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December 2024 − In this issue:
Happy New Year, everyone! That is a popular greeting this time of year, but will it actually be a happy year? With this edition of your Data Driven Newsletter we have gathered a few indicators to help you plan for 2025.
– Brian Loftus
Distributors Sales Outlook
“Uncertainty” is the word appearing most often in recent forecasts and interviews about the year ahead. Lower interest rates are the standard way to pave the road for improving demand, but sticky inflation and tariffs could produce major potholes. We drive slower when the outlook is uncertain, so slower economic growth in 2025 is a fair expectation, especially after the healthy growth during the past several years. Since the Fed was trying to slow the economy, we could call 2024 and 2025 Powell’s Soft Landing. A soft-landing means not every sector of the economy is weak at the same time. We have been through our recession. Our uncertainty is when demand will improve.
Existing home sales are an important indicator of consumer confidence and a leading indicator of equipment replacement demand for our industry. We have been through our recession because existing home sales have declined by 35% during the past three years. The annual sales rate stopped shrinking at four million three months before the first rate cut. We know the pace has bottomed out because the rolling three-month sales growth rate, an effective leading indicator of the annual growth rate, is lifting the annual rate higher in all four regions tracked by the National Association of Realtors. So, when will it turn higher and help demand for HARDI members?
The second axis in this chart is the interest rate on a 30-year mortgage. We inverted that axis so the lines in the chart move together, making it easier to see the influence of the mortgage rate on the level of existing home sales. Without lower home prices, it looks like mortgage rates need to be closer to 6% for home sales to reach 4.5 million, an increase of more than 10%, which would contribute to more demand at HARDI distributors. There was news last week indicating improving demand for HARDI distributors is on the horizon.
The monthly Retail Sales Report includes the results of Building Materials and Supply retailers. When we move the green annual sales growth rate line of this group forward by six months, we see the very high correlation with the orange annual sales growth line of HARDI distributors. The pressure on the sales growth of Building Materials and Supply retailers is easing. This pattern indicates our annual sales growth rate can remain in positive territory through the heating season and will be ready to improve this spring.
Lowes and Home Depot have been battling some of the same demand challenges we have during 2024. During their recent earnings release conference calls, both companies mentioned the demand headwinds of high inflation and high mortgage rates. They also agree that demand should be better in 2025 due to lower interest rates and improving confidence that lower inflation is here to stay. The leader at Lowes, Mr. Marvin Ellison, described their outlook this way: “The 3 primary drivers of our business continue to work in our favor: one, strong home price appreciation; two, disposable personal income is outpacing inflation; and three, the medium age of homes is the oldest it's been in U.S. history currently sitting at 41 years old.” While those ingredients are in place, visibility is lacking so they remain cautious about the year ahead. Mr. Ellison: “Looking ahead, it's unclear when lower rates and improved consumer sentiment will translate into improved home improvement demand.”
The leader at Home Depot, Ted Decker, had a similar observation during their third-quarter earnings release conference call: “So, two rate cuts of combined 75 basis points, but the 10-year [government bond yield] and therefore mortgage rates, are up about 60 basis points. That continues to impact housing turnover which was just about 3% of homes turning over, which is a 40-year low at this point. You might say that the worst is behind us, how much lower could we go? Usually, we're at about 4.5% to 5% turnover.” That is the heart of our demand uncertainty: when will housing turnover recover? On December 18 we received some encouraging news on that front.
Fed Funds Rate Cut to 4.25%
The Federal Open Market Committee [FOMC] trimmed the fed funds rate at their December 18 meeting. The orange line in this chart is the history of that important rate during the past sixty-plus years. The shaded areas show the recessions that follow periods of rate increases, also called a “tightening cycle,” like we have been through recently. There is a lot of uncertainty beyond the right side of that chart, except that interest expense will be lower next year for HARDI distributors.
The interest rate charged to HARDI members will follow the prime rate and the Secured Overnight Financing Rate or SOFR. Both rates follow the fed funds rate. Those rates are 0.75% lower than one year ago and will shrink further. The median outlook of FOMC members is that the fed funds rate will drop to 4% or maybe even 3.75% by the end of 2025. Lower interest expense is encouraging, but the biggest impact on our bottom line would be more demand. The weak impact of the rate cuts on demand is what concerns Mr. Ellison from Lowes and Mr. Decker from Home Depot.
