Photo: Wikimedia Commons
Now that the debt ceiling fight is (almost) over, we can get back to the important stuff, like the collapsing US recovery.The latest from John Hussman is very good, spelling out some early warning signs.
We’ll let him take it away.
The components of our recession warning composite might be called “weak learners” in that none of them, individually, has a particularly notable record in anticipating recessions. The full syndrome of conditions, however, captures a critical “signature” of recessions. That signature of “early warning” conditions is based on financial market indicators including credit spreads, equity prices and yield curve behaviour, coupled with slowing in measures of employment and business activity. Every historical instance of this full syndrome has been associated with an ongoing or immediately impending recession.
The components (which I’ve reordered for simplicity) are:
1: Widening credit spreads: An increase over the past 6 months in either the spread between commercial paper and 3-month Treasury yields, or between the Dow Corporate Bond Index yield and 10-year Treasury yields.
2: Falling stock prices: S&P 500 below its level of 6 months earlier. This is not terribly unusual by itself, which is why people say that market declines have called 11 of the past 6 recessions, but falling stock prices are very important as part of the broader syndrome.
3: Weak ISM Purchasing Managers Index: PMI below 50, or,
3: (alternate): Moderating ISM and employment growth: PMI below 54, coupled with slowing employment growth: either total nonfarm employment growth below 1.3% over the preceding year (this is a figure that Marty Zweig noted in a Barron’s piece many years ago), or an unemployment rate up 0.4% or more from its 12-month low.
4: Moderate or flat yield curve: 10-year Treasury yield no more than 2.5% above 3-month Treasury yields if condition 3 is in effect, or any difference of less than 3.1% if 3(alternate) is in effect (again, this criterion doesn’t create a strong risk of recession in and of itself).
At present, both measures of credit spreads in condition 1 are widening, the S&P 500 is within about one per cent of its level 6 months ago, the Purchasing Managers Index is at 55.3%, total nonfarm payrolls have grown by only 0.8% over the past year, the unemployment rate is up 0.4% from its March 2011 low, and the Treasury yield spread is just 2.7%. From the standpoint of this composite, we would require only modest deterioration in stock prices and the ISM index to produce serious recession concerns.
Note that this came out Sunday night. Since then we got a weak ISM, lower stocks, and contrary to Hussman’s expectations elsewhere in his piece, the debt ceiling near-resolution hasn’t produced a relief rally.