Boomers to Millennials
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This document discusses how changing US demographics, specifically the aging Baby Boomer generation and coming of age Millennials, will impact the economy and stock market in coming decades. It finds that while retiring Baby Boomers will slow economic growth, Millennials are a larger population now entering their peak spending years, supplemented by Generation X, providing strong economic demand to offset declining Baby Boomer consumption. Certain industries like housing and autos are positioned to benefit from these demographic tailwinds. Student loan debt is high but should not cause a financial crisis due to key differences from the mortgage crisis. The economy is projected to grow around 2.1% annually over the next decade due to demographic factors.
Boomers to Millennials
- 1. I N V E S T M E N T S T R A T E G Y G R O U P Boomers to Millennials How Our Changing Demographics Will Impact the Economy and Stock Market
- 2. W W W. J A N N E Y. C O M2 Millennials are the Key to Future Economic Growth The peak of the baby boom generation (those born between 1946 and 1965) was in 1981 when boomers were 24 years old, and it’s no coincidence that the economy and stock market had a 20-year surge as this generation went through its peak spending years. With the leading edge of this group now entering retirement, the focus turns to the Millennials (those born between 1982 and 2001) and their ability to grow the economy. Figure 1: Comparison of 2015 Population to 1980 (Source: United Nations, Department of Economic and Social Affairs, Population Division) Introduction Historical data indicates a strong relationship between the age distribution of the U.S. population and economic and stock market performance. Key demographic trends today include the aging of the Baby Boom generation, and the coming of age for the Millennials (sometimes called Echo-Boomers or Generation Y). Both of these trends will have a major impact on the economy and stock market over the coming decades. This paper examines several important consequences of our demographic trends, and identifies industries that should benefit from our shifting demographics. The good news is that the Millennials are a bigger population (thanks to a little help from immigra- tion), with the peak of this generation now 24 years old and at the beginning of their major con- sumption years. At the end of 2012, Baby Boomers numbered about 82.5 million. The Millennial gen- eration is expected to be over 88 million people by the end of 2016—about 8 million more people than the Baby Boomers. Figure 1 compares the demographic landscape of 1980 (just before the great bull market run of the 80s and 90s) to the projected 2015 population. Age Group Population (millions) 0-4 5-9 10-14 15-19 20-24 25-29 30-34 35-39 40-44 45-49 50-54 55-59- 60-64 65-69 70-74 75-79 80+ 1980 2015 25 20 15 10 5 0
- 3. 3W W W. J A N N E Y. C O M Three major features stand out in Figure 1: 1) The Millennials are a larger population today than the Boomers were in 1980, and they are just entering their peak consumption years; 2) The retiring Baby Boomers are a source of slower economic growth, which was not present in 1980 (see page 4, Drivers of Long-term Economic Growth); and 3) There is a large population group of approxi- mately 63 million between these two, known as Generation X. This group is currently in their peak consumption years and will remain there for quite some time. The combination of Millennials entering peak consumption years, supplemented by Genera- tion X that is already there, provides a strong source of economic demand. This demand should more than offset the declining consumption of the retiring Baby Boomers. Figure 2 shows how consumption varies with age. Combining the demographics and consumer spending by age, analysis shows that consumer spending should grow about 1.2% per year. This increase only includes the benefit of more households, which offsets the drag due to a higher percentage of households in the 65+ age group. In addition, con- sumer spending should also grow