We don’t like to continually talk about the equity markets, however we have been, and still are, in a precarious time. Hence, the reason for this article.
On March 9th we began the 10th year of one of the longest bull markets in history. Yet in the past couple months, we’ve seen wild swings in the markets. Is the market warning us that it’s about to fall and we should get out, or is it taking a “breather” before continuing its rise?
Likewise, we’ve been saying for some time that the U.S. would experience a recession during the next 12 – 18 months. (This is not expected to be anything like the recession of 2008 – 2009.) Is the recent heightened volatility trying to warn us? As always there are two viewpoints.
Glass Half Empty Viewpoint
John Mauldin, one of my favorite reads, believes a recession is coming sooner rather than later. He points to 4 things:
- The yield curve, which measures interest rates for maturities of various lengths, is becoming abnormally flat and could actually invert (i.e. long term rates could fall below those of short term rates). Further, as the Fed increases short term rates, the curve flattens even more if long term rates fail to follow. Such flattening has preceded almost every recession in the last 100 years.
- The growth in the money supply (M2) has slowed to just over 2% in the first quarter (vs a 6.6% long term average rate). Money supply grows with bank credit growth. It falls when banks reduce the growth rate in lending. 17 of the last 21 recessions were preceded by M2 growth falling below 2%.
- GDP growth is beginning to fall. According to a chart by the Economic Cycles Research Institute, growth rates in the 3 largest developed market economies (the US, Japan and Eurozone) were either flat or lower in each of the last two quarters.
- Our Federal debt is accelerating. The Fed and Treasury have filled the gap with assorted contrivances, such as forcing banks and money market funds to buy more Treasury bonds. These have run their course and no replacement tools are obvious. That leaves one option – higher interest rates.
Glass Half Full Viewpoint
On the other hand we have those who see the recent volatility as only a bump in the road. They would point to:
- Corporate earnings which are currently being reported for the 1st quarter are very strong. S&P 500 earnings are up 18%, 10% for non-US corporations (which they say confirms the synchronized global expansion belief), and 10% excluding the impact of the recent tax bill.
- Housing numbers, which faltered in the Fall, have been favorable in the past few months – always a good sign for the economy.
- The Tax and Spending bills are both supposed to thrust the economy forward, more than offsetting their cost. Only time will tell.
- Jobs growth continues to expand. Unemployment rates in most areas are at pre-recession levels or lower. This is expected to push wages up.
- Wages are beginning to grow. Time will tell what consumers do with the extra dollars in their pockets, but it’s hoped that they will propel the economy forward with their spending.
- Inflation is beginning to top the Fed’s long-sought 2% goal. But if this continues, the Fed may have to continue its rate increases, and that may flatten the yield curve and curtail credit expansion.
So there you have it – an unqualified, guaranteed, absolute “we don’t know”. As always, we encourage you to read widely, listening to all points of view, before formulating your investment decisions. If we can help, please feel free to call us
One important set of viewpoints will be those of our Merrill Lynch advisors. So come to the Annual Investors Briefing – Wednesday, May 16th at 10:00 and hear from them in person! For reservations, call Kay Nicholas at 804-521-1119