Recession Is Coming

Includes: BP, JNJ, SPY
by: Disruptive Investor

There is no doubt that the US economy has been resilient in the last few quarters when compared to the economic performance in the eurozone. The sustainability of this resilience is however doubtful as few economic indicators are pointing to weakness or a probable recession in the U.S. economy. This article discusses some indicators and an investment conclusion in the current scenario.

The first indicator of an increasing weakness in the economy is the manufacturing PMI, which is currently at a seven-month low. The charts below give the U.S. manufacturing PMI and U.S. manufacturing output for the last six years. It is clear from both the charts that growth in the manufacturing sector has slumped sharply in the recent past. If this trend continues, the U.S. economy might not be very far from a manufacturing sector recession.

In the U.S., retail sales are another good indicator of where the economy is headed. The chart below gives the retail sales (excluding autos) for the last six years. As evident, retail sales growth was negative for the last two months indicating that spending by consumers has stalled. This will certainly impact the second-quarter GDP growth numbers. More importantly, it would be interesting to see if the sluggish trend continues (very likely).

Another indicator, which points to a growing probability of a recession, is the 10-year Treasury spread as shown in the chart below. Certainly, I am not suggesting a recession next quarter. The point I am trying to make here is that the economy is clearly in a downturn and things can get worse over the next few quarters.

Investors might argue that the Fed is prepared to expand its asset purchase program and hence there might be no recession. I would like to mention that the Fed's policies have primarily helped banks and asset markets. There is little the Fed can do to spur economic growth. As the chart below shows, money velocity is at a 50-year low indicating very weak real economic activity. Therefore, investors should not have high hopes with the Fed when it comes to a bailout of the real economy.

For sure, by expanding the asset purchase program, the policymakers can support asset markets. It follows that investors can consider exposure to quality stocks on correction for the long term. As long as expansionary monetary policies continue, equities will trend higher. Amidst this uptrend, there can always be sharp corrections. I personally do expect the U.S. markets to correct steeply over the next 3-6 months. Investors can book profits at this point in time and buy equities again on a probable 15-20% correction (or even more).

My suggestion in terms of stocks and ETFs would be -

SPDR S&P 500 ETF (NYSEARCA:SPY): It has been proven that beating the index is not an easy task. Therefore, the strategy should be simple -- beat the index or invest in the index. From this perspective, SPY looks interesting. The ETF provides investment results that, before expenses, generally correspond to the price and yield performance of the S&P 500 Index.

Johnson & Johnson (NYSE:JNJ): is a good long-term investment option. I like this highly diversified healthcare company with product as well as regional diversification. Further, the sector JNJ caters to is not very prone to economic shocks. JNJ has been a good dividend payer in the past, with a dividend yield of 3.1%. In my opinion, the stock is excellent for a long-term portfolio. It also commands a higher rating than the U.S. sovereign rating.

BP Plc (NYSE:BP): is an attractive long-term buy due to several reasons: excellent and diversified asset base, presence across the value chain, presence in alternative investment themes and a good dividend yield of 5.0%. Further, the P/E is at an attractive level of 6.07. Overall, BP is well positioned to take advantage of the long-term appreciation in crude oil prices.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.