Dashboard of a downturn: global recession signals
By Sujata Rao and Ritvik Carvalho
(Reuters) – As the U.S.-China trade war erodes confidence and central banks prepare to unleash another wave of stimulus, investors are checking which advance warning indicators might be forecasting a global economic recession.
A decade after the 2008 financial crisis, one of the most accurate predictors of U.S recessions – inversion of the government bond yield curve – has kicked in.
But forecasting global recessions is trickier. Most countries simply can’t match U.S. data for breadth. Global recessions are also infrequent – before 2009, one would have to go back to 1990-1991 to find a period when the world economy actually shrank.
However, taking into account population growth and poor countries’ need for faster expansion rates, the broad rule of thumb is that world growth below 2% can be classed as recession.
A recession is not expected by the International Monetary Fund, which predicts 2020 world growth at 3.6%. Yet IMF chief economist Gita Gopinath highlights “many downside risks”, especially trade tensions.
“We are a world away from the 4% (growth) we were seeing back in 2017 when U.S., Europe and China were all growing strongly at the same time,” said Andrew Milligan, head of global strategy at Aberdeen Standard Investments.
“We are seeing several of those pistons within the global engine beginning to stutter.”
Here are 10 charts showing some frequently used recession indicators.
U.S. LEADS THE WORLD
If world’s biggest economy tips into recession, it’s very likely others will follow. So with three-month borrowing costs firmly above 10-year rates, markets are spooked — this curve inversion has predicted almost every recession in the past 50 years.
GRAPHIC: U.S. yield curve inverts – https://tmsnrt.rs/2RcSiCY
Chinese Premier Li Keqiang reportedly favors three indicators to monitor growth – freight volumes, power consumption and bank loans – unified in Fathom Consulting’s China Momentum Index.
The index started sliding in 2007, its decline accelerating in 2008 ahead of the global crisis that brought on the 2009 global recession.
It hit record lows below 2 in 2015-16 amid Chinese “hard landing” fears and is now around 5, versus almost 7 in 2018. The benchmark only goes back to 2002 so doesn’t capture the 1990-1991 global downturn.
GRAPHIC: China momentum indicator – https://tmsnrt.rs/2XbuGE6
If growth hinges on booming trade, alarm bells are sounding. Shipping benchmark, the (BDI), hit three-year lows in February. Having dipped during every previous recession, it remains 40% off year-ago levels. The BDI plunged almost 60% between May and September 2008 ahead of the Lehman crisis and rebounded briefly in 2010. It is currently around 1,194 points versus the 818 touched in 2008. The record low was around 315 points in 2016, when global growth slowed sharply.
GRAPHIC: Baltic Dry Index climbs off 3-year lows – https://tmsnrt.rs/2X8ILSU
Also the World Trade Monitor compiled by the Dutch CPB agency https://www.cpb.nl/en/worldtrademonitor shows trade volumes shrank last December on a year-year basis for the first time since January 2016.
GRAPHIC: Global Trade volume (CPB) – https://tmsnrt.rs/2XWb04g
WHAT DO PURCHASING MANAGERS THINK?
Purchasing Managers’ Indexes (PMI) have been reliable in predicting manufacturing and services trends. A global composite index from JPMorgan (NYSE:) is currently at the weakest since the 2016 growth scare, holding barely above 50 – the mark denoting economic expansion – while a new orders PMI has fallen under 50 for the first time since 2012.
“If the global composite PMI falls from say 53 to say 48 that on its own is a good enough signal (for recession),” Milligan said.
GRAPHIC: JPM global composite PMI – https://tmsnrt.rs/2XSWmup
INFLATION AND BONDS
Bond yields and inflation usually rise when growth is strong and vice-versa. But market-based inflation gauges – five-year forward swaps – have tumbled sharply this year. And 7-10 year yields on the Bloomberg/Barclays Multiverse, a global debt benchmark, are at the lowest since 2016.
GRAPHIC: Global multiverse bond index at lowest since 2016 – https://tmsnrt.rs/2XY2zp9
GOLD VS COPPER
Copper’s record as a boom-bust indicator has earned it the “Dr. Copper” moniker. And because gold is considered a store of value during recession, the gold/copper ratio can point where growth is heading. Very simply, if you think the economy’s tanking, you dump and buy gold. Consequently, gold has risen against copper during every previous growth scare episode.
“You could argue that at current levels copper is pricing, maybe not a recession, but certainly a slowdown,” said Carsten Menke, a commodities strategist at Julius Baer.
GRAPHIC: Copper-gold ratio – https://tmsnrt.rs/2XUNDrH
DEMAND FOR DEFENSIVES
Equity markets include shares that do well when the economy is robust and others which perform in tough times. The former category comprises ‘cyclicals’ – carmakers and retailers for instance – while downturns are often preceded by demand for ‘defensives’, which include utilities and consumer staples.
GRAPHIC: Cyclicals vs defensives – https://tmsnrt.rs/2X7ioN7
Financial conditions indices (FCI), comprising elements such as long-term borrowing costs, exchange rates and equity moves, show how supportive the backdrop is for growth. Tighter conditions are generally a negative.
A Goldman Sachs (NYSE:) index shows conditions tighter than year-ago levels, but down from October when an equity selloff sent the FCI to the tightest since 2016.
Goldman noted recently its U.S. FCI had risen 30 bps since end-April as the trade war re-ignited, enough to shave 25bp off growth in the next year if sustained.
GRAPHIC: Global financial conditions – https://tmsnrt.rs/31M3njl
Demand for goods or machinery can be gauged by checking the inventory-to-sales ratio. A high ratio indicates sales are down, leaving too much stock in warehouses. The U.S. inventory-to-sales ratio and Japanese inventory ratios for electronic goods touched three-year highs earlier this year.
GRAPHIC: Inventory-to-sales ratio – https://tmsnrt.rs/2Rd29sk