Pomona Wealth Market Comment August 2022 - The battle of definitions
The US economy has recorded a second consecutive quarter of negative GDP and we are seeing the recurring fight between journalists and economist about the definition of what a recession means. It may well be a meaningless simplification as countries with shrinking populations are more likely to have negative GDP and this affects about 40% of the global economy currently. It says nothing about whether growth is normalizing, whether there is spare capacity and what consumers are experiencing.
The danger of using an incorrect definition for the word recession means investors are tempted to make false comparisons to genuine recessions when growth has been meaningfully below trend. The US may be driven into a recession in the future and the erratic Fed certainly seems to be trying to increase risks. However, with real consumer spending growing in line with pre-pandemic trends, unemployment at a whisker above its all-time low and 2.7 million jobs created over the first half of this year, it is hard to suggest that this in any way is comparable to a genuine recession. Otherwise, investors would be better off not looking to past genuine recessions as a guide to today’s extremely complicated economic environment.
Financial markets have put the worries about a recession in the US behind them. All major indices gained for another winning week, capping the best month for stocks in 2022. It was also a week that perfectly exemplified why it is often the expectations that matter far more than the actual numbers reported. On the macro front, in addition to a 75 basis point rate hike from the Federal Reserve on Wednesday, we received the advance read on the second-quarter gross domestic price index that clearly showed a slowing economy. Then, on the earnings front, we heard from the mega-cap names responsible for over 20% of the S&P 500′s market valuation. and despite mostly good results with guidance from all of them on the times ahead, these stocks (with the exception of Meta Platforms) managed to react positively. So, worrisome economic data combined with mixed earnings releases still led to a broad market rally in July. Just as the month was ending, we had a preview of the hotter-than-expected inflationary reading. While it was above expectations, it is important to remember that these readings are backward looking (it was a June reading, and we are now at the beginning of August). As a result, investors may not be putting as much weight on the print given the Federal Reserve did raise rates this week by 75 basis points. All in all, a Fed rate increase, plus quarterly earnings commentary from management teams trumped outdated data. In our view, this ability for the market to shrug off weakening economic conditions and mixed earnings results from key stock market bellwethers is a sign that investors were expecting these updates and may have finally priced the economic reality into the market, providing the ingredients needed to put in a near-term bottom. While that does not mean we will shoot higher in a straight line, it does give cause to be more optimistic as we move forward and some breathing room to allow the economic picture to further develop.
Switzerland, August 1st, 2022