On October 27th, the U.S. economy posted growth of 2.6% for Q3 2022 according to the Bureau of Economic Analysis compared to the market’s expectation of 2.3%. This expansion takes the U.S. economy out of the recession zone, underscored by the U.S. economy contracting 1.4% in Q1 2022 followed by another contraction of 0.9% in Q2 2022. However, the output declines seen in Q1 and Q2 U.S. GDP in 2022 resulted from the normalization of inventory spending, contextualized by U.S. firms overstocking inventory in 2021 due to historic pandemic-induced supply chain hurdles, a situation which is an anomaly. While supply chain challenges persist, there is a significant easing of the delays seen at the start of 2022, allowing exports to flow more freely.

Highlights of the Q3 GDP Growth include a strong rebound in international trade, specifically improved export levels coupled with upbeat government spending and resilience in consumer spending, forming 2/3rd of U.S. GDP. Of note, consumer spending grew 1.4% in Q3 2022 compared to levels of 3.1% and 2% in Q1 and Q2 respectively of the same year.

The slowdown in consumer spending could be influenced by inflation pressures impacting consumers, evidenced by consumer confidence declining in October after consistent monthly gains up to September. U.S. headline inflation was 8.2% in September 2022, while core inflation was 6.6% for the period compared to the U.S. Federal Reserve’s target of 2%.

The Atlanta Fed GDPNow GDP estimate for Q4 2022 is 3.1%, firming up the thesis that the U.S. economy still has momentum in 2022 despite stubbornly high inflation and continuously rising interest rates. However, 2023 could show a different picture as the Ukraine-Russia conflict remains as an inflation driver. For context, the International Monetary Fund (IMF) forecasts U.S. inflation to be 8.1% for 2022 and 3.5% for 2023.

We believe that as 2023 approaches, dividend players are a major value driver for investors. Inflation and recession resistant sectors such as consumer staples and healthcare are crucial for investors. Consumer staples examples include Coca-Cola (KO), Colgate-Palmolive (CL) and Proctor & Gamble (PG). Also, healthcare examples include Johnson & Johnson (JNJ), United Health Group (UNH), CVS Health Corp (CVS) and Walgreens Boots Alliance (WBA).

Markets are likely to see more volatility as the Fed’s hiking cycle continues within the purview of sticky inflation, evidenced by core inflation being 6.6% in September 2022. Also, given that consumer spending is seeing a shift to services and away from goods, we could see choppy waters for S&P 500 listed stocks given that most of these are goods producers.

Importantly, mega-cap tech stocks such as Meta (META), Alphabet (GOOG), Microsoft (MSFT), Apple Inc (AAPL) and Amazon (AMZN) together disproportionately affect the performance of the S&P 500 index and even more so the Nasdaq which are down 18.15% and 29.04% year to date respectively.

Meanwhile, the Dow Jones Industrial Average, which is less influenced by tech stocks is down 9.57% year to date.

Tech companies by nature are heavily focused on innovation and research to produce their products and services which is riskier than producing a pair of shoes or a new menu item at a fast-food spot. This makes technology companies highly sensitive to interest rate hikes, because in theory more expensive funding increases the failure rate of the innovation process. On that note, it is key to look for companies with strong leadership, pricing power, branding, clear competitive advantages and strong balance sheets. In an interest rate hiking cycle, tech as a sector has large downside sensitivity but Apple Inc remains an outlier because of its brand power, its cash pile and product mix.

We believe that the first post-pandemic holiday season being in Q4 2022 is another opportunity to look at strong consumer discretionary brands like Pepsi (PEP), Coca-Cola (KO), Costco (COST) Dollar General (DG), Target (TGT) and Walmart (WMT). This is supported by events, parties and gatherings which should bolster consumer spending. All in all, we believe there is opportunity in carefully selected names despite the dynamic risks at hand. We encourage investors to speak with a licensed investment professional in making their investment decisions.