A Recession occurs when the economy contracts over a 6 month period. Most economists agree that a country has entered a recession if the economy has negative growth over two consecutive quarters. This is usually measured by its Gross Domestic Product (GDP).
In the past 6 months, investors have had to deal with high and sustained inflation, rising interest rates, and the fallout from the conflict in Ukraine. And many have also suffered large losses, following a 30% correction in the Stockmarket. As I write this in June 2022, the odds of a recession in the next year are rising. Morgan Stanley predicts a 27% chance of a recession in the US, up from 5% in March. Others such as Citigroup and Deutsche Bank are more pessimistic, and see a 50% chance as rates rise.
Economic Cycles
HERE IS WHY STOCK MARKETS REMAIN VULNERABLE
1. High Inflation – inflation is at the highest level in over 40 years. The most recent inflation data (CPI) shows gains of 8.6% in May, compared to the prior year. The reality for many consumers is likely much higher. As prices for food, energy, and consumer goods rise, we are now seeing inflationary pressures in other areas, such as higher wage demands and rents. This keeps the pressure on Central Banks to tame inflation with further, more aggressive interest rate increases. Read our post to learn why rising interest rates are bad for Stocks.
The big worry is Stagflation. This occurs when inflation remains high throughout an economic slowdown. It’s a toxic combination for the Stockmarket as it leads to lower Corporate Earnings and Profits. And that means more volatility ahead.
US Inflation Trends
2. Price Pressures Impact Consumer Demand – the longer inflation lasts, the more likely it will lead to consumers reducing their spending. We are already starting to see slowing demand in housing and autos. This will also impact the retail sector hard. Shoppers have quickly shifted spending habits in the face of inflation. This is leaving retailers such as Target and Walmart with bloated inventories and crimped profits.
3. Consumer Confidence is at Record Low - Consumers are becoming more pessimistic about the future outlook and their household finances. Many already expect inflation to remain high and have become more cautious in how they spend money.
Consumer Confidence is at record lows
4. Commodity Prices Keep Rising – commodity prices remain stubbornly high, particularly oil, wheat, and natural gas, with oil showing no signs of easing in the months ahead.
Rising Oil Prices
These developments will likely lead to lower economic growth in the months ahead. For Stock Investors, expect further falls as the cyclical Bear Market continues. This is because Stocks will need to be repriced to reflect more risk, higher interest rates, and lower corporate earnings expectations.
IN SUMMARY
Going forward, investors should continue to watch trends in Inflation, Interest rates, Consumer spending, and Economic Growth (GDP). As volatility is set to continue, risk management will remain key, so hedging your Stocks against further downside using Put Options is highly recommended.
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