Overblown Recession Fears As Stocks Continue To Recover

Stocks Reverse Recession Worries

The only economic report that came out on Monday was quarterly e-commerce retail sales. It showed similar results to the July retail sales report. The category is on fire as quarterly growth improved from 3.6% to 4.2% in Q2. Yearly growth was 13.3%; e-commerce grew 0.2% to 10.7% of total retail sales. Since July is in Q3, the retail sales report had more updated data which affected markets. This wasn’t a market moving report.  

Even with no market moving reports being released, the stock market rallied significantly as the S&P 500 increased 1.21%, the Nasdaq increased 1.35%, and the Russell 2000 increased 1.02%. Earnings season is basically over, so that wasn’t a big catalyst for stocks on Monday. The rallies on Friday and Monday occurred because the correction was a mistake. Recession fears were overblown.

The only trade related news on Monday was mildly positive, if you consider kicking the can down the road to be a good thing. Specifically, the Commerce Department allowed firms to do business with Huawei for another 90 days before it starts only granting licenses to do business with the firm on a case by case basis. This situation started in May when Huawei was added to the Commerce Department’s entity list. On the negative side, the Commerce Department added 46 of Huawei’s subsidies to the entity list that will start receiving full sanctions on November 19th. I don’t think granting firms a 90 day lifeline had much to do with stocks rallying on Monday.

Specifics Of Monday’s Action

The VIX fell 1.59 to 16.88. It’s no surprise the VIX is back to a relatively normal level since the S&P 500 is only down 3.38% from its record high. The fear on Wall Street never matched the decline in stocks, but now it looks ridiculous as the market is very close to its record and is up 16.63% year to date. Even so, the CNN fear and greed index is still at 26 which is fear. It increased 6 points on Monday. None of the categories changed labels though.

Monday was yet another example of every sector moving in the same direction. It has happened a lot recently. Every sector went up; the 2 best performers were tech and energy which increased 1.56% and 2.14%.

The chart below compares the FANG group’s performance with the U.S. building materials industry’s performance. As you can see, FANG is down 14.09% and building materials stocks are down 3.91%. This is simply an example of comparing the sexiest stocks with the most boring ones. Personally, I love investing in boring companies (not Elon Musk’s The Boring Company) because they tend to be cheaper and invite fewer competitors. The FANG stocks were over owned. They have underperformed even though at least a couple have great businesses. If you buy a great business at too high of a price, you can underperform in the intermediate term. Valuation matters.

As you can see from the chart below, the dollar has increased to its highest level since last December. One ancillary positive from the rate cuts is limiting the dollar’s rally. However, the Fed can’t go chasing international central banks to negatives rates when America isn’t even in a recession yet. America shouldn’t have as low rates as Japan and Europe because America can grow faster due to its healthier demographics.

Treasuries & Fed Estimates

The 2 year yield is down to 1.52% and the 10 year yield is at 1.59%. The difference between the 2 yields is now 7 basis points. There was a quick steepening of a few basis points after the inversion. Regardless of whether the inversion ‘counts’, we still need to see a sharp steepening of about 1% to signal a recession. A few basis points don’t amount to much. Even though it’s clear the long bond is highly overbought, it’s a bold claim to state the 10 year yield can suddenly increase 1%. Maybe it would only need to increase 75 basis points if the short end of the curve fell because of rate cuts.

Recently, the odds of a 50 basis point cut in September have fallen. There is just a 5% chance of a double cut, but there’s still a 100% chance of a cut. The market is already quite sure there will be another cut in October as there is a 79.1% chance of a cut assuming the Fed cuts once in September. I’m very interested to hear Powell’s speech this Friday because Powell has called the July cut a mid-cycle adjustment. It’s impossible to call 3 cuts an adjustment. It will take creativity for Powell to explain why so many cuts are necessary. The most likely blame will be the tariffs and the weak industrial production report.

To me, this game of chicken has always been temporary. That’s the definition of a game of chicken. Trump and China can’t keep slowly weakening their economies. The Fed can’t keep cutting rates to make up for contractionary trade policy. The big transition should come in the next few months as the election is coming up soon. The weaker the Chinese economic data and the lower Trump polls, the more likely a trade deal will be made. In the latest Fox News poll, Joe Biden beats Trump by 12% in a head to head general election matchup. Biden averages beating him by 8.6%.


It’s clear the economy isn’t headed for a recession soon. The CNBC median Q3 GDP growth estimate is 2%. Stocks are rebounding because the fear related to the yield curve inversion was overdone. The next big event is the trade deal or at least a cessation of the tariffs. The Fed can’t keep up with cutting rates to save the economy from tariffs as the Fed funds rate is already near zero with no sign of a recession. The very strong dollar complicates matters. The Fed needs to follow its duel mandate rather than looking at currency valuations.

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1 Comment

  • Kevin Morgan

    August 21, 2019

    The only issue I have with your analysis is "Trump and China can't keep weakening their economies". If we presume there is rationality, strategy and thoughtful tactics on the part of the US administration, yes of course. However, to presume such is an obvious error, given the track record of this administration to date. Policies and practices to date tell us the worst should be expected because the worstis what is they've been delivering. I see no reason why we would expect this to change. So yes, Trump CAN keep weakening the economy, just as a 6 year old toddler CAN keep screaming because no one will give him his toy truck.