Eight times per year, the U.S. Federal Reserve publishes the “Summary of Commentary on Current Economic Conditions by Federal Reserve District.” Fortunately, this report is simply referred to as the Beige Book. Per the report website, “each Federal Reserve Bank gathers anecdotal information on current economic conditions in its District through reports from Bank and Branch directors and interviews with key business contacts, economists, market experts, and other sources. The Beige Book summarizes this information by District and sector.”1
As you’d expect, the report is super dry and unexciting. But macroeconomic commentators and market strategists parse through the reports for clues as to how Federal Reserve policy might change, or not, in the meetings ahead.
But there is another version of the Beige Book that is exciting, at least to us: Eric Cinnamond at Palm Valley Capital Management (an investor we have long followed) creates his own notes each quarter based on the many public company management team earnings calls and investor updates he listens to and reviews. Collectively, those notes are a very direct look at what’s happening on the ground floor of the economy.
Why would such a compilation be exciting to us? Because we only work with business owners and many of our clients operate businesses in industries Eric and his colleagues watch closely.
Eric was kind enough to share his notes from Q3 calls in October and November 2021. A couple of key points jump out at me:
“…labor shortages intensified during the quarter. Labor shortages were more frequent and very noticeable.” I don’t think I know of a business today that does not have some sort of labor recruiting and retention challenge. It’s not just blue collar jobs either – it’s across the board. Witness the extra software engineer bonuses Apple paid out at the end of 2021 as part of their talent retention efforts.
“Inflation was a dominant theme again during the quarter and appears to have intensified.” We expect this will be an issue, to varying degrees and in varying industries, for many years.
“Transportation capacity remains tight and is not meeting demand…higher pricing is offsetting missed demand from insufficient capacity.”
4. Credit Markets
“The credit market remains very easy with several companies announcing low coupon/long duration bond issuances.”
“Residential construction continues to grow faster than commercial; however, several companies noted commercial construction and renovations are improving.” We see something similar, and many of our discussions with participants in the real estate industry over the last 12 months have included management of risks related to availability and prices for materials and labor/contractors.
6. Discipline in Housing and Energy Industries
These are two industries that historically have seen supply ramp up quickly when prices move higher. But that doesn’t seem to be the case yet for home builders (“maximizing profits over ramping supply”) or energy companies (“E&Ps remaining disciplined which is helping keep production relatively flat”).
The big question for 2022 is how shortages and resulting higher prices affect demand. In economic theory, supply side shocks eventually lead to reduced demand as consumers struggle to absorb higher prices. But some areas of demand are more price-inelastic than others, and some businesses have pricing power where others don’t.
Does your business have pricing power? Can you find efficiencies to overcome cost pressure? Business owners haven’t had to worry too much about these questions since the financial crisis. Now they do. And likely will for a long time to come.