Did the UK’s ‘Recession’ End in January?

Lately, our analysis of economic data has boiled down to headlines seem too sceptical so often that we are starting to feel like broken records. So from a pure creativity standpoint, we will confess to being a tad happy that the opposite appears to us to be true, to an extent, of January’s UK gross domestic product (GDP) report. Monthly GDP, which is a government-produced measure of output, grew 0.2% m/m, powered by services, and the universal take from commentators we follow is that the recession is ending.^[i] In our view, this not only reads too much into monthly wiggles, but it also overlooks some quirks we think affected the growth rate. At the same time, we think many observers overstated the UK’s recession from the start, so maybe this is just more a case of sentiment starting to catch up with reality? Either way, we think stocks are likely looking well beyond the news, pricing in the next 3 – 30 months as our research shows is usual. But it is still worth a look, in our view.

First, it is questionable whether the UK is actually in a recession at the moment. As far as we have read, the Office for National Statistics (ONS) hasn’t declared one, and headlines we see proclaiming it hinge on the popular definition of two consecutive quarterly GDP declines. UK GDP fell -0.1% q/q in Q3 2023 and -0.3% in Q4, ergo, the recession moniker appeared.^[ii] But UK GDP tends to be subject to large revisions once the second estimate gets a better handle on business investment and other inputs, so it is entirely possible this will be wiped away.^[iii] Plus, most of Q4’s deterioration came from exports and government spending, which we don’t think much represent private sector fundamentals or domestic demand.^[iv] So, chalking up the sequential declines as signs of deep-seated economic weakness seems myopic to us. And, lest you think this is bad for UK stocks, consider: The Bank of England and many other outlets we follow have been forecasting a UK recession for over a year and a half now.^[v] The surprise factor for stocks seems basically nil.

At the same time, we are hard pressed to agree that January’s bounce is a sign of a recovery forming, and not just because UK monthly GDP data bounce around.^[vi] Rather, to our eye, there are likely distortions from seasonal adjustment. One way to see this: Human Health and Social Work Activities, which rebounded from December’s -0.9% drop with a 0.6% rise.^[vii] This seems a tad surprising considering labour actions in the National Health Service (NHS) intensified in January, with more strike days resulting in cancelled procedures.^[viii] In the ONS surveys, businesses across the board cited strikes as a headwind.^[ix] The agency itself said the NHS and other actions “may have negatively impacted output.”^[x] So the rise suggests to us some seasonal distortions are at work, either from the statistical adjustment (statisticians’ normal ways of accounting for seasonal trends and smoothing them out in order to get a clearer look at the economy’s health) or from the holidays setting a low bar for the December comparison. Either way, whilst the NHS doesn’t reflect private sector activity, we think the caveats poke a bit at the headline GDP jump.

Here is another poke: The 1.9% m/m jump in retail activity, which most commentators we follow heralded as a sign consumers are finally emerging from cost-of-living doldrums, shows some bigtime seasonal skew.^[xi] This category has bounced around the past few months, rising 0.4% m/m in November, falling -1.9% in December, and now the big January.^[xii] December’s drop caught many observers we follow by surprise since it is when holiday sales usually boom. But the UK imported America’s Black Friday November discounts a few years ago, and statistical adjustment methodology still seems to be catching up to these promotions pulling more holiday demand into November. Unadjusted retail sales data show sales volumes (which strip out inflation’s impact) jumping 14.0% m/m in November and another 3.1% in December.^[xiii] In prior years, the two months were closer together—like in 2022, when November grew 10.4% and December 6.9%.^[xiv] And 2021, with November at 11.8% and December 4.2%.^[xv] And pandemic-distorted 2020, when they were almost even steven.^[xvi] Seasonal adjustments are usually based on the past few years’ trends, and this seemingly resulted in December 2023 getting pulled pretty far down. This created a favourable base for January, which is always adjusted up to smooth out the post-holiday hangover.^[xvii]

Understand, we aren’t trying to pooh-pooh the UK’s prospects. We have long argued the country’s economic fundamentals look better than headlines portray, and that hasn’t changed despite the optimism over January GDP. But we think it is important not to get distracted by seasonal noise and presume one month—whether it is up or down—is a trend or a landmark shift in the trend. That just isn’t a clear-eyed reading of the data, in our view.

Instead, we suggest weighing a series of readings and the likely future against sentiment. For all the GDP report optimism, sentiment toward the UK economy appears pretty dreary overall. Yes, it seems many commentators are sniffing the potential for a cyclical upturn. But their projections are weak, with headlines warning about everything from the lack of fiscal stimulus in the government’s Spring Budget to absenteeism and so-called worklessness amongst younger workers creating entrenched headwinds. Much of this discussion is sociological, and in our view, it misreads how fiscal policy and human capital affect growth. However, we think it has the benefit of creating a low bar for reality to clear. Even a modest cyclical upturn will probably bring big relief at this point, and our research shows that is generally all stocks need.