Economic Outlook
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2-yr T 2.43%
10-yr T 2.42% |
The yield curve is inverted once again, so does that really mean a recession is rapidly approaching?
(05 Apr 2022) The "normal" yield curve makes sense: an investor expects to receive better compensation for longer maturity instruments, as uncertainty understandably increases with time. So, a 5-year Treasury should pay more than a 2-year, a 10-year Treasury should pay more than a 5-year, and so on. This is known as the risk premium: investors expect to be rewarded for taking more risk by going further out on the time horizon. The yield curve inverts when something unusual happens: shorter-maturity instruments begin offering a better yield than their longer-term counterparts, with the difference being known as the spread. The most common comparison economists look at for an indication of economic health is the 2-10 year spread, and it just so happens that the spread in question has inverted. Why would fixed-income investors be willing to accept a 2.42% rate on a 10-year Treasury right now as opposed to a 2.43% rate on a 2-year? Because they believe that economic conditions will worsen to the point at which the Fed must begin easing in the not-too-distant future. If events unfold in this manner, the value of that 10-year, 2.42% note will rise in value quicker (or at least hold up better) than its shorter-term counterpart. It may seem crazy to be talking about easing when we are just one, 25-basis-point hike into a tightening cycle expected to last a year or so, but that is where we are. As for the time frame, the last five recessions (not counting the one induced by COVID in early 2020) came between 10 and 34 months after the yield curve inverted. This has many economists looking out to mid- to late-2023 for the next one. Others are splashing cold water on this indicator, pointing out that foreign demand for US Treasuries has been elevated and sustained. Per the laws of supply and demand, the issuer—the US government in this case—is able to offer lower rates and still attract buyers. Another factor is duration of the inverted curve. While it has fluttered between negative and positive, there has yet to be a persistent inversion. Throwing yet a third variable into the mix, the S&P 500 has historically been strong in the period between inversion of the yield curve and the beginning of a recession. In other words, don't panic just yet. Not counting 2020's mini recession induced by the pandemic, the US has endured twelve recessions since the end of World War II, with the last occurring between 2007 and 2009. It is too simple to say we are "due" a recession, as so many variables conspire to cause the event. |
No lemming here: Morgan Stanley says expect a v-shaped recovery
(15 Jun 2020) The business media sounded like an echo chamber: nearly all voices were telling us not to expect a v-shaped economic recovery. Even during the depths of March's market plunge, we did expect a quicker recovery than most were predicting, based on promising therapy and vaccine news, and the American Spirit which still resides in most of us (despite what the press chooses to report on). At least one major investment house also had a rosy outlook: Morgan Stanley's top economist, Chetan Ahya, sees a distinct v-shaped recession based on the temporary (as opposed to systemic) challenges that yanked away our nice growth trajectory. Another aspect of Morgan Stanley's thesis we agree with is the idea that not all industries will see a sharp comeback in the second half of the year; specifically, office REITs are going to have to adjust to a new world where fewer come back to the office setting. For an industry that banked on ultra-low occupancy rates and clockwork-like rate increases, this should be interesting to watch—from the sidelines. We are moving into other areas of the REIT market. At this point, we would even take retail REITs over their corporate office space cousins. As for the overall recover, Morgan Stanley sees us back to pre-virus productivity levels by the fourth quarter of this year and the first quarter of 2021.
(15 Jun 2020) The business media sounded like an echo chamber: nearly all voices were telling us not to expect a v-shaped economic recovery. Even during the depths of March's market plunge, we did expect a quicker recovery than most were predicting, based on promising therapy and vaccine news, and the American Spirit which still resides in most of us (despite what the press chooses to report on). At least one major investment house also had a rosy outlook: Morgan Stanley's top economist, Chetan Ahya, sees a distinct v-shaped recession based on the temporary (as opposed to systemic) challenges that yanked away our nice growth trajectory. Another aspect of Morgan Stanley's thesis we agree with is the idea that not all industries will see a sharp comeback in the second half of the year; specifically, office REITs are going to have to adjust to a new world where fewer come back to the office setting. For an industry that banked on ultra-low occupancy rates and clockwork-like rate increases, this should be interesting to watch—from the sidelines. We are moving into other areas of the REIT market. At this point, we would even take retail REITs over their corporate office space cousins. As for the overall recover, Morgan Stanley sees us back to pre-virus productivity levels by the fourth quarter of this year and the first quarter of 2021.
