Stock market dives
Economic indicator pointing to recession
The bull market has been charging ahead for more than a decade now, but financial industry pros are beginning to wonder if the stock market is nearing the end of its historic rally in light of a key indicator that spooked investors on Wednesday.
The S& P 500 fell 2.93% to 2,840.57, down 85 points. The Dow Jones Industrial Average fell 3.05% to 25,479.21, down 800 points.
While the indicator, called an inverted yield curve event, was short- lived, the market interpreted it in the historical context that it can be an omen of economic troubles on the horizon. The last such event came in 2007.
“An inverted yield curve is a pretty reliable indicator of a recession coming in 12 to 18 months,” said Paul Brahim, chairman and CEO of BPU Investment Management Inc., Downtown.
The yield curve — measured by the difference between yields on short- term and long- term bonds — normally has a 10- year Treasury bond with a higher return, or yield, than a two- year bond. Investors want to be compensated for tying up their money over a longer period.
An inverted bond yield is a financial phenomenon when the yield for the two- year bond is higher than the 10- year bond — something that can happen when investors are concerned enough about short- term growth prospects to pile into longer- term
investments. That causes demand for 10- year bonds to exceed demand for two- year bonds, which lowers the yield on the longer- term bonds.
That was just one of several troubling economic indicators that have caused financial industry players to wonder what’s around the corner.
Corporate profits are not as robust as they have been. The nation’s gross domestic product, or GDP, growth is slowing. Inflation has remained below the Federal Reserve’s target of 2% for almost seven years and there is growing uncertainty around an escalating trade war with China.
Investors have been plowing money into the safety of U. S. government bonds for months amid growing anxiety that weakness in the global economy could sap growth in the U. S. Uncertainty about the outcome of the trade war with China has spurred a return of volatility to the stock market in August — the Dow has dropped more than 5% and the S& P 500 is down more than 4%.
“The Federal Reserve puts the probability of a 2020 recession at just over 30%,” Mr. Brahim said. “So, there’s a 70% hope that we won’t have one at this moment. Every bear market has had a recession as part of it. That’s the one constant in a bear market — recession.”
A recession is generally defined as a time of stagnant or falling performance across an entire economy that goes on for an extended period.
The stock market losses come a day after stocks rallied when the Trump administration delayed tariffs that were set to take effect Sept. 1 on about $ 160 billion in Chinese goods.
President Donald Trump took to Twitter to defend his trade policy Wednesday, saying “we are winning big time, against China.” But many on Wall Street remain worried the trade war between the world’s two largest economies may drag on through the 2020 U. S. election and cause more economic damage.
Mr. Trump also criticized the Federal Reserve for hamstringing the U. S. economy by raising rates “too much & too fast” last year and not reversing its policy aggressively enough — the Fed cut its key rate by a quarter point last month.
David Root, CEO and founder of DBR & Co., Downtown, said bull markets don’t die of old age. They usually die from policy missteps.
“Raising interest rates in December was one,” he said. “The trade war with China is not helping matters either. It’s adding costs and threatening a slowdown in some industries. It’s causing a rather large slowdown in the Chinese economy.”
From his standpoint, the 10- year bull market for stocks is probably losing steam.
“We see a pickup in volatility, and corporate profits are not growing as robust year over year,” Mr. Root said. “Recession is not imminent. But it may be closer than we think.”
Matt Helfrich, president of Waldron Private Wealth in Bridgeville, said the inverted yield curve is something to take note of because it has been pretty indicative of past recessions. But he cautioned investors about overreacting.
“We are not huge fans of making radical adjustments around one signal from one area of the market,” he said.
Mr. Helfrich said the economy is going fine with the exception of the uncertainty surrounding trade. But that uncertainty will affect the people who are running businesses, in addition to affecting consumers. He said consumers will hold off on making large purchases. Businesses may postpone making investments for expansion.
“What I do like is that these lower interest rates are providing opportunities for people who didn’t do it earlier to refinance mortgages and other fixed rate debt,” Mr. Helfrich said.
Mr. Brahim said due to the concerns he has about a potential economic slowdown, he is advising his clients to have enough cash reserves to support their spending needs if the economy falls into a bear market.
A bear market is defined as a time when stock prices fall 20% or more from recent highs amid widespread pessimism and negative investor sentiment, while a bull market sees rising stock prices and optimism.
Mr. Brahim said investors should be diversified between stocks and bonds, and they should use pullbacks in the stock market as an opportunity to rebalance their portfolios. By that he means if a 50- 50 stocks and bonds portfolio shifts to 55% bonds and 45% stocks, investors should use the gains in bonds to buy more stocks.
“I also believe that if you can pay off debt, you should pay off debt,” he said. “You never know if a recession will bring job loss.”