The Most Obvious Recession No One Expects
Editor's note: The economy has been facing turbulence...
And according to Stansberry's Credit Opportunities editor Mike DiBiase, several economic warning signs indicate that more turbulence is on the way.
In today's Masters Series, adapted from the March 8 issue of the free DailyWealth e-letter, Mike details why he thinks a recession is a near certainty, despite investor complacency. He explains why it could begin sooner than you may anticipate... and what we can expect when it arrives.
The Most Obvious Recession No One Expects
The stock market is approaching a new all-time high. But the real economy isn't doing well...
Inflation is still stubbornly high. And while investors cheered when the Federal Reserve began lowering the short-term federal-funds rate last year, the interest rate that matters isn't cooperating...
The 10-year Treasury rate is the one that impacts real-world interest rates the most. I'm talking about mortgage rates, credit-card interest rates, and the interest companies pay when they borrow. And its yield has increased from 3.6% to 4.4% since the Fed started cutting rates last September.
In other words, the Fed's rate cuts haven't yet changed the minds of bond investors. They still expect bad news. Consumers and businesses haven’t felt any relief. They are still being squeezed by high interest rates and inflation. This spells major trouble for our economy.
Consumer confidence is falling and is now the lowest in more than three years. The U.S. economy shrank in the first quarter. Two consecutive quarters of shrinking gross domestic product ("GDP") is the definition of a recession.
And yet few expect a recession. Goldman Sachs just lowered its probability of a recession in the next 12 months to 30%.
Folks are ignoring all the warnings.
Many reliable recession indicators have flashed major warning signals. They've all said the same thing: We're headed for a recession.
And based on history, it could hit the economy in a matter of months.
Here are just a few of the better-known indicators that have sounded the alarm over the past few months...
- Inverted yield curves
- The Sahm Rule
- The Conference Board Leading Economic Index ("LEI")
- The New York Fed's recession probability model
I'll cover each briefly today...
The 2-year/10-year yield curve is the best known of these signals. It shows the difference between the interest rate on 2-year Treasurys and 10-year Treasurys. This spread inverted in July 2022.
When the yield curve inverts, it shows that short-term rates have risen above long-term rates. That isn't normal. It signals that something is wrong in the economy.
The Fed prefers to look at the 3-month/10-year yield curve. This measure inverted in October 2022 and again in February...
As you can see in the chart above, recessions almost always follow yield-curve inversions.
An even more reliable recession indicator is the "Sahm Rule." This tracks the moving average of the unemployment rate relative to its trailing-12-month low. This indicator signals the start of a recession when the unemployment rate rises by 0.5% or more above the lowest three-month average in the previous 12 months.
Simply put, it shows when the unemployment rate is growing too quickly.
This indicator has nailed every recession since 1970. And it triggered again in July 2024. So according to this very reliable measure, we could already be in a recession. Take a look...
Next, the Conference Board LEI recession indicator has also flashed a warning. The Conference Board is a nonprofit think tank that combines several economic data measures into one index. Whenever that index falls by 4% or more in a six-month period, it signals a recession is coming.
The index triggered in December 2022 after falling 4.2% over the six-month period. And it remained below that threshold for some time. Take a look...
Finally, the New York Fed has its own indicator of trouble ahead. Its "recession probability model" soared last year to the highest levels since the 1980s.
Dating back to 1960, every time the New York Fed's probability model surpassed the 30% threshold, a recession soon followed. Take a look...
And this time, the recession is likely to be worse than normal.
History tells us the longer the yield curve is inverted, the harder the markets crash.
This time, the yield curve was inverted for more than two years (26 months) before uninverting last year. That's the longest inversion since 1929, before the Great Depression began. (It has since inverted again.)
Another reason this recession could be especially painful is that corporate and household debts are at record levels. A recession hits those with heavy debt the hardest.
On top of that, the Fed has much less power to fight back this time...
The last recession, in 2020, followed the onset of the pandemic. In response, the Fed unleashed unprecedented monetary support for the economy. But the massive stimulus had a cost. Inflation soared. And the Fed was left with far fewer bullets for next time.
So, when should you expect the next recession to begin?
One way we can guess is by looking at when the Fed started cutting interest rates.
Since 1990, we've experienced four recessions. Starting from the point that the Fed first began cutting rates, the economy usually falls into a recession around seven months later, on average. Take a look...
The Fed started cutting rates in this cycle last September. Assuming this seven-month average, a recession would have hit the economy in April.
Of course, every recession is different. The recession in 1990 didn't start until 13 months after the Fed began cutting rates.
I believe the recession has already started. The U.S. economy shrank in the first quarter. President Donald Trump's tariffs are going to slow the economy further.
In recessions, corporate earnings fall by 25% on average. The stock market typically falls even more... by 37% on average over the past five recessions.
More important for corporate bond investors, the high-yield spread often soars to more than 1,000 basis points. That's when corporate bonds trade for pennies on the dollar and offer stock-like returns.
Make sure you're prepared.
Good investing,
Mike DiBiase
Editor's note: For nearly a decade, Mike has been anticipating a very specific set of market conditions... ones that have historically led to astronomical gains with a specific strategy. Now, they're arriving.
Beginning in February, the S&P 500 Index fell by nearly 20% in about six weeks. The short-term rebounds we've seen in the stock market appear to be linked to the president wavering on his destructive tariff policy – a situation that's far from resolved...
In short, Mike believes we're already in the midst of a recession. That may sound like bad news... But for investors who know about one unique approach, this recession – and the credit crunch that follows – will likely be the greatest moneymaking opportunity of a lifetime. Click here to learn how you can capitalize on this rare setup...
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