Q3 2019 commentary: So much talk about recession …

Photo of a large group of people to signify that everyone is talking about a recession on the horizon.

The third quarter of 2019 was a storm before the calm. Attitudes can change as fast as the weather, can’t they?

In July, the United States stock market hit all-time highs and 10-year U.S. Treasury bond yields (interest paid by the price of the bond) stabilized. All was right with the world.

But in August, attitudes changed as 30-year U.S. Treasury bond yields fell to a new record low, and 10-year yields inched up. What this means is investors are flocking to investments they think are “safe,” and they’re bidding up the price so much it’s driving the yield down. They’re paying more and more for less interest, just for the feeling that they’ll get their money back.

Why does anybody care about Treasury yields? Well, big investors see those government bond yields as the ultimate economic indicator. They thought the August plunge meant trouble, and a recession would be right around the corner. Then trade tensions escalated between the U.S. and China. Plus, the U.S. stock market bounced around over 10 days in August, which was the most gloomy month since February 2018.

Graphic of a thumbtack. Tip: Market volatility can play a big role in the performance of investments over time. And while you can’t control it, there are actions you can take to potentially minimize the impact on your retirement someday. To learn more, watch this video: Coping with market volatility.

So where are we now?

Trade conflicts and tariffs between the U.S. and China are making business leaders nervous. And when they’re nervous, they tend to hold off spending on big-ticket items like new equipment or new factories. Think about it: Why build a fancy new machine to help your company produce more if you’re not sure what demand will be next year?

But there are some positives around a healthy U.S. job market and business in general, both of which are stabilizing factors for an economy.

  • There have been few layoff announcements, even with the current trade conflicts.
  • Claims for unemployment benefits haven’t gone up.
  • American workers are seeing higher paychecks. And higher paychecks tend to mean more consumer spending, which pushes the economy forward.
  • Second-quarter corporate profits were up. When businesses are making money, they’re less likely to start cutting back.
  • Plus, the U.S. and China announced some relaxation on trade tensions in mid-September, which might mean things are looking up.

There are other positive signs, too.

  • Consumer spending is robust and appears on track for a strong gain this quarter.
  • Bank loans are rising. That’s good news because people and businesses won’t take out new loans if they’re scared about the future.
  • Gas prices have fallen, which helps personal (and business) budgets.
  • Household debt isn’t out of control. That’s a good sign because people with lower levels of debt have more financial flexibility in case there’s a downturn.

What’s a recession? How do we know when we’re in one?

We asked Bob Baur, our chief global economist:

“It’s kind of complicated,” he says. Typically, economists call a recession when there’s a 2-quarter decline in the gross domestic product (GDP; the total of all U.S. output).

Recessions are officially declared by a committee at the National Bureau of Economic Research (NBER). They look at several pieces of data: total employment in the U.S., real household income (inflation-adjusted), wholesale and retail sales, as well as industrial production.

The NBER defines a recession as a sizable decline in all 4 pieces of data over an extended time, like several months or quarters in a row. Then at some point in the future, the committee can put a date on when that recession actually began.

Recession: more likely in 2021

“We think it’s too early to plan for recession over the next year,” says Bob Baur, chief global economist at Principal®. “That’s more likely a 2021 story. This record-long U.S. growth still has legs. A healthy labor market and vigorous wage gains are helping consumers, and that’s keeping a slump at bay.”

Baur says the economy is slowing, though. “While the end of the business cycle is somewhere in the future, we don’t think its imminent, so cashing out of equities is likely too drastic a step just yet. We think there’s still a little upside in large-cap U.S. stocks, balanced between sectors,” Baur says.

We think it’s too early to plan for recession within the next year. This record-long U.S. growth still has legs.”

– Bob Baur, chief global economist, Principal

Could we talk ourselves into a recession?

“Sure, we could,” Baur says. “A further downward spiral in sentiment would be trouble. It could start a self-fulfilling cycle of layoffs, puny wage growth, anemic consumer spending, and lousy profits.”

Has that ever happened? Bauer says past U.S. recessions have mostly begun after a shock or imbalance in the economy, which then impacts sentiment. He’s seeing few imbalances right now.

Looking ahead to Q4 2019

Escalating trade conflicts and tariffs in August did affect attitudes and likely delayed further economic recovery. So where could the economy go from here?

“We think there will be growth in the U.S. this year and expect modest fading late next year. Better growth suggests equity markets could rebound from any summer relapse and long-term interest rates might bounce from their current super-low levels, along with stocks, for a while,” Baur says.

What can you do?

Make sure market volatility hasn’t bumped your portfolio out of balance.

When markets move up and down, your balance between stocks, bonds, and other investments may get out of whack. It could be time to ensure your allocations still match your long-term financial goals. Log in to look at your latest statement to see if the mix of investments is still right for your risk tolerance. If not, you could “rebalance” by moving some money around.

To learn more, read about rebalancing your asset allocation. You could also take this risk tolerance quiz (PDF) to see if your investment strategy could use an update.

Get help from a financial advisor.

An advisor can help you with a personalized asset allocation plan. If you don’t have a financial advisor, find one near you.

The subject matter in this communication is educational only and provided with the understanding that Principal® is not rendering legal, accounting, investment advice or tax advice. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, investment or accounting obligations and requirements. 

Investing involves risk, including possible loss of principal. Asset allocation and diversification do not ensure a profit or protect against a loss.

Equity investment options involve greater risk, including heightened volatility, than fixed-income investment options.

Fixed-income investments are subject to interest rate risk; as interest rates rise their value will decline.

Real Estate investment options are subject to investment and liquidity risk and other risks inherent in real estate such as those associated with general and local economic conditions. Property values can decline due to environmental and other reasons. In addition, fluctuation in interest rates can negatively impact the performance of real estate investment options.

The commentary represents the opinions of Principal Global Investors. It should not be considered investment advice. No forecast based on the opinions expressed can be guaranteed and may be subject to change without notice.  No investment strategy, such as diversification, can guarantee profit or protect against loss. 

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