While investors are generally worried about the ongoing trade war, the federal reserve, and the coming election cycle, we have grown more concerned with a deterioration in the fundamental economic data. Here we review some highlights from our recession dashboard. In summary, we see some more room to run for this market, but we have grown increasingly cautious as the underlying economic data has shifted to the negative.
Our custom recession forecast incorporates several data points and converts them into a probability of recession in the next six months. As you can see, in the past month the risk of a recession has spiked considerably, now sitting at a 25% probability.
Another indicator we follow is the difference between actual GDP output and theoretical output. Typically, the GDP output gap closes toward the end of an economic cycle, making it an early indicator. As you can see, the gap closed about 12 months ago. An economy that is operating below it's theoretical potential tends to have more room to run, while an economy in which the gap is closed tends to be operating at or above full capacity.
It makes economic sense that businesses have a harder time paying their bills during an economic downturn. Another early warning for recessionary environments is the change in delinquency rates on commercial loans. Typically, an uptick in this indicator has been a harbinger for recessions. Though difficult to see, this indicator has turned positive, indicating more businesses are having trouble paying their loans.
Also worth noting is the Purchasing Manufacturer's Index, or PMI. While noisy, numbers at or below 50 indicate manufacturing contraction, while numbers above 50 indicate expansion. Over the past several years, we have enjoyed numbers that hovered around 60, which is almost as good as it ever gets. Over the past 12 months, we have seen a significant slowing of manufacturing activity and this has been borne out in PMI. The figures are still over 50, which means growth, but this is adding to the "slow growth" story told by our other data.
Finally, the most widely-followed recessionary indicator, the US Treasury yield curve. We look at the difference between the 10-year US treasury yield and the 3-month US treasury yield. Typically, leading into a recession, the short-term rate is higher than the long-term rate, pushing this chart negative. Within the last six months, the yield curve has inverted, signaling a warning sign.
In summary, we think this market still has some legs to run. There are numerous headline events which may serve to shift the data and push markets higher. That said, we are growing increasingly cautious as the data has moved toward the negative.
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The information herein contains forward looking statements and projections representing the current assumptions and beliefs based on information available to Bright Wealth Management, LLC at time of publishing. This information included is believed to be reasonable, reliable and accurate, (however no representation is made with respect to the accuracy and completeness of such data) and is the most recent information available (unless otherwise noted). However, all the information herein, and such beliefs, statements and assumptions are subject to change without notice. All statements made involve risk, uncertainties and are assumptions. Investors may not put undue reliance on any of these statements. There is no guarantee that the market will move in any direction, as there is no way to predict with certainty future market behavior. Due to rapidly changing market conditions and the complexity of investment decisions, supplemental information and other sources may be required to make an informed investment decision based on individual objectives and suitability.