Economy Nearly Falls Into A Recession In October?

Economy Near Recession?

October industrial production report pushed the Arouba Diabold Scotti (ADS) business conditions index to -0.783 on October 22nd. It's very close to the recession line which is -0.80. Obviously, we need to watch the November industrial production report very closely. If it worsens, it could push the readings in November into recessionary territory. 

They aren’t there now, but the index is revised. A recent trough was near the prior 2 troughs in this expansion. This is one of the few reports signaling a potential recession and that the current slowdown is worse than the last one.

Coincident ECRI index showed 1.8% growth in September. Growth bottomed at 1% in 2016. We will get an update of this report this Friday. I’m guessing yearly growth fell to 1.6% in October. That would push it even closer to the previous trough. By the way, in the week of November 8th, the leading index increased from 145.6 to 146.2 which pushed the yearly growth rate from -0.4% to 0.4%. 

The leading index stopped predicting a major slowdown 7 months ago. Since this leads the economy by 2-3 quarters, we should be near the end of this slowdown. On the other hand, the leading index’s growth has been near the flatline in the past 7 months which means 2020 economic growth should be near the long term trend. There might not be a huge acceleration which pushes growth above the long term average like some investors expect.

To be clear, it doesn’t really matter where the ADS index falls to if the economy recovers in 2020. However, that’s a huge if. It’s possible there isn’t a trade deal and the Chinese slowdown hampers any attempt at a global turnaround. It’s also possible uncertainty about the 2020 election prevents business investment. 

Finally, the rate cuts could be too late if they start helping the economy in Q2 and Q1 is worse than Q4 2019. Now, I’m presenting both the bullish and bearish case here. I see a rebound in 2020, but not the massive one stocks are potentially pricing in.

November Empire Fed Report

November Empire Fed report is our first glimpse into how the November industrial production report will look. Keep in mind that stocks actually do better when the manufacturing ISM PMI is below 50 than above 50. At the same time, further weakness could push the economy into a recession. 

Empire Fed general business conditions index fell slightly from 4 to 2.9. This missed estimates for 5 and the low end of the estimate range which was 3. Maybe economic data is missing estimates more than it did a few weeks ago because expectations have increased. It’s interesting to see any optimism from economists since Q4 is looking weak. 

This is about as weak as the manufacturing sector’s breadth has been this cycle. Empire Fed index isn’t close to as bad as it was in 2016 as it troughed in the high negative teens. Regional Fed indexes have been more positive than the ISM PMI recently.

Current new orders index rose 2 points to 5.5. Shipments index fell 4.2 points to 8.8. On the other hand, the expectations index rose 2.3 points to 19.4. Expected new orders and shipments indexes were up 0.7 and 5.5 points to 24.2 and 24.4. Best part of this report is that the capex and technology spending indexes rose 10.4 and 6.3 points to 19.2 and 15.1. These categories certainly don’t make it look like this is a manufacturing recession.

Slight Decline In Housing Market Index

November housing market index fell from 71 to 70 which missed estimates for 71. The table below breaks down the data for this month. As you can see, the present sales and traffic indexes fell 2 and 1 point to 76 and 53. Future sales index rose 1 point to 77. It’s interesting that expectations improved given the rise in rates. 

Maybe home builders see the decline in rates in the past week. In the week of November 14th, the average 30 year fixed rate mortgage rose 6 basis points to 3.75%. I’m guessing that this rate will fall in the next update this Thursday as the 10 year yield peaked about a week ago. If not, it will fall in the following update for sure.

Redbook Sales Growth Falls Again

In the week of November 16th, Redbook same store sales growth fell from 5% to 4.1%. That’s pretty weak, but this is 2 weeks prior to the all-important start of the holiday shopping season. We could see a big decline in growth in the next report as last year Black Friday was 6 days earlier. 

Bad news is this decline in retail sales growth is concurrent with the 3 week decline in the Bloomberg consumer comfort index which was the biggest collapse since 2008. Consumers could be falling off at the exact worst time or they might be saving money right before spending spikes on Black Friday and Cyber Monday.

October Housing Starts Improve

The housing market will likely help GDP growth in Q4 again. That’s because housing starts and permits improved. As you can see in the chart below, starts improved from 1.266 million to 1.314 million in October which slightly missed estimates for 1.32 million. 

Permits data was even better as permits increased from 1.391 million to 1.461 million. It beat estimates for 1.378 million and the high end of the expected range which was 1.4 million. That was a 12 year high. 3 month average of single family starts and permits were 923,000 and 888,000 which were both 12 year highs. Multifamily starts and permits were up 8.6% and 8.2%. Finally, completions were up 10.3% to 1.256 million.  

Conclusion

Empire Fed report was mixed. The housing market index fell slightly, but housing starts and permits were very strong. Redbook weekly same store sales growth reading was weak. All that matters is growth in the last week of November. It’s still too early to tell if this will be a good holiday shopping season. 

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