The first quarter of 2019 has ended and investors are breathing easier. After a bruising fourth quarter 2018 in which investors experienced double digit losses in the stock portions of their portfolios (the Dow Jones Industrial Average was down 11.3%, the S&P 500 Index lost 13.5% and the tech-heavy Nasdaq dropped 17.5%), the markets bounced back and investors largely recouped those losses. The Dow was up 11.2% for the first quarter, while the S&P 500 index was up 13.1% and the Nasdaq was up 16.5%.<\/p>\n
You may have heard that a technical indicator recently began to flash \u201crecession ahead.\u201d Many market watchers have been looking for a recession for some time. So, when this light began blinking, many took notice. It involves what is called an \u201cinverted yield curve.\u201d In this case, the yield on the 10-year Treasury Note fell below the yield on the 3-month Treasury Bill. The 10-year rate was at 2.37% last week, below the 3-month rate of 2.44%. You can see this visually at the St. Louis Federal Reserve Bank website<\/a>. This indicator has not been triggered since August 2007. We all know what happened in the fall of 2007. The Great Recession hit.<\/p>\n Investors fear recessions, because they often lead to weak stock market performance. Why? Because the economy contracts, corporate profits fall, consumer spending drops, unemployment increases and, consequently, stock prices whither.<\/p>\n But before you get too anxious, let\u2019s acknowledge that there is a lot debate about how reliable this \u201cinverted yield curve\u201d recession indicator really is. We won\u2019t dive deeply into this. But let\u2019s just accept that there is no fool-proof way to predict a recession. A better approach to assessing the health of the economy and formulating a market forecast is to review the broader economic environment. So, let\u2019s do that and see what the tea leaves tell us.<\/p>\n Unemployment continues to be near historic lows. The rate was 3.9% in December 2018. We can reasonably call that full employment. Inflation remains subdued. Prices actually fell early in the first quarter and inflation remains stubbornly below the Federal Reserve\u2019s target rate of 2%. Wages rose in February at the fastest rate in nearly a decade. That gives consumers, who drive two-thirds of economic output, more money to spend.<\/p>\n But, there are some clouds. Corporate profits, after being fueled by a significant tax cut, have leveled off, fell 1.7% in the fourth quarter of 2018, and are expected to decline 3.9% in the first quarter of 2019. Consumer spending has been trending down, as has consumer confidence. Rising wages mean higher labor costs. Gross Domestic Product (a measure of economic output) rose 2.2% in the fourth quarter of 2018, which was down from the pace of prior quarters.<\/p>\n There are a host of issues internationally. Britain cannot seem to come up with a plan to exit the European Union (Brexit). Italy is in recession. Interest rates went negative again in Germany (measured by the 10-year Bund). Growth is slowing in the EU and in China. All of the weakness in Europe has caused the European Central Bank to indicate it will keep interest rates below zero until the end of the year. The United States and China continue to negotiate a trade agreement, and there is uncertainty that Congress will approve the trade deal the Trump administration negotiated with Mexico and Canada.<\/p>\n Notwithstanding all of those factors, the single greatest force affecting markets is the US Federal Reserve Bank. The Fed has raised rates nine times since late 2015. There were four increases last year. The stock market sell-off late last year was largely a reaction to the perception that the Fed planned to continue to raise rates despite economic softening in the US and abroad. Once the Fed came out and indicated that further rate increases were \u201con pause,\u201d markets rose quickly, reacting to the positive news. The futures markets are actually pricing a 30% chance of a cut in interest rates at the June meeting of the Federal Reserve\u2019s Open Market Committee and a 64% chance by the end of the year.<\/p>\n So, what can we make of all of this? It\u2019s really hard to say. It\u2019s bit of a mixed bag. The global economy appears to be slowing. However, central banks around the world appear poised to intervene to provide support. Can they do enough to avert a global recession? Time will tell. <\/p>\n