Advance 3Q GDP Growth Reading Doesn't Tell the Whole Story

The market was impressed with the advance reading for the third-quarter gross domestic product (GDP) growth last Thursday. The fact is that with the Q3 GDP growth at 2.8%, the news was a relief, as it was much better than the consensus estimates of 1.9% and the 2.5% final reading for the second-quarter GDP growth.

The U.S. Department of Commerce said it was the fastest rate of growth since the third quarter in 2012. But while the market appears to be applauding the result, I’m not.

Yes, the GDP growth was better than if we had a soft reading, which many were expecting.

The Federal Reserve, at first glance, may look at the number and decide it’s time to rein in its quantitative easing at its December meeting.

But hold on… A closer look at the components of the GDP growth report would show some fragility that makes me concerned about the country’s economic renewal.

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Spending by the businesses stalled in the third quarter, based on early indications. This is a red flag, as companies will generally spend more if they are growing and the economy is healthy and in an upturn. This lack of spending by businesses may indicate continued weak revenue growth.

Another warning in the report is that real personal consumption, which accounts for about two-thirds of America’s GDP growth, rose 1.5% in the third quarter—that’s not that good. Actually, it’s a decline from the 1.8% GDP growth in the second quarter. Given this, the retail sector could continue to struggle, so I would be careful when buying. I would continue to stick with the discounters, such as Family Dollar Stores, Inc. FDO, Dollar General Corporation DG, and Wal-Mart Stores, Inc. WMT, which is tops in this area.

Then there’s the value of U.S. goods and services sold to foreigners. This increased at 4.5% in the third quarter, well below the eight-percent pace in the second quarter. Moreover, the real imports of goods and services came in at 1.9%, versus the 6.9% jump in the second quarter.

Not so surprisingly, government spending is down due to the sequestration and budgetary cuts. Real federal government consumption spending and gross investment fell 1.7% in the third quarter, following a 1.6% decline in the second quarter. I don’t expect this to improve.

So while the GDP growth on the surface looks fine, the breakdown of numbers tells another story, suggesting there could be some issues down the road.

The Fed will likely be looking hard at the second estimate to be released on December 5, just prior to the Federal Open Market Committee (FOMC) meeting. If the underlying numbers continue to be soft, I doubt the Fed will begin tapering its bond buying until perhaps the January meeting, which will also be Ben Bernanke’s last.

With retail sales and the economy expected to stall in the fourth quarter, you need to be careful, especially when considering buying retail stocks as I discussed above. You should also take some profits off the table and/or buy some put options on the indices to hedge against potential downside weakness.

This article Advance 3Q GDP Growth Reading Doesn’t Tell the Whole Story was originally published at Investment Contrarians