Sparing you the many details, the relentlessly positive economic data over the last few years has taken a turn during the second quarter (Q2). The first look at Q2 GDP growth will not be available for another three weeks, but I expect it to be substantially less than Q1 growth rate of 3.1 percent, which was skewed higher by inventory build-up ahead of the tariffs. Readers with the genetic code of “Chicken Little” will immediately assume the sky is falling. No, it is not falling — a depression is not upon us, but the economy is weakening somewhat. While I have no fear of a recession – they come and they go – the current economic data does suggest a slowdown, not a recession.
It is not insignificant that worldwide supply-chains are being re-examined, in light of the Trump tariffs. Re-working these supply chains does not happen overnight, and this lag-time will weigh on the economy for awhile and therefore weigh on the stock market.
How will this impact the stock market? Now that it has recovered, remember the Dow and S&P measure large company stocks, which are the companies most involved in international trade. It may be time to re-examine your exposure to mid-cap and small-cap stocks.
Besides economic data, there are also market signals. Think of money sloshing around between the stock market and the bond market. As money flows into one, that market goes up. Normally, when Wall Street worries about a recession, money flows out of the stock market into the bond market. Today, both markets are higher. The bond market is signalling tough times ahead, while the stock market is signalling sunshine ahead. This tells me two things – (1) money supply is too large if both markets are raging bulls and (2) the rush of IPOs this year has not be enough to offset the amount of buybacks, which reduces stocks available for purchase.
So, who do you believe? Bond-buyers or stock-buyers? If you don’t know, you might consider increasing your level of cash and/or market neutral funds.