While the President of the American central bank, Jerome Powell, declared that he did not think that “the American economy is in recession”, American GDP fell by 1.6% then 0.9% over the first two quarters of 2022. However, faced with this recession, which is technical to say the least (two consecutive quarters of decline), the monetary authorities still want a reassuring message that once again engages the future credibility of their word. Despite everything, the financial markets confirmed their rebound in a context of the publication of results. The S&P 500 thus rebounded by nearly +8.5% over one month. This is almost +16.5% for bitcoin over the same period. In this context, what should we think of the impact of the technical recession on the markets and its evolution between now and 2023?
US economy enters recession (technical)
US GDP figures announced GDP down 0.9% in the second quarter. This figure is all the more important as the GDP had already decreased in the first quarter (-1.6%). There is therefore, in the basic definition of growth, an entry into recession. However, this term is not to the liking of monetary authorities who prefer to dwell on labor market figures in particular. In his July 27 press conference, Jérôme Powell declared that:
” Growth slowed for reasons we understand. Growth was extraordinarily high last year [2021] at +5.5%. We waited for a slowdown in growth, but the slowdown is even greater today. But if you look at the labor market, we have growth with an average creation of 450,000 jobs per day. […] »
So is it relevant to omit worries about the economy as wealth declines? When we look in detail at the sectors most affected by this recession, we find that the manufactured goods, trade, finance and insurance sectors were the most affected in the first quarter of 2022.
Consequently, this recession can become structural and virulent if the sectors of industry, finance and commerce find themselves in a position to affect the job market. In addition, a slowdown in the activity of the health and science sectors, real estate, would also be an alarmist signal. Also, the unemployment rate should play an important role. The unemployment rate has remained stable since April at 3.6%.
Financial markets and economic growth
In the long term, the correlation between the price of assets like bitcoin and the S&P 500 exceeds 80%. There is therefore a direct influence of economic mechanics and liquidity on the most volatile assets. We have represented in the graph below the link between the S&P 500 and the level of GDP. There is generally a symmetry between the evolution of GDP and the evolution of stock market indices. In addition, financial markets can sometimes exaggerate certain movements in growth.
Recent US GDP figures therefore expose us to two scenarios:
- First, if the recession persists. In this case, it is likely that the job market will deteriorate given the scale of the recession. The fall in the financial markets observed recently would therefore be largely justified and the latter could amplify on new lows. Especially, technical analysis would suggest in this scenario the supports at 3,500 and 3,200 on the S&P 500. However, it could be that almost half of the decline will take place in the scenario of a sufficiently violent continuation of the recession.
- Conversely, if the recession wanes or disappears. The market rebound will have been fundamentally justified in this configuration. In this sense, the stock markets could stabilize gradually before engaging in new technical configurations.
In the case of speculative assets like bitcoin, the latter experiences a very channeled figure between $20,000 and $24,200. At the same time, the barrel of oil (WTI) fell back towards $90 while gold seems to be bouncing towards $1800 an ounce. It is therefore clear that investors still favor the idea of an imminent recession, and that the liquidity restrictions to come will not last forever.
When do recessions appear?
Recessions can become very recurrent when prices, or productive resources, are unstable. Moreover, recessions in the United States generally occur when interest rates are very low, or when interest rates are very high. We have represented exclusively in the graph opposite the relationship between GDP growth and the Fed’s key rate. The study covers the period 1955-2021. It includes the stagflation of the 1970s and 1980s, which corresponds to the area at the bottom left of the graph.
Note that a high interest rate (over 10%) is synonymous with generally weaker growth. Moreover, an interest rate of between 2% and 4% is generally synonymous with a growth rate of between 2% and 7%. In 2021, annual growth was +5.6% for an inflation level of almost zero. In this sense, as long as interest rates are not in the perspective of a continuous and sustained rise, towards 5% or 6%, then the risk of a major recession is historically limited. It would take emotionally a high interest rate, higher than the current rate, to foresee the historic possibility of a deep recession.
This historical relationship also supports the behavior of central bankers. For the time being, the rise in rates could still remain bearable for the economy, and it would only concern certain sectors. The prospect of a widespread and significant recession would only be possible in the event of even larger rate hikes. Nevertheless, the growth of credit since the 1980s requires caution in the study of this mathematical relationship.
A patient rebound… But still very uncertain
However, inflation persists at +9.1% in the United States. The next release of the inflation figure will occur on July 10. For the time being, this inflation is expected to decline slightly to 8.9% year-on-year. Moreover, the rebound in stock markets has generally been accompanied by a boost in future interest. In other words, investors opened futures contracts when the markets rallied. This last element encourages the idea of support for the rebound movement.
The summer will therefore, as often, be quite gloomy. However, investors are taking positions on developments at the start of the school year. Furthermore, the results of the companies are quite mixed. If some companies like luxury, The next inflation and GDP figures will certainly mark a change in the discourse of economic authorities. The absence of a signal of a slowdown in inflation from July could cause a movement of pronounced uncertainty in the markets, ahead of the next GDP figures. In the euro zone, the same concerns persist.
In conclusion
In short, the markets are jostled by the prospect of a recession. After a contradictory movement, metals rebounded while oil accelerated its fall. The validation of the entry into a technical recession seems however to “relieve” the markets. Moreover, most of the recent downward movement has been based on fears of a recession and continued inflationary pressures. The markets are thus awaiting a change in the positions of the monetary authorities and the next economic figures.
If the economic situation were to deteriorate again, the short-term decline in the markets would probably be quite severe. If this recession is accompanied by a further acceleration in inflation, then this would be the most pessimistic scenario for the markets. In the opposite case, an economic recovery would validate the recent rebound and the prospect of a limited recession.
The economic re-entry will specify the construction of a bullish technical figure or the second phase of abear market powerful.
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