as family income increases with an improving economy. The Congressional Budget Office (CBO) looks at this from the viewpoint of economic growth po- tential, and they summarize the impact of today’s demographics with growth projections for the next decade. The CBO projects that the economy can grow by 2.1% per year, on average, over the next decade. See Drivers of Long-term Economic Growth, for a more detailed discussion. Figure 2: Consumer Spending by Age Group (Source: 2012 Consumer Expenditure Survey – BLS) Millennials Present Investment Opportunities Millennials will make up the largest population cohort the U.S. has ever seen, and the consumer spending of the Millennials will be a key driver for equities. We identify several reasons for opti- mism below. Millennials Are Headed Toward Higher Income: Employment opportunities get better with age, especially with a college degree. The un- employment rate drops dramatically for 25- to 34-year-olds, especially for those with a college degree (see page 5, Importance of Student Loans to Millennials). Entering your thirties often means marriage and better pay. Federal Reserve data shows that average household income and net worth rises the most (percentage- and dollar-wise) when transitioning from the under-35 to the 35–44 age group. A large factor is marriage, and the sta- bility of having a household with dual incomes. Favorable Housing Demographics: Just as household income has a dramatic jump as young adults transition from their 20s to their 30s, so does home ownership. The median age of a first-time homebuyer is 31, and the biggest
- 4. W W W. J A N N E Y. C O M4 percentage point increase in the home ownership rate occurs when transitioning from households aged 25–29 (36.8% home ownership rate) to those aged 30–34 (51.6% home ownership rate). Figure 3 illustrates the results of a Millennial profiling survey, and clearly shows the group is interested in spending on housing (after they pay off their student loans—see page 5, Importance of Student Loans to Millennials). Survey data also shows that buying a home is the most important long-term financial goal of Millennials. Figure 3: What Would You Spend More On, if Your Income Increased? (Source: Ned Davis Research Survey of 526 Millennials) Unlike some other durables, home ownership goes up with age (see Figure 4). This means that despite aging Baby Boomers, housing should have demo- graphic tailwinds. This is in addition to significant pent-up demand for housing as a result of the Great Recession (see Figure 5), and very attractive affordability due to low interest rates. Autos should also benefit and have additional tail- winds due to good affordability (low interest rates), a record vehicle age of over 11 years, and signifi- cant pent-up demand since the Great Recession (see Figure 6). Millennials are also very interested in purchasing cars, as shown in Figure 3. Drivers of Long-term Economic Growth In addition to the all-important productivity growth (getting more output per worker), demographic factors have a major influence on the ability of an economy to grow—they determine how many workers are available to produce goods and services in an economy. The CBO projects that, over the next decade, the economy can grow by 2.1% per year, which is down from the 3.3% potential GDP growth rate seen from 1950 until 2013. This lower potential growth rate is driven by a lower growth rate in the potential labor force—from 1.5% over 1950–2013 to 0.5% from 2014–2024. The slowdown is anticipated to occur primarily because of the aging and retirement of large numbers of baby boomers, and because women’s participation in the labor force has leveled off since the late 1990s—after having risen substantially throughout the prior three decades. Immigration projections also play a role in the potential size of the labor force. Worker productivity is assumed to increase by 1.6% per year over the next decade, and is in line with the historical averages of the last 60 years. Other factors affecting economic growth include the quantity and quality of available natural resources, including land.
