It started with a slow drip. Then it became a trickle. Now it is an undeniable torrent.
Negative economic data reports, once as rare as hen’s teeth, have suddenly become as common as NRA bumper stickers at a Trump rally. The economic data flow has definitely turned sour. Is this a growth scare? Or is it the beginning of a full-blown recession, the return of which investors have been dreading for the past nine years.
The data flow was hotter than hot going into January, taking the stock market to a new all-time high.
We only got final confirmation of this a few weeks ago, when the last report on Q4 GDP rose by 0.2% to 2.9%, one of the best readings in years.
Then the rot began.
At first it was just one or two minor, inconsequential reports here and there. Then they ALL turned bad. Not by large amounts, but by small incremental ones, frequent enough to notice. The February Dallas Fed General Business Activity Index dropped from 28 to 21, the March Institute of Supply Management Manufacturing Activity declined from 61 to 59, while Services Activity shaved a point, from 59 to 58.
The big one has been the March Nonfarm Payroll Report, which printed a soft 103,000, was far below the recent average of 200,000.
As recently as this morning, the National Association of Home Builders Sentiment Index dropped a point from 70 to 69.
When you see one cockroach, it is easy to ignore. When it becomes a massive infestation, it is a different story completely.
The potential explanations for the slowdown abound.
There is no doubt that the trade war with China is eroding business confidence, as is the secret renegotiation of the North American Free Trade Agreement (NAFTA).
Decisions on major capital investments by companies were a slam dunk three months ago. Now, many are definitely on hold. There is abundant evidence that the Chinese are scaling back investment in the US and pausing new trade deals with American counterparties. They have been boycotting purchases of new US Treasury bonds for eight months.
The new import duty for Canadian timber is raising the cost of low-end housing, worsening affordability, and causing builders to cut back. Instead they are refocusing efforts on high-end housing where profit margins are much wider.
Shooting wars with Syria, North Korea, and Iran are permanently just over the horizon, further giving nervous investors pause.
And the general level of chaos coming out of Washington, including the unprecedented level of administrations firings and resignations, are scaring a lot of people.
Since I am a person who puts my money where my mouth is every day of the year, I’ll give you my 10 cents worth on what all this really means.
Two weeks ago I started piling into to an ultra-aggressive 100% “risk on” trading book, loading the boat with a range of asset classes, including longs in financial and technology stocks and gold and big shorts in the bond market. My bet is that while however serious all of the above concerns may be, they pale in comparison with Q1 2018 earnings growth of historic proportions that is now unfolding, prompted by the December tax bill.
The second 10% correction of 2018 had nothing to do with fundamentals. It was all about hot money retreating to the sideline until the bad news waned and the good news returned.
And so it has. Forecast Q1 earnings are now looking to come in above 20% YOY. These will be reports for the ages.
If fact, the rest of 2018 could play out exactly as it has done so far, with frantic sell-offs following the end of each quarterly reporting period, followed by slow grind-up rallies leading into the next. Technology will lead the rallies every time.
Which means we may go absolutely nowhere in the indexes in 2018, but have a whole lot of fun getting there. If you see this coming you can make a ton of money trading around it.
Which raises the question of “When will the recession really start?” My bet is sometime in 2019, when earnings growth downshifts from 20% to 10%, or even 5%. If this happens in the face of an inverting yield curve where short-term interest rates are higher than long-term ones, and a continuing trade war and shooting wars, and broadening Washington scandals, then a recession becomes a sure thing.
A bear market should precede that by about six months. So date those high-risk positions; don’t marry them.