Blog | CB Investment Management

US Stocks Discount Only A Mild Recession

Fed’s Powell Pivots Even More Hawkish.

European Central Banks Are Between Hopeless And Hopeful.

Misinformation? Or Cycle Blindness?

“We think that the level of rates that we estimated in September … is going to be higher.”
Jerome Powell – FOMC November press conference

“We do not believe that that recession will be sufficient to actually tame inflation”
ECB’S President Lagarde

“Further increases in Bank Rate may be required for a sustainable return of inflation to target, albeit to a peak lower than priced into financial markets,” policymakers said in their quarterly economic outlook. The BoE, ladies and gentlemen. You can smell the desperation
Grant Williams

Regular readers should not have been surprised by Powell’s hawkish comments this week. A close examination of the data, Powell’s recent statements and the need to rebuild credibility meant Powell was bound to contradict the market’s obsession with the possibility of a pivot to an easier monetary policy.

Misinformation and cycle blindness seem to be dominant dangers for market participants. The charts below show there should be no confusion about the downcycle in growth, which is being reinforced by higher interest rates and QT. Yet the equity markets still discount only a mild cyclical slowdown AND a quick resolution of high inflation. This insight puts those perceptions in context.

The gap between the data, the stock market, and the cycle

The chart below shows one of the widest gaps and lags of the ratio of cyclical stocks to defensive stocks relative to the one year downtrend of the ISM purchasing managers index (PMI).

The following chart shows a 35 year low in leading indicators, which have left even the ISM PMI lagging far behind in the cycle.

Over the last 50 years in developed markets high inflation levels have fallen only slowly. Current expectations are an outlier relative to experience.

This suggests Powell rightly recognizes the challenge ahead in addressing inflation.

Post Powell’s statements, the gap between 2-year & 10-year Treasury yields is the most negative since the early 1980s.

This reliable recession indicator is far stronger than the pre 2008 recession signal. The bond market clearly sees deep cyclical risk.

The last two times productivity declined this badly year on year was during inflationary periods and recessions.

Over the last year savings are declining as credit card debt takes off.

Household balance sheets are under growing pressure, putting pressure on consumer spending and growth.

US equities have had a significant correction, but only to the highs of the 2000 bubble relative to GDP. The long term downside risk remains substantial in key areas of the equity market.

Summary

The US equity market continues to be out of line with what is reflected in the bond market and much of the economic data. Cyclical and interest rate risks remain significant.

The room for manoeuvre, and the stability of the current system should not be taken for granted. Volatility has increased and is likely to continue to stay high. The outlook has rarely been this uncertain. Investment management needs Best Investor metrics and techniques as never before.

Market and economic events are moving fast at this stage. If you need a quick review of the issues that you may need to know about for your own circumstances, schedule a FREE consultation today.

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Chris Belchamber is an IRMAA Certified Planner

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