Although I predicted that ECRI and other leading indicators could be flashing a recession signal by September, I have not committed to the notion that a US recession is inevitable. In this regard, I believe that ECRI, Roubini and other pundits may be jumping the gun.
It is my view that the US economy is experiencing a slowdown that may or may not evolve into a recession.
The key variable at this point is the evolution of social psychology– business and consumer. A deterioration of consumer and business sentiment caused the current slowdown; by the same token an improvement in consumer and business sentiment could bring about a reacceleration of the economy.
The Role of Sentiment
Prior to late July of 2011, it was my position that various structural forces pointed in the direction of a sustained, albeit slow, economic recovery. However, major sentiment shocks in Europe and the US have jeopardized the recovery dynamic.
As things stand right now, it is my view the economic slowdown caused by shocks to sentiment is still reversible. However, if the forces driving the deterioration persist – primarily uncertainty surrounding policy decisions in the US and Europe -- the structural foundations of recovery will be jeopardized.
Consumer and business psychology is a critical factor in any economic recovery. The way people are feeling about the economic environment has an important impact on spending decisions – both quantity and timing. By the same token, the way business owners and managers are feeling about the business environment has a major impact on their decisions regarding investment and hiring.
When consumers and businesses postpone consumption and/or investment decisions due to situational changes in sentiment, aggregate demand is not necessarily destroyed – it may be merely postponed, or “pent up.” If conditions are such that pent-up demand is released in a given time-frame in the future, the economic numbers will tend to be be “juiced” at that time.
This is the upside scenario for the US economy in the next few months. If policymakers can restore confidence in the US and Europe, pent-up demand could manifest, providing a considerable spark to the economy.
On the other hand, if confidence remains low and/or deteriorates further, decisions to postpone consumption and/or investment expenditure can go from being temporary to permanent. When this occurs, a “new normal” level of expenditure tends to be established at a lower level to match lowered expectations. This is how a recession manifests.
It is not possible at this juncture to say definitively whether policymakers will be able to sufficiency restore confidence such that consumer and business expenditure plans are reset to higher levels consistent with an economic expansion.
What I will venture to say is that this question will not be resolved in the short-term and that the doubts regarding the possibility of a new recession will continue to weigh on equity markets for several months.
For this reason I fully expect US stocks to retest recent lows and to ultimately test my target area of 950-1,020 on the S&P 500.
Notwithstanding the fact that I believe that US equities currently are attractively priced on a long-term view, for reasons that I have detailed fully in previous articles, I believe that stocks such as Apple (NASDAQ:AAPL), Microsoft (NASDAQ:MSFT), Intel (NASDAQ:INTC), AT&T (NYSE:T), Verizon (NYSE:VZ), Pepsi (NYSE:PEP) and Goldman Sachs (NYSE:GS) will ultimately be available for purchase at prices 15%-25% below current levels.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.