Recession expected despite rallying optimism

Despite investors showing economic resilience and optimism amid rising interest rates, it is not enough to ward off expectations of a future recession, according to Principal Asset Management.

Chief Global Strategist, Seema Shah, said the full impact of policy rate hikes are only now starting to hit and are expected to result in a massive blow to the real economy in future quarters.

“The continued resilience of consumers and labor markets suggest that a U.S. recession is not imminent,” she said.

“However, many risks still lie ahead. Several leading economic indicators have been contracting since 2022, and few are yet to demonstrate any convincing recovery.”

These markers include an economic indicator from the global non-profit, the Conference Board, which has been contracting for 11 months. Shah said a fall for six or more consecutive months has historically signalled a recession.

The ISM Manufacturing survey, released monthly, has been contracting since November 2022 and has shown a downward trend from June 2022, most recently sitting at 46 per cent. The New York Federal Reserve’s recession forecast (based on the now deeply inverted 3-month versus 10-year US Treasury yield curve) has enjoyed heights of above 65 per cent since April. Shah said if recession were not to occur with its probability this high, it would be an historical first.

Shah also said these indicators are the foundations for “a short and shallow recession beginning in 4Q 2023”.

“Leading indicators almost uniformly signal weaker economic growth, with the full effects of significant and aggressive Fed tightening to-date yet to be fully recognised.

“The Fed’s hiking cycle isn’t done just yet either. Core inflation remains well above target, and the U.S. labor market continues to exhibit strength, requiring further Fed tightening and all but eliminating the likelihood of rate cuts this year.”