“Time is like a river that will take you forward into encounters with reality that will require you to make decisions.
You can’t stop the movement down this river, and you can’t avoid the encounters.
You can only approach these encounters in the best way possible.”
– Ray Dalio, Bridgewater Associates
One of the realities we will face is recession. The good news is that we are in the eighth year of a growth phase (the last recession was in 2009) and as you’ll see in my favorite indicator charts below, there are no current signs of recession.
The Fed raised rates this week. That’s three in a row. The equity market trend is positive, the bond market trend remains bearish (warning of higher rates) and Marty Zweig’s “three steps and a stumble rule” is ringing in my head. Time like a river… can’t stop the movement… approach the best way possible…
It’s been a busy week. I spent the last two days up and down the New Jersey Turnpike and the Garden State Parkway. Three presentations, nearly 300 mostly individual investors. Most of our work is with independent investment advisors but, boy, do I enjoy meeting with individual investors. I hope they left with a sense of opportunity and game plan.
This week, let’s jump right in. Grab that coffee (or if evening, like me later tonight, a glass of fine red wine.) You’ll find the recession watch charts along with a few others I found interesting this week. Also, I link you to a recent Harvard study – a blueprint for avoiding stock market crashes. Chalk one up for the smart guys.
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Included in this week’s On My Radar:
- Charts of the Week – Recession Watch Charts (No Current Signs of Recession)
- “Harvard Academics Reveal Blueprint for Avoiding Stock Crashes” (Bloomberg)
- Trade Signals – Extreme Investor Optimism Yet Bull Equity Trend Remains in Place (posted 03-15-2017)
- Personal Note
Charts of the Week — Recession Watch Charts and More
I personally believe that recessions can be forecast in advance. While no indicator is perfect, there are a few processes that have had a high correct signal rate in the past.
The reason that getting in front of recession is important is that it is during recessions that all the bad corrections tend to happen. Bad as in -40% bad.
The other problem with recessions is that they are only known in hindsight. It takes two quarters of negative GDP growth for the chief recession czars at the National Bureau of Economic Research to tell us when the recession actually started. So we keep watch…
Following are three of my favorite leading “recession watch” indicator charts:
Chart 1: The Economy (no current sign of recession)
Here is how you read this chart:
- Believe it or not, the stock market is a great leading indicator for the economy. It tends to turn down in advance of recession.
- This process (bottom section of the chart) plots the S&P 500 Index (red line) and also a five-month smoothed moving average of the S&P 500.
- The smoothed dotted line (green in lower section) represents the trend of the market’s prices.
- When the red line (S&P 500 Index) drops below its smoothed moving average trend line (dotted green line) by 4.8% or more, a recession signal is generated.
- When the red line rises above the dotted green line by 3.6% or more, a bullish signal is triggered for the economy.
- The down arrows are the recession signals, up arrows are the expansion signals.
- The gray vertical shaded lines mark the beginning and end of all the recessions since 1948.
- In total, 79% of the signals have been correct though some have been a little early or just a little late. There were a few false signals but they didn’t keep you offsides for long. All in all, in my opinion, pretty darn good.
Chart 2: The Economy vs. the Employment Trends Index
Here is how you read the chart:
- 100% correct signals
- Down arrow – recession signal is generated when the Employment Trends Index drops by 4.8% from the most recent high watermark.
- Up arrow – expansion signal is generated when the Employment Trends Index rises from its most recent low watermark by just 0.4%.
- Data 1979 through 2/28/2017
Chart 3: Global Recession Probability Model
Here is how you read the chart:
- High global recession probability when the blue line is above the dotted red line.
- Low global recession probability when the blue line is below the dotted green line (like today).
- The box at the bottom right shows what happened. When above the dotted red line (the 70 level on the chart), recession occurred 81.46% of the time. 54% of the time (including the most recent high recession risk reading in 2016), a recession did not occur. This is a probability game, folks… but pretty good accurate history.
Conclusion: Low current risk of a U.S. recession. Low current risk of a global recession. FYI, I update these signals each week in Trade Signals. Let’s keep watch.
At the conferences this week, Mauldin shared his views on the two big bubbles he sees today. One is the bubble in government entitlement promises (Pensions, Social Security and Health Care) and the other is in global government debt. With debt in mind, I share the following charts:
The point is that when we take on too much debt, growth slows. When growth slows and recession comes, the debt bill paying pressure mounts.
Here is a look at total private sector global debt:
- The bottom section (red line) is the growth in global debt
- The yellow highlight shows that growth slows when debt rises
- Also note the record high level of debt
The next chart shows that country by country, when debt is high, growth is lowest.
Take a close look at the U.S.:
- The growth rate as measured by nominal GDP (before inflation) for the last 15 years has been just 1.9%. Well, below the 3.11% average you see in the chart when debt is high.
- I believe this is because total debt-to-GDP in the U.S. (which includes the public sector) is at 352%.
Source: Ned Davis Research
The strength in the economy will likely remain the lowest post-recession numbers since WWII.
Here is what it looks like (regular readers will recognize this chart courtesy of Crestmont Research).
- Point is: Something is not right. That something is too much debt. I believe the debt bubble will be resolved one way or another over the next 10 years.
- How? We just don’t yet know. Likely a crisis-driven print and buy