No Signs of Recession–Yet
The economic picture has blurred recently. A tight global labour market without precedent is forcing employers to rapidly increase wages as they struggle to attract employees. In the U.S., there are over 11 million job openings—1.7 for every unemployed person. Russia’s invasion of Ukraine has led to a collapse of its own economy and idled critical manufacturing operations in Ukraine. Combined with lingering COVID-19 effects, it’s no wonder that inflation is running close to 8% in the U.S. and north of 5% in Canada, Germany, and the UK. Even Japan is suffering inflation with food prices lifting by 3%. Many of these issues have no near-term solutions, casting doubt about inflation being transitory. Interest rates are increasing in response. Rising mortgage rates and higher prices should combine to crimp consumer spending.
Global yield curves have recalibrated with yield curves flattening everywhere. The Canadian 30-year yield is just 20 basis points above the 2-year. Fifty basis points separate the 30-year rates from 3-year rates in the UK. In the U.S., yields for the 2-year and beyond are all within 25 basis points of 2.5%.
We closely monitor the business cycle—global economic analysis is a key part of our risk management process. Our Economic Composite (TECTM), comprised of several leading economic indicators, alerts us to potential business cycle peaks, warning us that a recession may be on the horizon. Since 1965, each occurrence of a two-year rolling loss of 20% or greater for the S&P 500 Index has been preceded by a business cycle peak. TECTM last alerted us to an economic peak in early 2019, prompting us to initiate hedges against a potential market decline. In 2020, COVID-19 devastated an already weakening global economy.
Despite a murky outlook, our U.S. TECTM monitor has yet to signal the end of the current economic cycle. Thanks in part to unprecedented stimulus, the global economy recovered strongly from the depths of 2020. However, as seen in the below TECTM chart, that momentum appears to have stalled due to the numerous challenges facing the global economy.
CHART 1. U.S. TECTM SINCE JANUARY 1, 2000
TECTM BUSINESS CYCLE PEAK ALERTS OCCURED IN 2000, 2006, 2019. SOURCE: GENERATION IACP
Numerous leading economic indicators continue to signal a growing economy. Unemployment is low. Capacity utilization has bounced back and is closing in on its 2018 peak rate. The Institute for Supply Management’s Purchasing Managers’ Index and Non-Manufacturing Index are comfortably above 50. As expected with higher inflation and mortgage rates, consumer confidence has been shaky but U.S. consumer remains in excellent shape, buoyed by plentiful jobs, strong wages, and high savings.
The stock market correction has diminished much of the valuation excess seen at the beginning of the year. Valuations in many technology and momentum names exceeded levels witnessed during the dot-com bubble. As we wrote in “Expecting High Expectations to Fall” early in the year, we saw valuations at such an extreme we maintained market hedges, even though we were not expecting a recession. Many high-flying stocks have experienced corrections of 50% or more. While these speculative pockets have popped, equity valuations still remain high and thus valuation risk elevated.
As always, we continue to monitor the business cycle, both here and abroad. Should TECTM alert us to a business cycle peak, we may reduce exposure to the market by eliminating some positions or increasing hedges. In the meantime, we are comfortable investing in high-quality, undervalued companies as the economy chugs along.
RJ STEINHOFF, CFA
HEAD OF RESEARCH
DISCLAIMER
The information contained herein is for informational and reference purposes only and shall not be construed to constitute any form of investment advice. Nothing contained herein shall constitute an offer, solicitation, recommendation or endorsement to buy or sell any security or other financial instrument. Investment accounts and funds managed by Generation IACP Inc. may or may not continue to hold any of the securities mentioned. Generation IACP Inc., its affiliates and/or their respective officers, directors, employees or shareholders may from time to time acquire, hold or sell securities mentioned.
The information contained herein may change at any time and we have no obligation to update the information contained herein and may make investment decisions that are inconsistent with the views expressed in this presentation. It should not be assumed that any of the securities transactions or holdings mentioned were or will prove to be profitable, or that the investment decisions we make in the future will be profitable or will equal the investment performance of the securities mentioned. Past performance is no guarantee of future results and future returns are not guaranteed.
The information contained herein does not take into consideration the investment objectives, financial situation or specific needs of any particular person. Generation IACP Inc. has not taken any steps to ensure that any securities or investment strategies mentioned are suitable for any particular investor. The information contained herein must not be used, or relied upon, for the purposes of any investment decisions, in substitution for the exercise of independent judgment. The information contained herein has been drawn from sources which we believe to be reliable; however, its accuracy or completeness is not guaranteed. We make no representation or warranties as to the accuracy, completeness or timeliness of the information, text, graphics or other items contained herein. We expressly disclaim all liability for errors or omissions in, or the misuse or misinterpretation of, any information contained herein.
All products and services provided by Generation IACP Inc. are subject to the respective agreements and applicable terms governing their use. The investment products and services referred to herein are only available to investors in certain jurisdictions where they may be legally offered and to certain investors who are qualified according to the laws of the applicable jurisdiction. Nothing herein shall constitute an offer or solicitation to anyone in any jurisdiction where such an offer or solicitation is not authorized or to any person to whom it is unlawful to make such a solicitation.
