Beyond the volatility: is a near-term recession likely?


August has been a highly volatile period for the financial markets. Reignited trade tensions and yield-curve inversions have spooked investors, culminating in a 3% drop in the S&P 500 Index on Aug. 14, its worst day of the year.

Trade a front-burner issue again

Our position for some time has been the trade war between the U.S. and China would weigh on global growth. As the dispute between the world’s two largest economies has intensified, Ivy has continued to push out our expectations of a global recovery. We believed a growth recovery may not happen until sometime in 2020, assuming the trade war would not intensify further and a deal would be in place around the turn of the year. That view may be in doubt.

On Aug. 1, President Donald Trump announced the U.S. would implement a 10% tariff on the remainder of Chinese imports that have not been tariffed. Most of those imports are consumer goods. These tariffs will be implemented in two tranches, with roughly $110 and $155 billion of products receiving tariffs on Sept. 1 and Dec. 15, respectively.

Spending by the U.S. consumer has been quite healthy since the financial crisis, despite multiple global slowdowns. Any price increases on consumer goods would reduce purchasing power at a time when employment growth is already slowing, though the staggered implementation of tariffs will help smooth the impact.

Ivy is increasingly concerned about our call for meaningfully better growth in 2020. A weaker U.S. economy is likely to be a headwind for Trump’s reelection bid, and we still feel that it will be in his best interest to at least pause this trade war. We will continue to watch the progression of the trade discussions and whether there is further escalation.

The yield curve inverted. Now what?

While some measures of the yield curve have been inverted for months, the recent inversions of the 2-year Treasury yield relative to the 10-year Treasury yield have heightened concerns about the possibility of recession. While we watch the yield curve closely, we also use a range of indicators to gauge the risk of an economic downturn, and note the following points about this series of inversions:

  • Ivy believes the yield curve must be inverted for several months before it becomes concerning.
  • Based on history, it can take up to two years for a recession to begin after an initial inversion.
  • The signal from the current inversions could be distorted by continued large holdings of government bonds by central banks. In fact, the U.S. Federal Reserve’s own research estimates its holdings of U.S. Treasury securities reduced yields on 10-year Treasury bonds by roughly 100 basis points at the peak.*

*Source: U.S. Federal Reserve, April 2017.

We recognize the possibility of a recession risk has increased at this time. However, Ivy believes a downturn is unlikely in the near term.

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The opinions expressed are those of Ivy Investment Management Company and are not meant as investment advice or to predict or project the future performance of any investment product. The opinions are current as of August 2019, are subject to change at any time based on market and other current conditions, and no forecasts can be guaranteed. This commentary is being provided as a general source of information and is not intended as a recommendation to purchase, sell, or hold any specific security or to engage in any investment strategy. Investment decisions should always be made based on an investor’s specific objectives, financial needs, risk tolerance and time horizon. Please refer to Ivy Investment Management Company’s Form ADV Part 2A for additional risk information concerning the investment strategies offered by Ivy.

The S&P 500 Index is a float-adjusted market capitalization weighted index that measures the large-cap U.S. equity market. The index includes 500 of the top companies in leading industries of the U.S. economy. It is not possible to invest directly in an index.