Over the weekend, we pointed out a concerning statistic: it’s not the rate hikes that stifle economic growth and send stocks sliding that traditionally telegraph the start of a recession – it’s the first rate cut following a tightening cycle that is usually the trigger. Case in point: the last three recessions were all preceded with the Fed cutting, i.e., the Fed loosened policy within three months before the previous three recessions, cutting by 0.25% in 1991, 1.5% in 2001 and 0.5% in 2007.
This is also the key point made by SocGen’s Albert Edwards in his latest report which, perhaps not surprisingly, warns that the Fed is now too late to save the economy, to wit: “the Fed eases immediately prior to a recession“, which is also why the steepening yield curve we are experiencing now is a far more ominous reversal to the recent flattening trend than if the curve had merely continued to flatten.
Elaborating on this point, Edwards says that last Friday’s “abject capitulation from Fed Chair Powell” was surprising, and while the SocGen strategist agrees that there was a level of equity market weakness that was always going to generate a re-introduction of the fabled Fed put, Edwards says that he “thought it would take a lot more than a 20% decline in equity markets for Powell to re-embrace the Fed put like a long-lost friend”, especially after Powell’s post FOMC reiteration that QT was on
autopilot. As a result, the subsequent collapse of expectations of Fed tightening has resulted in a far steeper the yield curve.
And the punchline for why the SocGen permabear is convinced an “imminent recession” is coming: “this curve steepening, after a period of pronounced flattening, is a good indication of imminent recession despite continued strength in the labour marke.”
Edwards goes on to note that according to historical precedents, “the market has decided the Fed tightening cycle is over, and historically the market has been pretty accurate in its predictions.” Hence Edwards’ “relaxed attitude” about further yield increases was “vindicated when the US 10y bond yield recently broke above the upper bound of the downward channel.”
And while yields may have bounced modestly following Friday’s blockbuster jobs report, Edwards notes that SocGen’s head of Technical Analysis, Stephanie Aymes believes that the current rebound in the S&P and the 10y bond yield is “merely a dead cat bounce and investors should prepare themselves for the next leg down.”
Continuing his bearish tirade Edwards then asks rhetorically: “If we are indeed nearing the point where the Fed stops tightening (both QT and Fed Funds), should this offer investors confidence that an equity bear market can be avoided?” and explains that this is not the case because “payrolls often accelerate just ahead of a recession”:
The surprisingly robust 312,000 rise in US non-farm payrolls in December soothed market jitters about an imminent recession. But a quick look at history reveals accelerating payroll data is not untypical just ahead of recessions. Just ahead of the last recession that started in December 2007, payrolls popped sharply higher in October, and exactly the same thing occurred before the previous recession began in March 2001. Payrolls, a lagging indicator, offer no help in predicting recessions.
Edwards concludes with some technical analysis, noting that while a bounce from deeply oversold levels was expected “until the neckline of the recent head and shoulders formation” which in turn would take the S&P up to around 2600, it is this level “which could prove insurmountable resistance.” He then claims that after that, there are two other massive hurdles to clear: first is the 50% retracement level of the fall from the 2935 peak, which will take us back to 2650, and second, the 200 day moving average of 2740 could also prove heavy resistance.
Wait, Edwards – the fundamental analyst – resorting to technical analysis? Why yes, and he explains why:
Many investors have a big downer on technical analysis. As a fundamental analyst, many of my readers become apoplectic with rage (or just plain disappointed) when they see I have put a technical chart in my weeklies. My old colleague David Owen (now at Jefferies) always reminds me of the story of when in 1991, our then Chief Economist Blu Putnam discovered me on the Datastream machine looking at technical analysis, and I fell drastically in his estimation albeit probably not from a very high level.
But let me repeat: I believe that if an equity bear market is unfolding, it will be the technical analysts and not the macro-analysts that will inform us, and a collapse in the markets will precede a recession, just as it did in 2007.
Whether what stocks have done in the past is an indication of what they will do in the future is a matter for another day (and endless debates in the financial community), but at least according to Edwards, who will hold his annual “Bearfest” Conference in London on Jan 15, there is little doubt what will happen next, and it is – in the words of Lance Roberts – the following: “There remains an ongoing bullish bias which continues to cling to the belief this is “just a correction” in an ongoing bull market. However, there are ample indications, as stated, that the decade long bull market has come to its inevitable conclusion.“