Last week the first 10y-2y yield curve inversion in 10 years sent stocks plunging 3% in a single day. The S&P 500 ended up down 1% for the week, though the trading range was much higher, 4.1%.
This marks the third straight week of losses for stocks, with some sectors (industrials, energy, and financials) plunging far more (double-digits). Here are the actual facts about recession risks right now, including the single biggest factor that might trigger an economic contraction and bear market (hint, it’s not the trade war).
The Biggest Recession Risk We Actually Face
“We have nothing to fear about a recession right now except for the fear of recession.” – Brian Moynihan, CEO Bank of America
Last week CNBC reported that President Trump, spooked by Wednesday’s August 14ths brief yield-curve inversion and 3% stock decline, did a 20-minute conference call with the CEO’s of JPMorgan, Bank of America and Citigroup.
First off I need to highlight this was the 307th time the Dow has fallen 3% or more in a single day, since 1920. In other words, on average, stocks fall 3% or more in a day, once every three months (and 5% or more in a month once per year, on average, since 1950).
According to CNBC here’s what the bank CEO’s told our president
“The president asked the three men to give him a read on the health of the U.S. consumer, according to one of the people. The executives responded that the consumer is doing well, but that they could be doing even better if issues including the China-U.S. trade war were resolved, this person said.” – CNBC (emphasis added)
A lot of focus has recently been on declining manufacturing and industrial sectors, which are currently either in a mild recession or very close to one. However, it’s important to point out that just 25% of US GDP is now in industrial/manufacturing sectors, with 75% being in services, and 66% to 70% of GDP growth being driven by consumer spending (retail sales still growing about 5% per year).
Unfortunately, consumer confidence, like stock and bond market sentiment, can be affected by scary headlines. In July the University of Michigan’s Consumer Confidence Index suffered a big decline from 98.4 to 92.1.
More importantly, the index of consumer expectations, which tracks how confident consumers are about the future, fell to 82, the second-lowest level since Trump’s election.
According to Richard Curtin, chief economist of the survey, the two biggest factors affecting consumer expectations about the economy is the trade war AND the first Fed rate cut in a decade.
This is something that investors should keep in mind that are hoping, like the bond market and our president, that the Fed takes a hatchet to short-term rates at the September and October meetings.
At the last press conference, Fed Chairman Jerome Powell upset the stock market when he called the first 25 bp cut merely part of a “mid-cycle adjustment” rather than the start of a long-term rate cut cycle.
However, the Fed has been clear since 2012 that it making interest-rate decisions based on economic data with the goal of maximizing employment and keeping core inflation stable around 2%. On Friday, August 23rd, Jerome Powell is scheduled to speak at the annual Jackson Hole economic symposium.
The bond and stock market are hoping Powell changes course on his previous comments, and signals that rates will keep falling steadily over time AND that possibly the 10y-2y inversion of last week mean a 50 bp cut is now likely in September.
But as the latest consumer confidence survey shows, investors need to be careful what they wish for. While stocks might potentially react positively to such a speech, depending on how the media spins it, consumers might hear the Fed saying “the sky is falling, the recession is imminent, and we’re panic cutting in a potentially fruitless effort to avoid economic disaster.”
Basically, I agree with Brian Moynihan, CEO of Bank of America (as well as many other sane and evidence-based economists and analysts) that the biggest risk to the economy isn’t the trade war itself. Rather it’s the media potentially scaring consumers into spending less and creating a self-fulfilling prophecy of steadily slower growth and rising economic fear that turns what is likely to be merely slower growth into negative growth and a bear market for stocks.
The Best Thing Investors Can Do Right Now
The media LOVES to fear monger because it has to fill airtime and nothing grabs attention like plausible-sounding reasons why the economy and stock market are about to go over a cliff.
The truth is that both bulls and bears can give plausible-sounding reasons for stocks to fall or rise significantly over the short-term.
“You don’t get on TV, or invited to industry conferences, or big book deals, for predicting average outcomes. Pundits get paid for sitting three standard deviations away from sane analysts. Take away that incentive and you’d find that many extremists – even respected ones – are merely opportunists.” – Morgan Housel (emphasis added)
Which is why it’s important to remember that NOTHING on Wall Street, neither in the bond market or stock market can be predicted with 100% certainty. There has never been a time when stocks haven’t been climbing their famous “wall of worry” and that will never change.
History is very clear on a few things though, such as what Joshua Brown (aka “the Reformed Broker”) wrote in 2016 during that year’s recession scare and correction: “volatility isn’t risk, it’s the source of future returns.”
The reasonable and prudent investor, who bases their investing decisions not on hyperbolic and sensationalist headlines but on their long-term plan, has little to fear from recessions, much less merely weaker economic growth like we face today.
A properly constructed bunker portfolio is the key to sleeping well at night no matter what craziness the market brings us in any given day, month, or year.
Most importantly remember that the only way anyone who follows Wall Street closely (such as myself) can stay sane and continue to make reasonable, prudent and fact-based decisions is by remember that what really matters in life is
- long-term economic/company fundamentals
SPDR S&P 500 (SPY - Get Rating) shares were trading at $292.54 per share on Monday afternoon, up $3.69 (+1.28%). Year-to-date, SPDR S&P 500 (SPY - Get Rating) has gained 18.14%, versus a % rise in the benchmark S&P 500 index during the same period.
About the Author: Adam Galas
Adam has spent years as a writer for The Motley Fool, Simply Safe Dividends, Seeking Alpha, and Dividend Sensei. His goal is to help people learn how to harness the power of dividend growth investing. Learn more about Adam’s background, along with links to his most recent articles. More...
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