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Why the Consumer Is Hanging Tough

For bearish investors, one of the biggest puzzles of the last few months has been the strength of consumer spending. Despite a U.S. unemployment rate at 9.9 percent in April, shoppers are returning to stores.

For example, Polo Ralph Lauren (RL) President and Chief Operating Officer Roger Farah said May 19 he sees an "inflection point" in the luxury market. "Worldwide, we are seeing our core luxury customers returning to the stores with an openness to spend," he told analysts while unveiling quarterly results. The chain's earnings of $1.13 per share beat estimates of analysts surveyed by Bloomberg by 83 percent. Sales rose 9 percent from a year earlier.

According to data released May 14, U.S. retail sales rose 5.7 percent in April from a year earlier. March's 7.8 percent increase was the biggest jump in retail sales since August 2005.

Market bears and pessimistic economists have offered a variety of theories for the strength in sales. One suggestion is that many homeowners are skipping mortgage payments, and, while they wait for their homes to be foreclosed upon, they're out shopping with money they're saving.

There is little besides anecdotes to support that theory, however. Even those who plan to stay in their homes are stepping up spending. The April retail sales report showed spending at furniture and home furnishing stores was up 5.5 percent, and sales at home centers, which include Home Depot (HD) and Lowe's (LOW), rose 14 percent.

Temporary Lift?

Another theory is that the opening of consumers' wallets is merely temporary.

"Clearly, the economy and consumer sentiment have improved since their weakest point in 2009, but we believe that both are still somewhat unstable and fragile," Target (TGT) Chairman and Chief Executive Officer Gregg W. Steinhafel told analysts May 19. Target reported earnings that were 3 percent higher than estimates of analysts surveyed by Bloomberg. The economy and consumers "will likely continue to experience occasional setbacks as the year progresses," Steinhafel said.

For now, though, evidence suggests the return of the U.S. consumer is very real. For example, sales at Target last quarter jumped 5.1 percent from a year earlier, to $15.6 billion.

Investors have recognized this year's improving retail trends and have pushed consumer stocks higher. The consumer discretionary sector of the Standard & Poor's 500-stock index may be down 5.95 percent in the past month, but it is still up 8.5 percent so far this year.

To explain the resurgence of consumer spending, some observers have cited pent-up demand for products, while others emphasize nascent improvement in the labor market. The U.S. economy added 290,000 to nonfarm payrolls in April. Action Economics predicts another 400,000 net new jobs this month, while Deutsche Bank (DB) says 475,000 jobs is an "easy layup."

Market's Boost to Net Worth

But another key factor may be the financial markets. Fidelity Investments said May 19 its average account balance rose more than 55 percent from Mar. 9, 2009—the market's lowest point last year—to Mar. 9, 2010. At the end of the first quarter of 2010, the average account balance was $66,900.

Such a revival in net worth seems to be making Americans more confident. A survey by Deloitte, released May 19, shows 55 percent of consumers "think the economy has started to recover from the recession" and 64 percent think "their household financial situation is the same or better compared to a year ago."

But these data may reflect the nation's mood prior to the recent euro zone-inspired market pullback. The worry is that if the stock market can lift consumers' moods, it can also dampen them. While the S&P 500 is still up 65 percent from the index's 2009 low, the current malaise in stocks could crimp spending if it continues.

Steverman is a reporter for Bloomberg News in New York.

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