No surprise: Here come the horrendous economic reports
(30 Apr 2020) How can we possibly be having a strong month in the markets when disastrous economic reports keep flowing in? The answer: the nightmare was already baked into the cake. First, US GDP: the economy contracted by 4.8% in Q1. I read headlines like "worse than feared" when the report came out, but that's disingenuous. Actually, nobody knew what the numbers would look like thanks to this new beast which we have not faced before. We saw economist predictions ranging from 0% growth to a 15% contraction. That would explain why the Dow actually rose 532 points on Wednesday. Then we have the 3.8 million new jobless claims figure to contend with. Once again, we knew it would be brutal—consider all the closed businesses! There have now been 30 million submitted claims—nearly one in ten Americans—for unemployment insurance since mid-March. A full 12.4% of US workers covered by unemployment benefits are now receiving them. Staggering. On the European side, similar reports began flowing in. The EU's GDP contracted by 3.8% in the first quarter, and France—with its 5.8% contraction—officially entered recession. Europe's largest economy, Germany, is bracing for its worst recession since the end of World War II. The biggest catalyst for April's market gains was hope. We are beginning to finally see positive signs on the testing, treatment, and vaccine fronts. We fully expect that momentum to pick up as we enter late spring and early summer. If that is the case, we could continue our march back to Dow 29,000.
(30 Apr 2020) How can we possibly be having a strong month in the markets when disastrous economic reports keep flowing in? The answer: the nightmare was already baked into the cake. First, US GDP: the economy contracted by 4.8% in Q1. I read headlines like "worse than feared" when the report came out, but that's disingenuous. Actually, nobody knew what the numbers would look like thanks to this new beast which we have not faced before. We saw economist predictions ranging from 0% growth to a 15% contraction. That would explain why the Dow actually rose 532 points on Wednesday. Then we have the 3.8 million new jobless claims figure to contend with. Once again, we knew it would be brutal—consider all the closed businesses! There have now been 30 million submitted claims—nearly one in ten Americans—for unemployment insurance since mid-March. A full 12.4% of US workers covered by unemployment benefits are now receiving them. Staggering. On the European side, similar reports began flowing in. The EU's GDP contracted by 3.8% in the first quarter, and France—with its 5.8% contraction—officially entered recession. Europe's largest economy, Germany, is bracing for its worst recession since the end of World War II. The biggest catalyst for April's market gains was hope. We are beginning to finally see positive signs on the testing, treatment, and vaccine fronts. We fully expect that momentum to pick up as we enter late spring and early summer. If that is the case, we could continue our march back to Dow 29,000.
IMF: Global GDP will shrink 3% this year, grow 5.8% next year
(16 Apr 2020) After several years of growth in the mid-3% range, the International Monetary Fund predicts the recession brought on by the pandemic—"the worst since the Great Depression"—will cause global growth to contract by 3% this year. In January, before the world knew of what was going on in Wuhan, the IMF's forecast called for a 3.3% global expansion. There is some good news buried in the latest report, however: the DC-based international organization anticipates a 5.8% rate of growth in 2021 as economies come roaring back to life.
(16 Apr 2020) After several years of growth in the mid-3% range, the International Monetary Fund predicts the recession brought on by the pandemic—"the worst since the Great Depression"—will cause global growth to contract by 3% this year. In January, before the world knew of what was going on in Wuhan, the IMF's forecast called for a 3.3% global expansion. There is some good news buried in the latest report, however: the DC-based international organization anticipates a 5.8% rate of growth in 2021 as economies come roaring back to life.
Question & Answer, from Penn...After Hours delivered 27 Aug 2019:
The "R" word...
Let's face it, no matter whether we are talking about the trade war, the global slowdown, negative interest rates, or geopolitical turmoil, from an investment standpoint everything boils down to the fear of a new recession. While it used to be an old saw that about one out of every four years tend to be negative ones for the markets, recessions don't occur as often as many assume. When were the last three recessions, and how long did each last?
Answer
While not as memorable as the subsequent two, recession hit the US economy not long after the first Gulf War. It began in July of 1990 and troughed in March of 1991 (8 months).
The great Tech Bubble Burst began when crazy valuations hit their peak in March of 2001, with the recession officially lasting until November of that same year (8 months).
The most recent recession, the Great Recession, was caused by the financial crisis. It began in December of 2007 and didn't trough until June of 2009 (18 months).