This chart is the heart of the uncertainty for us and building materials retailers. Home mortgage rates, the orange line, have not begun to follow the fed funds rate lower. Mortgage rates will follow the dark line which is the yield on the 10-year government bond. The yellow-shaded area starts in the spring of 2022 with the first post-Covid fed funds rate increase. Eleven rate increases helped push the 10-year yield higher, and the 30-year mortgage rate leaped from 4% to more than 7%. We want to see the 10-year bond yield below 4% so the 30-year mortgage rate can drift to 6% or lower. That would boost our confidence that we will not stumble into a recession in 2025 as indicated by the historic fed funds chart. There is another solid indicator that we can avoid a recession.
The Powell Soft Landing
Is this a soft landing? That is one of the great debates in America today, or maybe just among economists, and this chart may have the answer. The green bars show the total annual wholesale RV shipments as compiled by the RV Industry Association. The red arrows show that RV shipments declined before the yellow-shaded recessions. We have not slipped into a recession even though RV shipments slumped by nearly 50% from the 2021 peak. The last bar on the right is RV shipments during the twelve months through October. We expect the full-year result will continue to exceed the levels of 2023, indicating a soft landing much like what was achieved during the mid-90s. The pattern of severe decline to recent stability is similar to the performance of existing home sales. After three rate cuts this year and more on the way in 2025, it is a safe bet that existing home sales and RV shipments will improve during 2025.
How to Plan with So Much Uncertainty
The 60-year history of the fed funds rate shows us how rare it is to have an economic soft landing. With stable existing home sales and improving RV shipment trends visible before the benefit of fed rate cuts, we may be experiencing a soft landing right now. A soft landing is not the same as demand improving. The 10-year bond yield ignoring the FOMC rate cuts is one reason the leaders at Lowes and Home Depot emphasized uncertainty about the outlook for demand in the new year. That will be clearer in six months, but HARDI distributors need to plan now. To help you develop an effective and achievable plan, we developed Objectives & Drivers for HARDI distributors.
This demo illustrates how HARDI distributors who participate in our Annual Benchmarking Survey can export their results and corresponding benchmarks into an easy-to-use Excel workbook that compares your results to the typical and top performers. It helps you integrate what is necessary to achieve your sales goal, compares your expense allocations with performance, calculates the impact on your bottom line, and evaluates your company’s overall financial health. The last page of the workbook is a summary of each item with the steps you identified to achieve your goal. Objectives & Drivers (O&D) is a new way to use the distributor operating benchmarks. It is the beginning of your roadmap for an effective plan and successful year. If you are a distributor and participated in the survey, click here and I will send you a copy of O&D. If you have not done the survey yet, then click here and I will send that to you.
The unusual demand post-Covid along with a gimpy supply chain led to several years of distorted operating metrics. Those distorted metrics compound the planning uncertainty described by the leaders of national big-box hardware retailers. HARDI distributors who participate in our Annual Benchmarking Survey have access to the pre-Covid normal operating metrics for valuable guidance when planning for the “new normal.” Objectives & Drivers is beyond the usual dizzying table of numbers in the typical benchmarking report. O&D allows you to easily apply those parameters to understand what is necessary to achieve your goals for the year ahead. There is no additional cost for these member benefits. We hope they help you achieve your objectives during the interesting year ahead while allowing you more time to satisfy your current customers and capture new ones.
Did You See That?
Planning for 2025-26
“Uncertainty” may be the word of the moment in economics, but this brief podcast interview by Goldman Sachs Exchanges provides some clarity. Ms. Allison Nathan interviews former Dallas Fed President Robert Kaplan. Mr. Kaplan was on the Fed from September 2015 through October 2021, so from the end of the Obama administration through the beginning of the Biden administration. He offers productive guidance on how to monitor and interpret the economic policy proposals during the year ahead.
Now this is a unique perk
Don’t think “pawternity leave” and skip this one. Most of your employees truly are your most valuable asset. There are a couple of related ideas in this interesting article like offering discounted pet insurance that could be worth considering to help distinguish yourself in the marketplace for talent.
Some place special to visit in 2025
The nicest people in the world are from Minnesota, or are in bakeries. I don’t know what it is about Minnesota, but for bakeries it might be that wonderful smell. I’m disappointed if there is not a short line at the bakery so I can seep in that warmth. I got that feeling while reading about The 22 Best Bakeries in the US Right Now. Doing any traveling this year? The pictures of their amazing creations will inspire you to modify your plans to include a visit to one of these warm and welcoming shops.