August Macro Update: Recession Risk Remains Low By: Urban Carmel | August 3, 2018
Summary: The macro data from the past month continues to mostly point to positive growth. On balance, the evidence suggests the imminent onset of a recession is unlikely. The largest risk to the economy is the escalation in trade war rhetoric.
The bond market agrees with the macro data. The yield curve has 'inverted' (10 year yields less than 2-year yields) ahead of every recession in the past 40 years (arrows). The lag between inversion and the start of the next recession has been long: at least 10 months and in several instances as long as 2-3 years. On this basis, the current expansion will likely last into early 2019 at a minimum. Enlarge any image by clicking on it.
Unemployment claims are also in a declining trend, reaching a new 49 year low in mid-May (and nearly this low in late-July). Historically, claims have started to rise at least 7 months ahead of the next recession.
New home sales made a new 10 year high in November and were only marginally lower in June. In the past 50 years, at least 11 months has lapsed between the expansion's high print in new home sales and the start of the next recession.
Real retail sales made a new all-time high (ATH) in June. The trend higher is strong, in comparison to the period prior to the past two recessions.
The Conference Board's Leading Economic Indicator (LEI) Index reached a new uptrend high in June. This index includes the indicators above plus equity prices, ISM new orders, manufacturing hours and consumer confidence. This index can fluctuate during an expansion but the final peak has been at least 7 months before the next recession in the past 50 years (from Doug Short).
Why does any of this matter for the stock market?
Equity prices typically fall ahead of the next recession, but the macro indictors highlighted above weaken even earlier and help distinguish a 10% correction from an oncoming bear market. On balance, these indicators are not hinting at an imminent recession; new home sales is the only potential warning flag (its most recent peak was 8 months ago) but it has the longest lead time to the next recession of all the indicators (a recent post on this is here).
Here are the main macro data headlines from the past month:
Employment: Monthly employment gains have averaged 200,000 during the past year, with annual growth of 1.6% yoy. Employment has been been driven by full-time jobs, which rose to a new all-time high in July.
Compensation: Compensation growth is on an improving trend. Hourly wage growth was 2.7% yoy in July, while the 2Q18 employment cost index grew 2.9% yoy, the highest growth in the past 10 years.
Demand: Real demand growth has been 2-3%. In June, real personal consumption growth was 2.8%. Real retail sales grew 3.7% yoy in June, making a new ATH. 2Q18 GDP growth was 2.8%, the highest in nearly 3 years.
Housing: New home sales grew 2% yoy in June. Housing starts were at the highest level of the past 11 years in May, but fell 4% yoy in June. Multi-family units remain a drag on overall development.
Manufacturing: Core durable goods rose 8.7% yoy in June. The manufacturing component of industrial production grew 2.1% yoy in June. Both measures were at the highest level in 10 years in April.
Inflation: The core inflation rate remains near the Fed's 2% target.
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