David Rosenberg, the chief economist and strategist at Gluskin Sheff, said that a recession is imminent in the next year despite the strength of the U.S. stock market and the Federal Reserve’s recent interest rate cut.
“There’s a recession coming in the next 12 months. The only reason that he said that he’s optimistic on the outlook is because of exactly what the Fed is doing which is breathing stimulus back into the economy,” noted Rosenberg, referring to Federal Reserve Chairman Jerome Powell.
The strategist emphasized that the economy is already slowing down and that the Fed will be forced to cut its benchmark interest rate again before the year’s end.
“I think that they’ll go in October and December and through 2020. The economy is already slowing down. Earnings are actually contracting,” he added.
Despite the warning, one key indicator demonstrates that a recession and a large stock market correction in the short term are unlikely and predictions for it may be premature.
Yield curve has always been an accurate predictor of recession and stock market correction
When the yield curve of U.S. government bonds initially inverted in August, many strategists predicted a recession to follow as historically, the inversion of the yield curve has been an accurate predictor of a recession.
Every recession in the U.S. over the past five decades occurred after the yield curve inverted and as such, since August, strategist began to call for a recession in the next 12 months.
At the time, Principal Global Investors strategist Seema Shah said that if the Federal Reserve does not respond with timely rate cuts, it could lead the U.S. stock market to plunge.
“We’re getting to a point where sentiment is so precariously balanced that you need a circuit breaker. If the Fed does not indicate further easing to come, then markets are going to think the Fed is no longer there to support them and it will contribute to a downward spiral.”
However, according to Oxford Economics lead economist Adam Slater, the inversion of the bond yield alone is not enough to predict recession.
Six factors that include industrial output, stock prices, bank credit standards and corporate earnings must flash red after the yield inversion to call for a recession in the near term.
In the past several months, only the bond yield has flashed red as an indicator for a potential recession while other six indicators remain neutral.
The labor market has performed strongly throughout 2019, consistently expanding amid uncertainty in U.S.-China trade talks. Other major industries like tech and finance have sustained robust numbers and the only key sector that has struggled is manufacturing, which showed signs of recovery in August.
As such, Slater said that the probability of a recession happening, placing the U.S. stock market in jeopardy, is merely 30%.
The progress in the trade talks between the U.S. and China is noticeably increasing while the benchmark interest rate of the U.S. remains at historical lows, creating an ideal environment for businesses to obtain cheap loans and expand more aggressively.
Although the appetite for safe haven assets like gold and bonds increased following the attacks on the oil production facilities of Saudi Arabia, slowing down the inflow of capital into the stock market, investors have started to re-enter the stock market, maintaining its momentum.
On September 23, Dow futures indicate that the U.S. stock market is set to open lower amid declines in Asia and Europe, showing that investors still remain weary about the short term performance as recession fears grow.