alleviate pressure for the consumer to be the primary driver of economic growth.
  • Ongoing economic growth and strong corporate profits should be supportive of further gains in business investment in the fourth quarter and into next year.

What it may mean for investors

  • Continued strong U.S. economic growth should help to fuel equity markets. We remain favorable on U.S. large- and mid-cap equities. With the Federal Reserve (Fed) likely continuing its trajectory of higher

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The U.S. economy continues to grow at a solid pace. The second look at third-quarter gross domestic product (GDP) matched the advance look, showing that the U.S. economy grew at a 3.5% annualized quarterly rate. Consumer spending has been responsible for most of the growth during the recovery and current expansion. Expectations were for business investment1 to accelerate as a result of tax reform, yet it has improved only moderately. However, the latest GDP report reflects slightly lower personal spending and higher business investment. This greater diversification makes for a more resilient economy that we expect to continue to grow in 2019.

Diversifying growth is beneficial

Consumer spending was revised downward in the third-quarter GDP report, from 4.0% to 3.6%. This remains a very solid level of personal consumption. Offsetting this decline was an increase in business investment and inventories. Yet, trade continues to be a net drag on the U.S. economy. Increases in tariffs and the threat of further trade actions contributed to net exports subtracting the most from economic growth since 1985.

While trade is expected to remain a drag on growth into 2019, we expect consumer spending and business investment to post solid growth. The consumer remains supported by the strongest labor market in decades and additional take-home pay from tax cuts. The unemployment rate is at the lowest level since 1970, and payroll gains continue at solid levels. While personal income growth has slowed recently, it had risen by 4.4% year-over-year (YoY) as of September. This gives consumers more disposable income with which to drive further economic growth.

The uptick in business investment reduces concerns over a significant U.S. economic slowdown. While the growth in business investment has been less than expected following the capital expensing incentives in tax reform, it has risen by 6.8% YoY. Spending on equipment and structures (e.g., plants, buildings, and oil rigs) was revised higher in the second reading for the third quarter. Fundamentals are supportive for this growth to continue in the fourth quarter and into 2019. Corporate profits grew by 10.3% YoY in the third quarter, the highest growth since 2012. This increased cash flow offers the opportunity for businesses to evaluate and invest in projects which increase productivity and competitiveness—rather than purely returning cash to shareholders. As a result, businesses have increased their plans for investment. Chart 1 depicts YoY growth in business investment compared with plans for investment over the next six months. Plans remain at elevated levels and have even ticked higher in the fourth quarter.

Chart 1. Plans for U.S. business investment are rising


Resilient U.S. Economy Continues Its Solid Growth

Sources: U.S. Census Bureau, Federal Reserve Bank of Philadelphia, Wells Fargo Investment Institute; November 28, 2018. Capital goods orders are for new, nondefense, ex-aircraft orders. Capital expense plans are drawn from a survey conducted to determine increases in planning for new capital investment over the next six months. Data is from January 2002 through November 2018.

Investment implications

Although expectations are for U.S. and global growth to slow, the U.S. economy remains solid, and we expect it to continue posting above-trend growth in the fourth quarter and into 2019. The U.S. likely will see less in the way of fiscal stimulus as the benefits of tax reform and increased government spending diminish on a YoY basis. We continue to believe that there is more room left for the U.S. economy and markets in this cycle. As such, we maintain our positive cyclical outlook for equities—favoring large-cap and and mid-cap stocks. This growth environment should continue to benefit the Consumer Discretionary and Industrials sectors. We also have a favorable view on Health Care and Information Technology, while we hold a most favorable view on Financials. Above-trend growth and moderate inflation, which we believe will continue, should allow the Fed to continue raising interest rates. Thus, our outlook remains favorable on U.S. short-term taxable fixed income—as we believe that yields will rise over time as the Fed continues to increase rates into 2019.

Risks do remain to this favorable outlook on the U.S. economy. Primary concerns include whether the Fed will raise rates too high and/or too quickly; whether trade risks will diminish with positive negotiations—or increase and further undermine growth; or whether there will be an unexpected deceleration in global growth. While none of these are in our base-case scenario, we remain diligent in our efforts to identify events that may negatively impact our view for above-trend U.S. growth into next year.