The restaurant industry looks headed for recession -- and this should make everyone nervous

The restaurant sector could be sending a warning sign about the US economy.

In notes to clients published Tuesday, Stifel analyst Paul Westra and his team argue that US restaurants are showing signs of heading towards a sector-wide recession.

And in the past, restaurants have typically been a leading indicator of a broader economic downturn.

The thesis here is pretty straightforward: restaurant sales appear to be slowing, and those sales are strongly indicative of consumer spending habits. US economic growth is largely predicated on consumer spending, therefore slowing spending likely indicates slowing growth, and possibly even outright recession.

Here’s Stifel’s call (emphasis mine):

“Today, we adopt a Bearish outlook for Restaurants as we confidently believe that, at a minimum, the simultaneous [-1.5%] to [-2%] deceleration of Restaurant industry comps across all categories during 2Q16 (of +0.7%A vs. 3Q14-1Q16’s +2.4%A) within our most recent Stifel Sales Survey reflects the start of a US Restaurant Recession — which, may also represent a harbinger to a US recession in early 2017; and, if so, Restaurants have historically led the market lower during the 3-to-6-month periods prior to the start of the prior three US recessions (Restaurants -23% vs. S&P 500’s -10%).

The catalyst for the current weak pre-recessionary restaurant spending trend is likely multi-faceted (US Politics; Terrorism; Social Unrest; Global Geo-Politics; Economic Uncertainty) but, if history is a guide, we warn investors that restaurant industry sales tend to be the “Canary that Lays the Recessionary Egg” (i.e. the current -2% cut-back in dining out sales is a possible harbinger of a -2%-plus cut-back in the US consumers’ entire spending basket within 3-to-9 months (which accounts for ~70% of the US Economy)).”

In the second half of 2016, Stifel expects a 20% decline in restaurant stocks, a decline that would look awfully similar to a trend seen ahead of each of the last three US recessions.

Last month, research out of NPD Group indicated that sales in the restaurant sector were flat, reflecting consumers’ lack of confidence in the economy.

This was followed by a preliminary consumer confidence survey from the University of Michigan — the first following the UK’s Brexit vote, which has served as the main destabilizing event of the last couple months — that showed a sharp decline in confidence among wealthier households.

As gas prices tumbled and consumer confidence rose into 2015, restaurant sales surged. In recent months, this trend has cooled.

And in Stifel’s view, things are about to get a lot worse.

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