There’s a lot happening in markets so let’s jump right in! (Friendly reminder that some articles may be behind paywalls.)
We start this week with an article from The Economist entitled “The onset of a downturn is as much a matter of mood as of money.” The article is the best I’ve read this year on the relationship between the economy, confidence and markets.
Below is an anecdotal example of the fragile nature of economic confidence.
A friend from college (Go Gators!) visited over the weekend on his way to Atlanta, where he’s moving for a few years to finish a PhD. He’s a very intelligent person but has never expressed any interest in economics or financial markets. I asked if he was going to buy a house in Atlanta and was taken aback when he said “Aren’t we going into a recession soon? Wouldn’t that be a bad idea right now?”
Whether or not the economy is actually in a recession or soon to be in one is irrelevant to his home purchase decision. It’s his buy-in to the narrative that we may be in a recession or entering one soon that matters. If enough people think like him and make decisions based on those fears or perceptions, it may actually create a downturn. Perception of reality, especially in economics, often matters more than reality itself -- and can create a new reality. In his heyday, George Soros called this feedback mechanism “Reflexivity.”
Check out the Google Trends results for the word “recession” in the last twelve months.
What a spike in interest since the beginning of August! Keep in mind that the stock market declined ~20% in the last quarter of 2018 but even that didn’t significantly increase the “recession watch” narrative which now seems to have fully permeated the zeitgeist.
That’s the “narrative” portion of the equation. But narratives can change. What is the economic data saying?
The website Advisor Perspectives puts out a great chart of the Conference Board Leading Economic Indicators (LEI) Index, which is the “granddaddy” of all macroeconomic indicators.
The LEI Index actually picked up in July and set a new high (bottom right corner box) after two consecutive months of contraction. As you can see, we’ve NEVER had a recession (shaded gray bars) without seeing the LEI Index peak and then roll over into contraction for a sustained period of time. That the LEI Index is still in expansion mode should be a source of optimism.
The much-discussed recent yield curve inversion is a bad sign for the economy, but it’s just one of ten total leading indicators. While we are big believers in the yield curve’s predictive power, it has exhibited a few “head fakes” in history while the LEI Index has not.
Along with the yield curve, the other big detractor from the LEI Index was manufacturing. We included this chart from a recent KKR thought piece in a previous Beach Reading, but didn’t discuss its significance.
The stark contrast between the “domestic economy,” which is more service-oriented, and the “trade-linked economy,” which is more manufacturing-oriented, probably accounts for a lot of the mixed economic data we’re now seeing. It’s possible that global manufacturing is or will be in recession in the near future, but that doesn’t necessarily mean the U.S. as a whole will succumb to recession any time soon.