“Recession” has been feared throughout the last 2-3 years.
Market volatility has been driven by disruptive supply chains, rates hike worries and now U.S. election uncertainty. Despite this, a recession has not appeared. But are there any economic indicators finally signaling a slowdown now and how shall we position for it?
First, consumers are tapped out – they have run out of pandemic savings and will become reluctant to spend. Excess household savings reached $2tn during pandemic and cumulative drawdowns since then are now past that level. Credit & auto loan delinquencies (surging from 4% to more than 9% in the last few years) do not happen when things are good and are signs of struggle.
Second, both manufacturing and services are trending down. Businesses are not borrowing enough since there are not enough investment opportunities to justify the higher borrowing costs. Also, rising numbers of small unprofitable firms and reported bankruptcies suggest the slowdown trend has begun.
However, we think a full defensive positioning is premature. Rate cuts are imminent. Lower borrowing costs will boost demand and sentiment. Second, hopes for AI productivity may provide temporary support. Lastly, a broadening of earning growth from large caps to small caps may keep result in a blow off top before the downturn.
Last month, we repositioned our core Equity ETF portfolios by replacing financials with healthcare. The former struggled in a slowdown due to lower loan demand and increased defaults. The latter is a more defensive sector but benefits from continued price inflation, demographics, and a reacceleration of innovation after COVID-19. We have gone from bullish equities in late 2022 to neutral earlier this year and neutral to mildly defensive now.
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