To Recession or not to Recession

Looks Like We Could Have Already Had That Recession - But Not Many People Noticed

Some call it "The Great Disconnect."

On one hand, stocks have rallied strongly this year – especially in areas like tech.

On the other hand, the investors and retiree's we talk with these days are big-time worried about the state of the American economy – and the very real potential for a recession. Given those fears, most people can’t understand why the bottom hasn’t fallen out of stock prices.

On its face, that seems like a big “disconnect” between the economy and the stock market.

So, what gives?

A little-known Bloomberg indicator called the Economic Regime Index may hold the answer.

According to Bloomberg’s model, that U.S. recession may already have happened – in the middle of last year.

And the painful sting of that recession appears to have come and gone – months ago.

Bloomberg’s Economic Regime Index, shown above, takes key economic factors like jobless claims, manufacturing activity, and sentiment and crunches those numbers on a monthly basis.

And it tells us that an economic slump started last June and likely ended in December.

Kind of a “blink-and-you-missed-it recession.”

That makes sense: In the eight recessions we’ve seen since 1970 – and after this indicator has bottomed – the S&P 500 Index has gained 20%.

And that indicator has been right seven times out of eight – with its sole miss coming in 2001.

Wall Street isn’t sold, however. Even though this indicator is telling us that the economy’s weakness is behind us, those institutional “experts” are still calling for a recession. Heck, even the Federal Reserve’s own staff advisors are projecting a mild recession later this year.

There’s an odd and self-destructive bit of irony at play here – given how the Fed’s aggressive rate hikes are to blame for a possible economic slump.

So, are we talking about the ghost of a recession past? Or the specter of a recession future?

There’s one fairly easy way to determine who’s right here.

Just watch how the S&P 500 sectors perform, and let that be your real-time guide.

It’s well-known that each of the S&P’s 11 different sectors behave in specific ways – depending on where we are in the economic cycle. Fidelity Investments illustrated this for folks in this easy-to-understand infographic.

Call it a sector behavior chart.

Each sector is listed in the left column. The middle column shows you how the sectors typically perform during a recession. And the right column shows you how they usually perform during the early phase of a new economic recovery.

The sectors with a double plus sign (++) consistently outperform. Those with a single plus sign (+) also outperform, albeit to a lesser degree.

Meanwhile, sectors with a double minus sign (--) consistently underperform. And those with a single minus sign (-) underperform to a lesser degree.

For example, during a recession, defensive sectors including Consumer Staples, Health Care, and Utilities consistently outperform. Consumer Discretionary may also outperform to a lesser degree.

In the early phase of a recovery, it’s the cyclical sectors – including Real Estate, Consumer Discretionary, and Industrials – that typically outperform to the greatest degree. Financials, Technology, and Materials also outperform to a lesser degree.

Below is a snap shot of the Sector Dashboard on the S&P Global website. You can see each sector’s performance – on month-to-date, three-month, and 12-month bases. The three-month time frame is probably the most useful.

We monitor the performance of these sectors on a regular basis – say, once a month – and we can see, at a glance, which ones are leaders and which ones are laggards.

Right now, you can see that Technology, Communication Services, and Consumer Discretionary are the Top Three sectors over three months.

Two of the three (Consumer Discretionary and Technology) typically do outperform in the early recovery phase.

Meanwhile, two of the worst-performing sectors right now are Utilities and Health Care – each of them down over the past three months. But these two sectors typically outperform heading into recession.

We do understand that it looks like a bit of a mixed picture, but it suggests to our teams that the Bloomberg Economic Regime Index may be correct in telling us that the worst of any economic slump is behind us.

Even better: We may already be in the early innings of an economic rebound.

More good news like this is why we are cautiously optimistic right now and will continue to scale in to equities on pull backs.

There's a lot of bearishness out there and the sentiment is pretty desperate.

This data could be wrong, but Mr. Market needs to prove it wrong. Right now the market is wanting to go up and is back in an uptrend and we don't want to fight the trend.

The market can slowly climb a wall of worry and that seems to be happening right now.

We are putting in the work to get ready for a positive 2023. So stay positive!

Until next time,

Your Prestige Wealth Management Team