Weekly Economic Report
The US economy is cooling, but so far not nearly enough that the Federal Reserve would lower rates imminently – never mind by almost seventy-five basis points in 2019 as is currently priced into the fixed income markets. We are not saying they will never ease, but real economic data available now only signals a stall, as in 2012-13 and 2015-16, not the start of a recession (or even a growth recession). In both of those cases, the Federal Reserve stopped tightening policy, but they did not increase accommodation. This year, the Fed already has backed away from quantitative tightening and indicated that rates are on hold. We expect the bar for actually easing is far higher than currently anticipated by an equity market that is trading less than 3% below the all-time high in the S&P500. The widespread belief among investors that either Trump will back down on the trade war (we see that as a low probability) or that the Federal Reserve will ease reflects over-optimism in a Trump put. We expect that equity markets will have to come to grips with the reality that so far most of the adjustment to a slowing economy has come via weaker pricing power and narrower profit margins. Until either businesses react by reducing hiring more significantly, we believe it is equity market that faces the greatest risk of adjustment. If hiring fades further, we may see some Fed ease – but before they get to three rounds, we would expect an economic rebound. Meanwhile, a further ramping up of the trade war against either Mexico or China holds risk for equities as well.