'Discretionary recession' is looming over holiday shopping season

Retail spending is shifting into lower gear ahead of the all-important holiday season, suggesting that more Americans are cutting back on things that are considered non-essential.

According to the Commerce Department, retail sales declined 0.1% to $705 billion in October, following an upwardly revised gain of 0.9% the previous month. It was the first decline since March and a strong signal that consumer spending was ebbing at the start of the fourth quarter.

Retail spending was down at car dealerships, furniture stores, and building material suppliers. Gasoline sales also fell, but that was largely due to lower prices at the pump.

Excluding these categories, sales rose just 0.1%, down sharply from the 0.6% average over the previous six months.

While a spending slowdown is a welcome sign for investors worried about inflation, it’s bad news for retailers who depend on holiday shopping to sustain their business. It also paints a worrying picture of the average consumer struggling with higher costs.

Retailers sound the alarm

The winter holiday season in November and December accounts for roughly 19% of total retail sales for the year, according to the National Retail Federation. Any perceived slowdown heading into the holiday season is a troubling sign for retailers.

Major retailers like Target and Home Depot have already sounded the alarm.

Target’s comparable sales from stores and digital channels fell 4.9% year-over-year in the third quarter.

“Consumers are feeling the weight of multiple economic pressures, and discretionary retail has borne the brunt of this weight,” said Target’s chief growth officer, Christina Hennington, during the company’s earnings call.

She cited “newly emerging headwinds” for the spending slowdown, including elevated interest rates and the resumption of student loan payments.

Meanwhile, Home Depot reported a 3.1% drop in same-store sales in the third quarter as discretionary categories (items people want but don’t necessarily need) underperformed.

Discretionary spending on thin ice

The retail sales report is the first major indicator that consumer spending is slowing after powering the economy to substantial gains last quarter. But there are other signs that consumers are re-evaluating their spending habits before the holidays.

Retailers already report a broad pullback in discretionary spending for electronics and home furnishings. Chuck Grom of Gordon Haskett Research Advisors calls this a “discretionary recession” as shoppers buy cheaper alternatives of things they want or focus on services instead of goods.

According to a CNBC survey, 92% of Americans have already cut back on discretionary spending in the last six months, and 76% plan to reduce spending on non-essentials during the holiday season.

These figures align with a recent study by the Conference Board showing that Americans plan to reduce their holiday spending by 2.1% this year. That number swells to 16% for non-gift items.