By Anthony Harrington
One of the more certain facts about recessions is that they are generally spotted only with the benefit of hindsight. You have to wait for the figures to come in, and then you discover, as the official statistics are revised downwards, that where you thought you were enjoying trend growth, the economy had already slid over the fine line dividing forward from backward momentum.
As John Hussman notes in his blog on 13th May "Dancing at the Edge of a Cliff", before the 2001 recession in the US, GDP growth was reported as being 2%, pretty similar to the 2.2% growth the US reported for the first quarter of 2012. In fact 12 months after the 2001 forecast, the US GDP growth figure was revised down to -1.3% and it became clear that the quarter was in fact the start of the 2001 recession.
The relevance of all this is that Hussman, who specializes in extracting good economic signals from what he accurately calls "noise", or the clutter of competing signals, reckons that the US economy went into recession in May and that talk of GDP growth is mistaken. However, the downward revision to the "actual" number will only come way after the fact.
Of course, Hussman is only one economic forecaster and there are any number of them out there. And one economist crying "fire" doesn't make for a conflagration. However, there is much to ponder in his latest blog, and not much of it is comforting. Hussman highlights a confluence of factors all pointing to a major economic downturn. These include "the joint deterioration in the growth of real personal income real personal consumption, real final sales and employment" and the fact that the Federal Reserve's fiscal stimulus programmes, QE2 and Operation Twist, despite being on a massive scale, have had little impact on the real economy.
Hussman's analysis of the US stock market, made just days before the big sell off in the S&P and the Dow began, was that it was displaying all the signs of what he calls an
"overvalued, overbought, overbullish, rising-yields syndrome".
One feature of this is that the markets start to "bake-in" impossibly high expectations of profit generation from the leading stocks in the indices. When these fail to materialize a tail-spin inevitably ensues. Just to put this in context, on 1 May the S&P 500 rose to 1415 and looked like returning to the high point of 1421 reached on 27th March.
By 13th May, when Hussman's blog was posted, the S&P had slipped to 1349, but only a handful of traders were producing graphs that showed the S&P falling off a cliff. Most saw this as a temporary blip caused by yet another recycling of the European sovereign debt crisis. Most analysts were pointing to the imminent IPO of Facebook, which launched on Friday 18th May, as a positive event that would keep markets buoyant and that would sustain investor interest in stocks. As we now know, the Facebook IPO was, technically, a bust, with the stock losing some 10% of its value in the first three days following the IPO. Where it goes from here is anyone's guess, but this IPO certainly will not do a lot for investor confidence.
By the close on Friday 18th May, the S&P had slipped below 1300, to 1298 and technical chart analysts were celebrating the fact that the S&P was "toast" and all their short bets were paying off in spades. Hussman's warning to his investor base that we were going through a period of "extreme market risk" , i.e. a period with a high probability of a significant collapse in asset values, appears to have taken only five days to come to fruition.
Granted, at just below 1300, the S&P is way up on the 1010 low point it hit on 30th June 2010 and on a monthly chart progress since 2010 has been good. But what Hussman is flagging up is that the broad macro economic picture does not support the view that markets are going to be able to deliver reasonable returns for investors through 2012 and 2013 - and this is before the marekt turmoil that will surely follow a Greek exit, which is looking more and more likely.
If, as Hussman suggests, investors twig that the current earnings multiples that are implicit in present stock market valuations are impossible to achieve, we are likely to see carnage on the stock markets. There are currently an awful lot of marbles rolling around and as economists like to say, the risks are all to the downside.