'It's As If The Whole Country Takes A Pay Cut:' Top Economist Warns Of A Recession And Another 23% Drop In Stocks But Highlights Opportunity For Those With 'Dry Powder'
Fears of a recession have mounted since the U.S. Federal Reserve began hiking interest rates in early 2022.
Although the latest gross domestic product (GDP) figures indicated growth, a recession could be imminent according to David Rosenberg, president of Rosenberg Research and former chief North American economist at Merrill Lynch.
“The leading indicators are telling me that the recession is actually starting this quarter,” he said in a recent YouTube interview with Blockworks Macro. “If it’s not this quarter I think it’s next quarter. It’s certainly not a 2024 story.”
With rampant inflation, many Americans are grappling with wages that struggle to keep up with the rising cost of living. Should a recession materialize, it could result in greater financial hardships.
“A recession is a very big call because it is actually a haircut to national income. It's as if the whole country takes a pay cut,” Rosenberg explains. “It's not that we take the Lamborghini from 80 down to 20. It's that we go in reverse.”
Meanwhile, a recession could also spell trouble for the stock market.
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Downside Ahead
Stocks had a terrible run in 2022, with the S&P 500 plunging 19.4%. While they’ve bounced back a bit in 2023 — the benchmark index is up 9% year to date — Rosenberg doesn’t believe the turmoil is over.
“I am bearish on equities as an asset class,” Rosenberg said, adding that he doesn’t believe “a recession is fully priced in.”
The reason behind his negative outlook on equities has to do with valuation.
“I don’t like the valuations. I mean, we’re pressing against a 19 forward multiple,” he said, referring to the forward price-to-earnings ratio. “So what does that get you? Like 5.3% as an earnings yield. I can pick up 5.4[%] in single-A triple-B corporate credit ... wind up in a better part of the capital structure.”
What Rosenberg means is that investment-grade corporate bonds (triple B is the lowest credit rating still classified as investment grade) are now offering decent yields compared to the earnings yield of stocks. And because debt has priority over equity in a company’s capital structure — bondholders have a higher claim on a company’s assets and income than shareholders — corporate credit could be an opportunity.
Indeed, amid rising interest rates, numerous opportunities have emerged for yield-seeking investors. Many savings accounts today pay high interest rates. Meanwhile, private credit investments can offer even bigger yields for investors who want to diversify their portfolios but aren’t satisfied with most savings accounts or certificates of deposit (CDs).
From Weak Hands To Strong Hands
Rosenberg has a price target of around 3,200 for the S&P 500.
The target is based on his assumption that the U.S. economy will enter a recession, resulting in a “classic 20% hit to earnings.” At the same time, he assumes that multiples will bottom at 15 or 16.
Because the S&P 500 currently sits at 4,169, the economist’s target implies a downside of 23%.
It’s not a good picture, but there is a silver lining.
“It will be painful if you're long, but if you have the dry powder and the liquidity, you'll be able to pick up assets at better levels as you always do in a recession,” Rosenberg said.
In other words, when the recession comes and stocks tumble, investors can take advantage of better prices by buying the dip.
“The beauty of recessions is that they cleanse, and they move assets from weak hands to strong hands,” he said.
As you’d expect from this projection, Rosenberg is not heavily invested in stocks at the moment. He said his portfolio has the lowest weighting in equities since 2007.
So where is he putting his money?
“I have long-short strategies, I have bonds, and I have gold, and I have some alternatives,” he said. “I’m trying to be as noncorrelated with GDP as possible.”
These days, it’s easy for retail investors to tap into recession-resistant alternative assets like real estate - even with as little as $100. Plus, some of these assets could help investors diversify their portfolios while also providing a passive income stream.
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