The economic picture has blurred recently. A tight global labour market without precedent is forcing employers to rapidly increase wages as they struggle to attract employees. In the U.S., there are over 11 million job openings—1.7 for every unemployed person. Russia’s invasion of Ukraine has led to a collapse of its own economy and idled critical manufacturing operations in Ukraine. Combined with lingering COVID-19 effects, it’s no wonder that inflation is running close to 8% in the U.S. and north of 5% in Canada, Germany, and the UK. Even Japan is suffering inflation with food prices lifting by 3%. Many of these issues have no near-term solutions, casting doubt about inflation being transitory. Interest rates are increasing in response. Rising mortgage rates and higher prices should combine to crimp consumer spending.
Global yield curves have recalibrated with yield curves flattening everywhere. The Canadian 30-year yield is just 20 basis points above the 2-year. Fifty basis points separate the 30-year rates from 3-year rates in the UK. In the U.S., yields for the 2-year and beyond are all within 25 basis points of 2.5%.
We closely monitor the business cycle—global economic analysis is a key part of our risk management process. Our Economic Composite (TECTM), comprised of several leading economic indicators, alerts us to potential business cycle peaks, warning us that a recession may be on the horizon. Since 1965, each occurrence of a two-year rolling loss of 20% or greater for the S&P 500 Index has been preceded by a business cycle peak. TECTM last alerted us to an economic peak in early 2019, prompting us to initiate hedges against a potential market decline. In 2020, COVID-19 devastated an already weakening global economy.
Despite a murky outlook, our U.S. TECTM monitor has yet to signal the end of the current economic cycle. Thanks in part to unprecedented stimulus, the global economy recovered strongly from the depths of 2020. However, as seen in the below TECTM chart, that momentum appears to have stalled due to the numerous challenges facing the global economy.
CHART 1. U.S. TECTM SINCE JANUARY 1, 2000
TECTM BUSINESS CYCLE PEAK ALERTS OCCURED IN 2000, 2006, 2019. SOURCE: GENERATION IACP
Numerous leading economic indicators continue to signal a growing economy. Unemployment is low. Capacity utilization has bounced back and is closing in on its 2018 peak rate. The Institute for Supply Management’s Purchasing Managers’ Index and Non-Manufacturing Index are comfortably above 50. As expected with higher inflation and mortgage rates, consumer confidence has been shaky but U.S. consumer remains in excellent shape, buoyed by plentiful jobs, strong wages, and high savings.
The stock market correction has diminished much of the valuation excess seen at the beginning of the year. Valuations in many technology and momentum names exceeded levels witnessed during the dot-com bubble. As we wrote in “Expecting High Expectations to Fall” early in the year, we saw valuations at such an extreme we maintained market hedges, even though we were not expecting a recession. Many high-flying stocks have experienced corrections of 50% or more. While these speculative pockets have popped, equity valuations still remain high and thus valuation risk elevated.
As always, we continue to monitor the business cycle, both here and abroad. Should TECTM alert us to a business cycle peak, we may reduce exposure to the market by eliminating some positions or increasing hedges. In the meantime, we are comfortable investing in high-quality, undervalued companies as the economy chugs along.
DISCLAIMER
The information contained herein is for informational and reference purposes only and shall not be construed to constitute any form of investment advice. Nothing contained herein shall constitute an offer, solicitation, recommendation or endorsement to buy or sell any security or other financial instrument. Investment accounts and funds managed by Generation IACP Inc. may or may not continue to hold any of the securities mentioned. Generation IACP Inc., its affiliates and/or their respective officers, directors, employees or shareholders may from time to time acquire, hold or sell securities mentioned.
The information contained herein may change at any time and we have no obligation to update the information contained herein and may make investment decisions that are inconsistent with the views expressed in this presentation. It should not be assumed that any of the securities transactions or holdings mentioned were or will prove to be profitable, or that the investment decisions we make in the future will be profitable or will equal the investment performance of the securities mentioned. Past performance is no guarantee of future results and future returns are not guaranteed.
The information contained herein does not take into consideration the investment objectives, financial situation or specific needs of any particular person. Generation IACP Inc. has not taken any steps to ensure that any securities or investment strategies mentioned are suitable for any particular investor. The information contained herein must not be used, or relied upon, for the purposes of any investment decisions, in substitution for the exercise of independent judgment. The information contained herein has been drawn from sources which we believe to be reliable; however, its accuracy or completeness is not guaranteed. We make no representation or warranties as to the accuracy, completeness or timeliness of the information, text, graphics or other items contained herein. We expressly disclaim all liability for errors or omissions in, or the misuse or misinterpretation of, any information contained herein.
All products and services provided by Generation IACP Inc. are subject to the respective agreements and applicable terms governing their use. The investment products and services referred to herein are only available to investors in certain jurisdictions where they may be legally offered and to certain investors who are qualified according to the laws of the applicable jurisdiction. Nothing herein shall constitute an offer or solicitation to anyone in any jurisdiction where such an offer or solicitation is not authorized or to any person to whom it is unlawful to make such a solicitation.
