Recession Watch (or Distant Early Warning?)

Key Points

  • There’s more than one yield curve; and the Fed believes the one with the best “tell” for the economy shows elevated recession risk.

  • Leading indicators’ trends paint a worse picture than their levels.

  • Most “soft” measures of economic data have been deteriorating since the trade war began; but recently some of the “hard” data has succumbed to trade/tariff uncertainty.

The National Weather Service offices issue storm Watches, Advisories, and Warnings. Normally, a storm Watch is issued well in advance of the storm; indicating the risk of a hazardous event has increased (at least a 50% chance of it occurring). As the event becomes imminent, a Watch will normally be upgraded to either an Advisory or a Warning (indicating an 80% or greater probability of occurrence). An Advisory indicates conditions pose a significant inconvenience; while a Warning indicates that conditions pose a severe threat.

It’s been nearly a dozen years—September 2007—since I wrote my last “Recession Watch” report. In hindsight, although it was good to have given our investors a heads-up, Warning would have been the better descriptor given that the recession began three months later. Given the recent attention to the topic, and myriad questions I’ve been getting from investors, it’s time for a closer look (perhaps I should source Seth Meyers on that).

We have been on record for more than one year now with our collective view that the trade war represents the most important factor in defining the length of runway between now and the next recession. The impact of trade has been felt most significantly on “soft” (survey/confidence-based) economic data, especially among businesses; with the most notable hit to manufacturing broadly, and capital spending specifically. More recently, key “hard” data has been weakening as well. Even with that weakness though, current economic conditions do not suggest we are in a recession. The rub however is that if we are sliding into one, it’s possible it will ultimately be dated as having already started. When the arbiter of recessions (more on that below) decides the economy is in a recession, it typically dates its start around the peak in the cycle.