The winds of the storm continue to raise the waves and tide crashing on our horizon. While a large body of economists and political leaders have sounded the ‘all-clear’ for a recession. To avoid one, regardless of the intensity, will have to buck historical financial trends and the current state of the economy. The historically reliable bond rate comparison indicates a recession is likely and the forecast indicates before mid-year 2024. Maybe that’s why the ‘all-clear’ has been signaled, it is too far out in time.
The FRED recently updated the U.S. Recession Probability curve (Are we in a recession (yet)? | FRED Blog (stlouisfed.org)) waving the green flag. With the August 2023 update FRED is posting a probability of a recession being almost negligible. Look closely at the graph, all the recessions (grey areas) have gone from 0% to 100% probability in a matter of months, not quarters. That’s like saying the chance of rain is 100% only if you are getting wet; otherwise it’s a sunny day.
There are other economic headwinds buffeting the markets. The Business confidence index has fallen to its lowest point since July 2020 after climbing out of the COVID slump.(Leading indicators – Business confidence index (BCI) – OECD Data). Juxtaposed to the Consumer Confidence Index which has risen steadily from a low in July 2022 (Leading indicators – Consumer confidence index (CCI) – OECD Data).
Unemployment remains low, which is good, but complicates the historical model analysis. While inflation has dropped it remains stubborn to further decline. The FED continues to tighten the interest rate with at least a few more increases expected. Banks are reluctant to issue loans to individuals and small companies. Smaller companies are being forced into a leveraged position by using private equity companies at elevated payment requirements. Even more simply, consumers are cutting back big ticket items, home purchases, higher end grocery items, travel, and gifts. Spending money on only what is needed, not just wanted. Credit cards are being excessively leveraged and delinquencies are increasing. The personal financial tsunami waiting to happen with those bills, plus extraordinarily high interest rates, could be devastating.
There is good financial news too. Inflation is down from its earlier highs in the last few years. As well as the supply chain, it is finally unwinding.
A predictive tool which has shown remarkable accuracy is plotting the difference between the US Treasury 10 Year and the 3 Month Yield. When the difference of these becomes negative, or ‘inverts’, has been an accurate indicator of an upcoming period of recession for over the last 40+ years.
The dip below the red line are the periods when the 3 Month yield was greater than the 10 Year. This graph is from 1/1983 thru mid September 2023.
Further analysis of this graph is seen below. The ovals highlight the inversion periods. The outlined columns illustrate the periods of U.S. recessions from 1983. The correlation between the two is remarkably consistent. Since 1983, there is a recession every time after the correction of an inversion.
Taking this analysis, the one logical step most shy away from in a publication, is to forecast the correction point of the current inversion. A complex Time-Series model using end of week close yield data for the time frame 1983 to mid-September 2023 results in some interesting insight. Keep in mind, as with all models, the information should be used only as ‘insight’ and a guide. The ‘red’ curve is the actual result of the basic subtraction of the two yields. The ‘aqua’ curve is the time-series analysis. The correlation between the two curves is a satisfactory R^2 of +0.95.
The forecast shows the re-cross into normal positive territory in March 2024. Therefore, based on historical trends, we should expect a recession, to some degree, within six months from then. As with all numerical models, there is a degree of uncertainty. In this model the upper error limit showed a ‘zero line’ re-cross in January 2024 and the lower error limit re-cross in mid-May 2024. It’s not a matter of if the inversion will be corrected, only when. After which, will history be repeated, or will this be a significant anomaly? I’m betting on history and hoping for a soft gradual landing. Forewarned is forearmed. Make wise decisions. #NeverFearTheDream
simplebender 