- 5. 5W W W. J A N N E Y. C O M The benefits of a college education are clearly demonstrated in unemployment rates and average earnings. The unemployment rate for college grads stood at 3.4% in 4Q 2013, while the rate for a high school degree was 7.3%. Average annual earnings for a high school grad are only $32,493, while bachelor degree holders earn $59,415 and advanced degree holders earn $87,981. The benefits of a college degree have also been magnified since the financial crisis. However, large student debt burdens for today’s Millennials is a growing concern. Student loans outstanding almost tripled between 2004 and 2012, and the aggregate student loan balance is now greater than $1 trillion. Student debt now exceeds aggregate auto loan, credit card, and home-equity debt balances—making student loans the second largest debt of U.S. households (about 8% of household debt), following mortgages. According to the Federal Reserve’s most recent comprehensive student loan report, the average amount of student loan debt stood at $24,218, but the median borrower only owed $13,662. The difference reflects borrowers with especially large amounts of student loan debt. 3.7% of borrowers had six-figure student loan debt, and 0.5% had debt over $200,000 (dominated by those with medicine and law degrees, where potential income is higher). 40% of borrowers had balances of less than $10,000. Recent analysis by the New York Federal Reserve confirms that student loan debt may lessen other forms of borrowing. The Fed’s work shows a significant impact, since the financial crisis, on home and auto borrowing for those who have student debt relative to those who don’t. Other surveys show that student debt and a lack of savings are an issue for Millennial consumption. However, Millennials have a strong desire to own homes and cars—and will eventually be in a position to do so. Student Loans Should Not Cause The Next Financial Crisis: With student loan debt levels, delinquencies, and defaults on the rise, there is concern about another financial crisis similar to housing in 2008. Fortunately, there are major differences with the housing crisis, and the systemic financial market risks posed by student loans are probably overstated. At their 2008 peak, residential mortgages totaled some $10.6 trillion (according to the Fed’s Flow of Funds report) versus some $0.97 trillion in student loans currently outstanding (one-tenth the size). At the onset of the crisis, mortgages without any (implicit or explicit) government guarantee totaled $5.2 trillion. In addition, the credit risk was multiplied many times over by the presence of $450 billion in exotic financial instruments, such as cash-collateralized debt obligations (CDOs) and extremely large (multi-trillion-dollar) positions in synthetic credit default swaps and CDOs. In comparison, private parties own the credit risk on only $150 billion of private student loans (PSLs) that are not guaranteed by the U.S. government. In a low-delinquency/default environment, student lending is a big money-making business for the government. Given that the Department of Education can borrow at low Treasury rates, larger loan volumes produce greater earnings. Indeed, for new loans issued in fiscal year 2013, even after accounting for the fairly high projected default rates cited above, the U.S. government expects to earn $5.7 billion. However, any rise in student loan delinquency/ default rates will be systemic in the sense that the burdens of the losses will be borne broadly by U.S. taxpayers. Importance of Student Loans to Millennials
- 6. W W W. J A N N E Y. C O M6 Specific categories of Housing, including home maintenance, household furnishings and major appliances, should also benefit, with the key reason being that the home ownership rate goes up with age. There are also some key categories like Autos that should have a fairly neutral impact from demo- graphics, because a large portion of the Baby Boom population will remain in the 55–64 age group this decade. Finally, if Baby Boomers are living longer and working longer, the transition to “retirement spending years” may not happen right at age 65. If 70 becomes the new retirement age, the peak of the Baby Boom will not make that transition until 2027. Baby Boomers will need to protect purchasing power, while Millennials are well aware of the need to save for their future. This points to the need for investment advice and financial products for both population groups, and there are many financial institutions and insur- ance companies that are well-positioned to provide advice and products for both age groups. Figure 4: Home Ownership Rate Increases With Age While Vehicle Ownership Remains Steady (Source: Federal Reserve Board Survey of Consumer Finances) Baby