Is a Recession Coming?

Financial markets like money. When the Fed was pumping cash in to the system via QE2, stocks moved relentlessly higher.

Yesterday’s vicious sell-off was a snapshot of a market worried about a lack of money. The debt deal passed in Congress yesterday calls for $2.4 trillion in government spending cuts over the next 10 years. We looked at some of the
impact of reduced government spending yesterday.

But it’s not just government spending. Consumer spending actually shrank 0.2% in June. GDP growth has slowed sharply this year. It appears we’ll be lucky to hold onto 1% growth. For the U.S. economy, at this stage of the "recovery", that’s too close to the flatline for comfort.

Investors are clearly concerned that the U.S. is slipping back into recession. Economists from the National Bureau of Economic Research, the group that officially describes recessions, says the odds are now about 50/50 that the U.S. will head back into recession.

Oil prices are getting crushed on slower growth expectations. And gold prices are launching higher. I would also suggest that gold prices are moving in anticipation of action from the Fed. Bernanke has said that the Fed stands ready to act if growth slows. And growth is definitely slowing.

Of course, what can the Fed do at this point? QE2 was great for ramping the stock market. It also ramped inflation and didn’t do much else. It certainly didn’t add a meaningful number of jobs, but the again how could it? Liquidity does not create real demand. It can only create demand for assets.

More Fed action in this environment will not help the economy. But it could push inflation higher. That will not be helpful.

The ADP Payroll report showed that private companies added 114,000 jobs in July. That was better than expectations, and surprising considering the economic data we’ve seen lately.

The Nonfarm Payroll number comes in on Friday. And economists are calling for an addition of 85,000 jobs. But Nonfarm Payrolls have consistently disappointed recently. I’ll be surprised if the number for July comes in good.

Yesterday’s decline took the S&P 500 down to long term support at 1,250. That’s "must hold" level for many traders. I would expect that level to hold for the next day or two, but without any positive economic data, it seems to be in jeopardy.

Given the current economic environment, it’s particularly surprising that corporate earnings have been so good. Now, granted, forward guidance hasn’t been great, but it hasn’t disastrous, either.

Even with a drop in consumer spending, companies are hitting their numbers, for the most part. Let’s keep an eye on earnings estimates, though. I would expect to see some downward movement in estimates.


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