Our prediction for when the next "R" word will hit? We wouldn't be surprised to see it coming our way in early 2020, a full twelve years after the last one began. If it is any consolation, we see it taking the form of the most mild of the last three recessions, the 1990/1991 iteration.
The "R" word...
Let's face it, no matter whether we are talking about the trade war, the global slowdown, negative interest rates, or geopolitical turmoil, from an investment standpoint everything boils down to the fear of a new recession. While it used to be an old saw that about one out of every four years tend to be negative ones for the markets, recessions don't occur as often as many assume. When were the last three recessions, and how long did each last?
Answer
While not as memorable as the subsequent two, recession hit the US economy not long after the first Gulf War. It began in July of 1990 and troughed in March of 1991 (8 months).
The great Tech Bubble Burst began when crazy valuations hit their peak in March of 2001, with the recession officially lasting until November of that same year (8 months).
The most recent recession, the Great Recession, was caused by the financial crisis. It began in December of 2007 and didn't trough until June of 2009 (18 months).
Our prediction for when the next "R" word will hit? We wouldn't be surprised to see it coming our way in early 2020, a full twelve years after the last one began. If it is any consolation, we see it taking the form of the most mild of the last three recessions, the 1990/1991 iteration.
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2020 Outlook & Strategy
(05 Jan 2020) Our outlook for 2020, to include specific areas to invest in, and areas to avoid. With rates so low, investors will need to look elsewhere to mitigate risk. And don't get lulled into a false sens of security: follow your prescribed allocation! (See article in The Penn Wealth Report by clicking button to right) |
Home Depot and Kohl's gave investors reason to worry; Lowe's and Target eased their mind. (20 Nov 2019) We weren't so surprised by the lousy Kohl's (KSS) earnings report, as we have no faith in the company's ability to execute. The unimpressive Home Depot (HD) report, however, gave us cause for concern, as it is one of the most well-run companies in the industry, and often a bellwether for the US economy. A short twenty-four hours later, and two new reports are easing our concerns. Home Depot's doppelganger, Lowe's (LOW $85-$113-$118), reported a beat in Q3, with comparable-store sales rising 3% and adjusted earnings per share coming in at $1.35—a 36% increase from last year. Guidance was also strong: the company expects to bring in $72.74 billion in revenue for the year, up about 2% from last year. The other retailer helping to ease Wall Street concerns was Penn Global Leaders Club member Target (TGT $60-$121-$115). Shares of the $62 billion multiline retailer were up nearly 10%—blowing through their 52-week high—after that company trounced analysts' expectations. Same-store sales were up an impressive 4.5% from the same period last year, and full-year adjusted EPS are expected to be within the range of $6.25 to $6.45. In other words, the ugly retail reports rolling in seem to be company-centric and not a sign of a weakening economy. Be prepared, however: there are six fewer shopping days than normal this year between Thanksgiving and Christmas, which may skew results and make for some troubling headlines. We are now turning our attention to the 15 Dec tariffs set to take affect unless some semblance of a Phase I trade deal comes together. Unfortunately, the atmosphere between the two sides seems to be getting toxic yet again.
An inverted yield curve drives Dow down 400 points at open. On Wednesday morning, the yield on a 2-year Treasury hit 1.634%. In and of itself, that shouldn't have been a big deal. The problem came when, at the precise same time, the yield on a 10-year Treasury hit 1.623%, lower than the two-year. Thus comes the infamous yield curve inversion—when longer-term Treasuries offer less than their shorter-term counterparts. The two- and the ten-year Treasuries are considered benchmarks, and when these two benchmark rates invert, a recession normally hits about 22 months later. Yes, this is anecdotal, but it was enough to spook investors into a big, early morning selloff. While the last five inversions have preceded recessions, that doesn't necessarily spell doom-and-gloom for the markets, however. On average, one year after an inversion the S&P 500 is up 12% from the date of the event. So why does a yield curve ever invert in the first place? It has to do with supply and demand. If bond buyers believe economic trouble is on the horizon, they see continued monetary easing to accommodate weaker economic activity, meaning lower yields for a long period of time. This makes them shy away from longer bonds and load up on shorter-term notes. We see a lot of lingering challenges for the economic environment going forward, both at home and abroad. While the GDP has remained relatively strong at home, and unemployment remains low, there is a point at which the global slowdown hits home. Our Tactical Asset Allocation models for Summer, 2019 reflect those concerns. Clients and members can login to see the models, which are adjusted as needed updated quarterly.