by Krystal Daibes Higgins, CFA
Vice President
Equity Research
The U.S. economy continues to defy one of the most anticipated recessions. Since January, investors and economists have been on edge as economic indicators started flashing red, particularly the purchasing managers index (PMI) and the leading economic indicators (LEI). Both metrics are closely watched as they have been reliable in foretelling downturns.
In the LEI chart below, the negative bars coincide with a recession, echoing patterns observed across several decades. Similarly, the PMI chart showed a continual descent below 50, indicating economic contraction through June 2023. Yet, the anticipated recession remains elusive. With second quarter U.S. GDP growth expected be 2.5%, and corporate earnings growth, as measured by the S&P 500, expected to climb back into positive territory over the next couple of quarters, it’s beginning to look like a recession may not happen. If a recession does occur, it’s likely to be mild.
Source: Refinitiv Eikon
Source: Statista
Underpinning the strength of the economy is the consumer segment, which sits atop of low fixed 30-year mortgage rates and payments, strong labor demand, higher wages and stimulus money from the height of the pandemic that boosted excess savings. While savings have come down, the top 60% of earners, which make up the majority of consumer spending, still maintain excess savings and continue to spend. In fact, both the housing and auto markets have picked up strength in recent months, and the June retail sales came in above expectations. However, higher inflation has led to higher interest rates and borrowing costs, which is finally beginning to make a dent in the economy.
Source: U.S. Bureau of Economic Analysis
In terms of predicting market direction, recessions tend to be in the rear-view mirror by the time we are in a bull market. The S&P 500 is already up 17% this year, thanks to Big Tech companies and enthusiasm from AI supercharging investors. However more recently we’re beginning to see signs of a broadening market as cyclical companies and other sectors start to catch up. Wall Street estimates second quarter results will show the biggest decline in earnings since the second quarter of 2020, before reverting back to growth in the second half of this year. Overall, we’ve seen profits soften but they remain resilient. We expect profit growth to remain roughly flat in 2023 despite the challenging economic conditions with higher rates, bank failures and persistent inflation. Barring low-probability shocks to the economy, we expect to see double digit earnings growth in 2024 as companies turn the corner and lap the challenging environment.
Takeaways for the Week
Investors are having a tough time understanding the contradictions between recessionary signals and U.S. economic resilience
The macroeconomic backdrop continues to be challenging, but the strength of the consumer continues to power the U.S. economy
Corporate earnings have remained resilient and are expected to grow double digits in 2024