Boomer Demographic Headwinds and Opportunities Since income and spending decreases as retire- ment is approached, reduced Baby Boomer spending will likely be a drag on overall consumer spending. However, this will not occur for every category, and certain sectors will benefit from an aging population. Overall health care spending increases with age (Figure 7) and health insurance, drugs, and medical supplies are major beneficia- ries. Drug retailers are also very well-positioned, and we have a long-term positive bias toward them. Figure 7: Health Care Spending Increases with Age (Source: Janney ISG and BLS) Figure 5: Significant Pent-up Demand for Housing since the Great Recession (Source: Janney ISG, Bloomberg) (Source: x) Figure 6: Significant Pent-up Demand for Autos since the Great Recession (Source: Janney ISG, Bloomberg)
- 7. 7W W W. J A N N E Y. C O M Figure 8: Industries and companies that are well-positioned to capitalize on our changing demographics Company Name May 21, 2014 Ticker Forward P/E Earnings Growth Dividend Yield Credit Rating Notes Coverage Consumer Discretionary Housing and Auto spending are beneficiaries of both Millennial and Baby Boomer demographics. Value retailers are top destinations for Millennials apparel and grocery shopping. HOME DEPOT INC HD 17.15 15.82 2.10 A Solid e-commerce site and benefits from pent-up household formation. S&P/CS/J LOWE’S COS INC LOW 16.60 16.58 1.59 A- Solid e-commerce site and benefits from pent-up household formation. S&P/CS/J FORD MOTOR CO F 10.99 9.78 2.67 BBB- Premier U.S. automotive company with valuation and dividend support. S&P WAL-MART STORES INC WMT 14.31 8.58 4.40 AA Millennials prefer WMT for groceries and apparel. S&P/CS/J AMAZON.COM INC AMZN 78.43 38.38 - AA- Millennials do the majority of their shopping online with AMZN. S&P/CS/J COMCAST CORP-CLASS A CMCSA 17.39 11.40 1.58 A- Benefits from increased household formation and increased connectivity. S&P/J WALT DISNEY CO/THE DIS 19.55 11.37 1.05 A Movies rank first for Millennials entertainment. They will also start families soon. S&P/J Consumer Staples Drug Retailers are a major beneficiary of increased spending by aging Baby Boomers. They also benefit from newly insured Affordable Care Act consumers and a further expansion into clinical services. A wave of higher-profit generics are also set to come on the market in 2015. CVS CAREMARK CORP CVS 16.79 13.93 1.24 BBB+ Largest pharmacy health care provider in U.S. S&P/CS WALGREEN CO WAG 18.64 14.13 1.77 BBB Largest U.S. retail drug chain based on revenues. S&P/CS Financials The banks are healthy and will benefit from providing credit for housing, autos, and other consumer durables. Retiring Boomers also need financial advice. Millennials are well aware of their need to save and also stand to inherit significant sums. JPMORGAN CHASE & CO JPM 9.64 5.14 2.81 A Well positioned for mortgage lending and providing financial advice. S&P/CS WELLS FARGO & CO WFC 12.22 11.94 2.42 A+ Well positioned for mortgage lending and providing financial advice. S&P/CS METLIFE INC MET 8.74 8.05 2.19 A- Largest U.S. life insurer. Well positioned in growing retirement and savings market. S&P/CS/J PRUDENTIAL FINANCIAL INC PRU 8.51 10.67 2.29 A Provides a wide range of insurance and investment management products. S&P/CS/J Health Care Baby Boomers will account for significant health care expenditures over the coming years. Janney’s Investment Strategy Group favors the Health Care Equipment and Managed Care industries. JOHNSON & JOHNSON JNJ 17.03 6.95 2.61 AAA AAA rated blue chip selling Pharmaceuticals and Medical Devices to aging Boomers. S&P/CS MEDTRONIC INC MDT 14.75 7.39 1.87 AA- Very diverse product line, strong cash flow, valuation and dividend support. S&P/CS MYLAN INC MYL 12.68 9.98 - BBB- Leading generics manufacturer - generics will be in high demand with aging Boomers. S&P UNITEDHEALTH GROUP INC UNH 13.73 9.86 1.44 A Leading healthcare provider market position with product diversity. S&P/CS ISHARES U.S. MEDICAL DEVICES IHI - - - - Cap-weighted basket of 40 equipment manufacturers and distributors. ISHARES U.S. HEALTHCARE PROV IHF - - - - Broad-based exposure to U.S. health care providers. Definitions: Forward P/E - Current stock price divided by EPS consensus estimate for the next four quarters. Earnings Growth Estimate - Mean broker estimate of the compounded annual growth rate of the operating eps over the company’s next full business cycle (typically 3-5 years). Dividend Yield - Trailing 12 month dividend per share divided by share price Credit Rating - Rating assigned by Standard & Poor’s to the long term obligations of the issuer if repaid in the local currency of the issuer. (Source: Janney ISG, Bloomberg)
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