And In This Corner…
Trump/Powell vs. Recession
In recent months there has been increasing attention by the media and investment community of an upcoming economic recession. Most of these opinions are based on the data that shows decelerating economic growth both here in the US and abroad over the past 18 months – a subject our team has addressed many times this past year. Recessions (or what we refer to as the “R word” here at the office) have a brutal effect on stock prices. Historically, global stock indexes decline 35-55% during recessions – ouch! So it makes sense that rumors of a potential recession cause a heightened sense of anxiety for investors. Must the slowing global economy end in recession? Is there any way to avoid that outcome at this point? If not, how can we protect our portfolios? These are the questions that investors need to examine closely to navigate the next few quarters.
It is true that slowing economies often end in recession, but not always. We can recall very clearly in 1997-98 a slowing economy that ended up picking up speed for another two years and generously rewarding stock investors along the way. Then, it depended on the data and the source of economic weakness – as it does now. When we dissect today’s soft economic figures we can clearly see the main culprits: a) the Federal Reserve (the Fed) that was too heavy handed about raising interest rates in 2017-18 and b) political policy that has set up barriers to growth i.e. tariffs. These two issues are textbook examples of government intervention that not only slow, but can stop economies in their tracks. Left unattended (which was our primary concern at the start of the year) these forces create recessions and bear markets. Fortunately, the Fed started reversing course in late spring, not only in words, but in action. The Fed has now lowered rates twice and has suggested future rate reductions in an effort to reinvigorate economic growth and take back their earlier growth impediment. Are the Fed’s efforts “too little, too late” to avoid a recession given the ongoing tariff war? Perhaps.
Although, the Fed has changed its course and has become much more concerned about avoiding a recession at all costs (hence our more optimistic tilt), we believe that to further negate recession risk, they will need assistance from the administration and a reduction of the tariff conflict with China. We all know that Donald Trump “doesn’t always play well with others” or think highly of Fed Chairman Jerome Powell. However, we think they need one another to beat the possibility of an ensuing recession.
In our view, the administration has a great incentive to do what they can to avoid recession – re-election in 2020. There is little doubt, and quite a bit of historic precedent, that incumbents usually lose an election whilst the economy is in recession. Donald Trump fears losing, more than he enjoys winning. It is quite possible that he and the administration may come to the economy’s rescue by reducing tariff conflict, lowering taxes (again) or floating a 50-year treasury – all of which would be very stimulative to the slowing economy, and likely allow us to avoid the much discussed threat of recession. However, if the administration is going to do so, they must do so quite soon and they know this. Changes in policy take months to effect economic growth rates so the sooner they start, the better they will look come November. The administration is probably quite aware that the Fed alone can’t help the economy. Their assistance will be needed – and of course, as politicians do, they will take all of the credit should it all come out “smelling like roses.”
As investors it has been a long strange trip. Global and domestic stock indexes are pretty much at the same level they were 20 months ago! It is rare (if not downright frustrating) that stock investors are paid nothing for taking risk for such an extended period of time; however we know what is to blame – a slowing economy. And we know how it can be fixed – lower rates and pro-economic policy. We think the Powell/Trump “one-two punch!” may likely get the job done.
For the reasons stated above we think that a recession is becoming increasingly less likely. Moreover, keep in mind that recessions usually come when most people least expect it, which would make this the most advertised and telegraphed recession in history. We are also encouraged by the fact that valuations are lower than they were going in to 2018, which will allow selective investment opportunities going forward. However, in the event that recession does win out over the next few quarters, we are prepared to head that risk off at the pass by adjusting your allocation to stocks, managing your portfolio’s economic sector exposure and employing the use of carefully placed stop loss orders.
All of us on the team hope you find this update helpful. If you have any questions about your portfolio or have experienced a change in your financial situation please let us know.
Your Team at Main Street Research
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