Recession Roulette: Why Investors are Rolling the Wrong Dice and Gambling with Their Fortune
Betting on a recession might be risky business. Neil Dutta, head of economics at Renaissance Macro Research, recently argued that while some investors are betting that the economy is headed toward an abrupt recession and that inflation is going to subside, this may be akin to playing financial Russian roulette.
“A popular phrase among investors and analysts is “the bond market is always right.” From predicting downturns to the Federal Reserve’s next move, the bond market’s historical forecasting track record and its “wisdom of the crowd” quality have given it a near-mythic reputation among Wall Street analysts,” Dutta wrote in a Business Insider article.
Dutta added that given the mantra’s popularity, investors should tread carefully given the current, uncertain, economic conditions.
“That said, it’s also important to acknowledge when the bond market is off base, because when the market’s expectations run into a vastly different reality, things tend to go haywire — and investors can lose (or make) a lot of money depending on how they’re positioned. And it’s becoming increasingly clear that the bond market is reading the economic tea leaves all wrong,” he added.
According to him, the bond market currently suggests that the economy is on the verge of a recession that will force the Federal Reserve to cut interest rates to stimulate activity. Yet, “actual economic data,” points to continued growth for the U.S.
“And the longer the market expectation diverges from the economic reality, the more painful the market adjustment will be once it happens,” he said.
He further argued that while a recession should not be ruled out, “most of the headwinds are abating,” including a drop in mortgage rates, and a slowdown in energy inflation. As for the “credit crunch” that could be triggered by the bank failures and ensuing turmoil, “so far, signs point to no crisis,”
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“Today, predicting a recession means relying on a select few signals to justify your call. I don’t think the Wall Street aphorism about the bond market being “right” holds up this time. As I mentioned, the consensus assumes a sudden stop in the economy, so even if conditions are just OK for the economy, the divergence with the baseline could cause a serious market mess,” he added.
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