• Wall Street is closely monitoring consumer spending and retail sector performance as the holiday season approaches.
• Major retailers Walmart and Target have reported contrasting earnings, reflecting the varied impact of inflation on the retail landscape.
• A recent survey reveals an optimistic outlook for holiday shopping, but warns that consumers remain selective due to inflation.
• The performance of retail stocks and consumer spending during the holiday season will provide valuable insights into the health of the U.S. economy amid ongoing inflationary pressures.

As the holiday season approaches, the spotlight is on consumer spending and the retail sector, with Wall Street keenly observing the performance of stocks near record highs. The upcoming Black Friday sales could provide valuable insights into how consumers are dealing with the impact of inflation on their purchasing power.

The S&P 500, a benchmark index, has seen a 1.7% rise over the past week, nearing all-time highs. This surge comes on the heels of a robust third-quarter corporate reporting season, with earnings projected to have increased by approximately 9% compared to the same period last year.

However, recent earnings reports from two major retailers, Walmart and Target, have painted contrasting pictures of the retail landscape. Walmart raised its annual sales and profit forecast for the third consecutive time, while Target's shares fell following its prediction of lower-than-expected holiday-quarter comparable sales and profits.

Inflation's Impact on Consumer Spending

The holiday shopping season is a crucial period for gauging consumer spending, which constitutes over two-thirds of U.S. economic activity. Abby Roach, a portfolio analyst at Allspring Global Investments, highlighted the challenges consumers face due to inflation. Despite inflation rates moderating from 40-year peaks reached two years ago, higher prices continue to strain consumers. Roach noted, Consumers are continuing to feel like their dollars don't go as far as they did.

Strong consumer spending towards the end of the year could reinforce recent data indicating a stronger-than-expected economy. However, concerns persist about a potential inflationary rebound, which could limit the Federal Reserve's ability to cut interest rates in the coming months.

A recent Morgan Stanley survey of approximately 2,000 consumers revealed a more optimistic outlook for holiday shopping compared to the previous two years. About 35% of respondents anticipate spending more this season than last year. However, the analysts cautioned that spending is unlikely to increase across all categories as consumers remain selective.

Retail Stocks Performance and Future Outlook

The performance of retail stocks during the holiday season will also be closely watched. Among the industry's largest players, Walmart's shares have risen over 70%, Costco Wholesale's shares have jumped 46%, and Amazon, which has a diversified business that includes cloud computing, has seen a 30% increase.

On the other hand, discount retailers Dollar General and Dollar Tree have seen their shares fall by over 40% and 50% respectively in 2024, as inflation particularly impacts their lower-income consumer base. Target's shares have also fallen by 12% this year, with the company struggling to carve out a unique identity in the retail sector, according to Chuck Carlson, CEO at Horizon Investment Services.

The two S&P 500 sectors that include most retailers, the consumer discretionary and consumer staples sectors, have risen 23% and 16% respectively in 2024, compared to a 25% rise for the overall index.

In the coming week, more retail earnings are expected, including reports from Best Buy, Macy's, Nordstrom, and Urban Outfitters. Investors will also get a fresh view of inflation with the release of the monthly Personal Consumption Expenditures Price Index on November 27. The inflation gauge is expected to have climbed 2.3% in October on an annual basis, according to Reuters data.

Michael O'Rourke, chief market strategist at JonesTrading, summed up the situation, The economy is in a good spot. It's just more about trying to process several years of high inflation. From a retailer perspective, a lot of it's about making sure they're protecting their margins while trying to provide that value that's going to attract the consumer.