CFOs Fear A 2020 Recession

CFOs Fear - Are Rate Cuts A Problem?

CFOs Fear a 2020 Recession. The Fed is probably going to cut rates by September which means investors will be quick to fear the worst, which is that this cycle is over. That’s not necessarily the case as the Fed cut rates in 1995, elongating the 1990s expansion. If the Fed cuts rates preemptively, then the expansion can be extended. 

If the Fed is behind the curve, then rate cuts mean a recession. Just because in recent memory rate cuts have come right before recessions, doesn’t mean that’s going to happen again.

If the Fed either hikes rates or does nothing this year, there is a solid chance of a recession in the next year. The stock market would plummet if the Fed guided for no cuts this year next Wednesday. That might prompt the Fed to cut rates. However, the Fed doesn’t need the stock market to fall to cut rates. Fed cut rates the same day as new record highs in July 1995, August 1991, July 1990, and July 1989.

As you can see from the chart below, the 12 month returns after the Fed’s first rate cut of the cycle were all positive from 1984 to 1998. Only the last 2 were negative. Recency bias explains why rate cuts are thought of so negatively by some. The overall market hasn’t suffered from this bias and might be too excited by cuts since there is still a trade war and an economic slowdown. 

Takeaway here is that you can’t assume stocks will fall after a cut. Keep in mind, the last 2 cycles were bad for stocks because in the 1990s stocks were more expensive than ever before and in the 2000s there was a bubble in the consumer’s largest asset (housing). Stocks aren’t extremely expensive now and there isn’t a housing bubble.

CFOs Fear - Elephant in the room is the trade war 

If the trade war ends in the next few months and the Fed cuts rates in September, there might be a large burst in economic activity in the second half of 2019 and the first half of 2020. That could lead to the Fed trying to resume its hike cycle in the 2nd half of 2020 or 2021. The trade war wrinkle adds to the possibilities. 

Personally, I see China and America making a trade deal by the end of this year. If the economy falters, Trump will be pressured to make a deal. The one problem with rate cuts is they actually encourage Trump to continue with tariffs since they help the stock market. That turns the Fed’s dovishness into a wash.  

Recession Deemed Likely

CFOs Fear - You might be wondering why I even bothered discussing the recession worries since the stock market is close to its record high. I did that because CFOs are really scared of a recession occurring in the next 18 months.

As you can see from the chart below, almost 50% of CFOs see a recession in the next year and almost 70% see a recession occurring in the next 18 months. This is a big difference from last year. Last May, Fortune 500 CEOs were positive on the economy. 48% of CEOs stated the economy would be stronger in the next 12 months than it was in the previous 12 months. 

They were correct initially and then wrong in the end. Specifically, Q2 and Q3 2018 were solid, but Q1 and Q2 2019 probably weren’t. Q1 had great headline growth, but weak final sales growth. The median estimate for Q2 GDP growth is still 1.7%. The Atlanta Fed’s estimate is 1.4%. I’d say there’s over a 50% chance GDP growth is below 2%.  

American CFOs seem too bearish on the long term 

CFOs Fear - If there is going to be a mini recession, it will happen in Q2 and Q3 of this year. If we get passed that and there are tailwinds from rate cuts and a trade deal, I don’t see a recession occurring next year. CFOs have recency bias just like CEOs did last year. The economy is weak now.

The economy in the next 6 months has binary outcomes in that a trade deal can improve growth and an escalated trade war can make it worse. My current thinking is there is a 50% chance of a recession in the next 6 months if the trade war gets worse. 

If a trade deal is made, there’s about a 10% chance of a recession. As you can see, the CFOs in other countries are mostly more bearish than their American counterparts. The global economy is much more likely to be in a recession this year than the American economy. Therefore, I agree with their negativity.

Jobless Claims Increase Slightly

CFOs Fear - In the week of June 8th, jobless claims increased from 219,000 to 222,000. I’m interested in the June BLS report because claims were low last month, yet the May report missed estimates. Personally, I’m expecting a positive revision to the May report since the very bearish Markit PMI expected 150,000 jobs created and only half that came out. However, the ADP report was also weak, so it’s far from certain how May’s report will be revised.

As you can see from the chart below, the 4 week average of jobless claims increased from 215,250 to 217,750. Claims are still very low. Continuing claims increased; the 4 week average of continuing claims was up slightly to 1.682 million. I don’t have a prediction for June’s BLS report because we don’t have enough data yet.    

CFOs Fear - Conclusion

CFOs fear a recession. If the economy avoids a recession in Q2 and Q3 2019 even with a trade war with China, it’s tough to see a recession occurring in 2020. The G20 meeting will tell us if the next round of tariffs will be implemented this summer or if a deal is in the works. 

There won’t be a finalized deal for at least a few months. But President Trump can easily suspend tariffs while negotiations are happening. The jobless claims report continues to show us the labor market is in solid shape. That’s different from May’s headline jobs reading. 

Spread the love

Comments are closed.