“We’re sick and tired of your ism schism”, Credit Suisse writes, quoting Bob Marley, in the course of projecting a lackluster rebound in industrial production in 2020.
The bank is wary of projecting recessions based on factory slumps. Although contraction-territory PMIs make for scary headlines (and therefore compelling reading), the truth is, it takes more than a few months of sub-50 prints on manufacturing gauges to push a diversified, developed economy over the cliff.
And it’s a good thing, because ISM manufacturing has been below 50 since August, even as other indicators suggest things have inflected for the better after the late summer swoon. Indeed, there’s a sense in which ISM is now the outlier, perhaps presaging an imminent upturn.
In any event, Credit Suisse reminds you that “recessions in diversified, services-centric economies occur when an interplay among fragile balance sheets, reduced economic activity, and financial shocks causes even routine spending by firms and households to be pared back”.
And yet, that never stops markets from reacting strongly (sometimes violently) to ISM, something the bank says investors “should be wary of over-interpreting”.
Getting back to Bob (i.e., back to the quote employed here at the outset), the bank’s James Sweeney notes that the idea of factionalism “driving like-minded people apart in destructive ways… feels relevant today” given the fractious political environment both at home and abroad. Many investors, he writes, see elections (as opposed to recession risk) as the main concern for financial markets. Playing on the schism theme, Credit Suisse says that when ISM manufacturing first dipped below 50 late in the summer, “it re-opened the riff between those predicting imminent recession and those expecting calm”.
The bank looks at the history of industrial production momentum before and after troughs. As you can see from the visual, the projection for the current “rebound” suggests a rather subdued bounce versus historical inflections. As Sweeney puts it, “our forecast is wimpy”.
What’s with the “wimpy?” Well, for one thing, rampant uncertainty likely isn’t going to abate even if the “Phase One” trade deal comes to fruition. In addition to the fact that Chinese officials recently told Reuters there likely won’t be a discussion around “Phase Two” during the election year in the US, the election itself is a source of consternation for corporate management teams who, in the event of a Democratic sweep, would be forced to ponder an overhauled tax regime.
If you’re looking for “schisms”, look no further than the divide between consumer/investor confidence and CEOs:
Lackluster C-suite confidence translates directly into subdued business investment – or at least that’s the common sense takeaway.
“The reason for our wimpy forecast is that we expect business investment to remain subpar in developed markets next year”, Credit Suisse says, adding that “in the United States, CEO uncertainty is unlikely to abate as the election approaches [while] in China, weak manufacturing investment is likely to persist, even if tariffs are somewhat reduced”.
On the bright side, the implication from Figure 2 (above) is that there’s clear upside “risk” on any definitive resolution to the trade war or, perhaps, on the nomination of a centrist Democratic candidate in the US.
Although the bank’s Sweeney proceeds to take a fairly deep dive into the country-by-country outlook, he summarizes the opening section of what is ultimately a long note, by promising to “eschew guessing games on the size of the tariff reductions, the name of the Democratic nominee, and the mood of investors six months from now”. Instead, he offers five “key points” as 2019 ends. They are:
- a near term rebound is likely
- true recession risks remain elevated but are not extreme and probably not oscillating sharply with PMIs
- upside and downside risks to growth exist for 2020, and most investors seem not to think about the upside very much
- labor market stress in developed economies would lead to a much deeper downturn (and raise recession risks significantly) but there are no signs of this now
- the vigor and extent of this rebound will strongly depend on the willingness of businesses to invest in a highly polarized setting
In short: Underappreciated upside risks (i.e., investors are still scared of their shadows right now and may still be underestimating the potential for positive macro surprises, even as tariff relief is probably priced in) are set against “polarized” politics.
One crucial point to keep in mind is that should the latter end up manifesting itself in dramatically unfriendly outcomes for markets, monetary policy is out of ammo.