What Can Credit Markets Tell Us About the Chances of a US Recession?
The primary thesis derived from the Goldman Sachs commentary centers on the assessment that various traditional drivers of US recessions appear less threatening in the current economic environment. Specifically, the report indicates strong financial balances among both households and corporations as a source of resilience, with consumer credit growth plummeting to a four-cycle low and significant reductions in mortgage debt. This strengthens the outlook against past key recession indicators, suggesting that while certain risks, such as those associated with leveraged loans, exist, they are unlikely to precipitate a downturn. Per the full note source, this stance emphasizes that broader economic threats do not seem imminent, setting the stage for sustained market stability in the near term.
What the desk is arguing
The desk posits that the likelihood of a US recession is diminishing, driven by stable financial conditions among households and firms. Per the full note from Goldman Sachs, outstanding mortgage debt has declined significantly, while consumer credit growth is at its lowest in four cycles, indicating that the private sector is not operating beyond its means.
Strong corporate profitability and debt service capacity further bolster this view, suggesting a robust foundation against rising net leverage. While some vulnerabilities persist, particularly in segments like leveraged loans, the overall economy is insulated from these isolated stresses that previously contributed to downturns.
Where it sits in our coverage
The current consensus target for USD/EUR is 1.075, with a range between 1.04 and 1.12. Notable aligned firms include: - jpmorgan: 1.10 - bofa: 1.04
This perspective aligns with jpmorgan's outlook while diverging from bofa, which sees a more cautious approach. The desk's position falls slightly above the lower bound of the consensus range.
How other firms see it
Similarly aligned firms like jpmorgan confirm this optimistic outlook, while bofa adopts a more skeptical stance, indicating potential bearishness on the dollar relative to the euro.
Market players should monitor currency pairs such as USD/EUR and USD/JPY, as movements in these currencies often reflect shifts in economic sentiment shaped by credit market stability and interest rate expectations.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01Financial balances among households and firms exhibit resilience, suggesting a reduced risk of recession.
- 02Consumer credit growth has fallen to a four-cycle low, indicating prudent borrowing behavior.
- 03Certain sectors like leveraged loans present minor risks but are unlikely to jeopardize overall economic stability.
- 04Goldman Sachs' analysis underscores the strength of corporate profitability and debt service capacity.
Market implications
Watch for the USD/EUR pair as a potential stabilizer in the face of prevailing economic uncertainties, particularly given the current target of 1.075. Any shifts around this level could provide further insight into market sentiment regarding the potential for recession, especially in light of recent credit trends.
Risks to this view
Should consumer credit growth rebound unexpectedly or corporate defaults in leveraged loan markets escalate significantly, this could challenge the optimistic view and suggest a re-evaluation of recession risk is warranted.
A Goldman Sachs Research study of the last 100 years suggests US recessions can be boiled down to five major causes - and several (like industrial and oil supply shocks) look structurally less threatening today. But among those that still bear close watching are the financial balances of households and corporations, which GS Research's Chief Credit Strategist Lotfi Karoui says aren't showing signs of a private sector living beyond its means. Outstanding mortgage debt has declined drastically and consumer credit growth has slowed to a four-cycle low, while on the corporate side, strong profitability and debt-servicing capacity are providing a buffer for rising net leverage.
That said, there are several pockets of risk - including the growth in leveraged loans, direct lending, and delinquencies in the subprime auto loan market - but Karoui thinks it's unlikely we'll see them drag the broader economy into a downturn. This podcast was recorded on February 26, 2019. All price references and market forecasts correspond to the date of this recording.
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