The Inaccuracies of Recession Prediction Signals

The S&P 500 reached new record highs, signaling an upward trend in the stock market. Despite the typical view that certain economic indicators reliably forecast recessions, this has come into question recently. The inverted yield curve signal, for instance, is not failsafe. While the yield curve, which charts various maturities' Treasury yields, inverts when long-term rates fall below short-term rates, its ability to precisely anticipate the onset of recessions is doubtful. For instance, after a 2s10s inversion, the time until a recession could range from seven to 49 months, with a median of 20 months, making its precision questionable.

Deceptive Indications of an Economic Downturn

Historically, a continuous inversion of the yield curve, like the one that lasted 625 days since July 2022, suggested a looming recession. However, the economy remains resilient. Goldman Sachs analysis revealed the time lag between inversion to recession varied considerably. This unpredictability of timing diminishes its reliability as a predictive tool, which echoes Oaktree Capital’s Howard Marks sentiment that being too early in prediction is akin to being incorrect.

LEI's Failed Forecast

The Leading Economic Index (LEI) also faltered in its predictive abilities. It traditionally pointed towards a recession when its six-month average change was negative. Yet, despite such indications over the past two years, a recession did not materialize. Moreover, changes in the LEI have recently turned positive, which no longer signifies an impending recession, according to The Conference Board.

Macro and Market Factors in Focus

Various economic and market data points continue to provide a mixed landscape. The Federal Reserve maintained high interest rates, suggesting diligence in controlling inflation. Consumer spending appears resilient per JPMorgan and Bank of America card data, while unemployment claims drop subtly, reflecting a stable job market. However, juxtaposed are rising gas prices and mixed housing market signals with increasing home sales and prices amid growing builder confidence.

Financial strategists, including Societe Generale’s Manish Kabra, have uplifted their year-end targets for the S&P 500, indicating sustained optimism. Nevertheless, surveys from Bank of America and JPMorgan have highlighted inflation concerns and market evaluations as potential risks. Yet, it's pertinent to realize that anxieties are an inherent part of investing.

The PMI surveys suggest robust growth, and the Atlanta Fed’s GDPNow model projects continued GDP expansion. Both consumers’ and businesses’ financial health remains strong, which is comforting against recessional fears. For long-term investors, it's paramount to accept recessions and bear markets as part of the investment journey.

stocks, economy, recession