Inside Markets — Room for Asset Prices to Fall

Equity markets started pricing for an increased probability of recession after a large drop in ISM manufacturing and big increase in weekly jobless claims on 8/1 was followed by a July payroll miss on 8/2. Recall the July payroll miss also included a surprise increase in the Unemployment Rate (UR) that triggered the Fed’s Sahm Recession Indicator.  Most sell-side economists raised the probability of a recession over that weekend to something in the 25-35% range from 10-25%.  A week later, markets woke up to a BOJ rate hike, yen strength, accelerated unwinding of the crowded yen carry trade and a sharp spike in implied market volatility.  The SPX has completely retraced the downside caused by the spike in volatility but has yet to reclaim levels prior to the July payroll miss (5447) on lingering growth concerns.

The SPX traded above 5447 intraday but the close is all that matters.  An inline July retail sales report tomorrow is likely all that’s needed to erase most of those growth concerns and push the index sustainably north of 5447.  Consensus is looking for headline retail sales of +0.4% MoM but anything above +0.2% would likely be considered a win. That may seem like a favorable setup into the print, but the SPX is no longer priced for a recessionary outcome and the short-term risk/reward remains skewed to the downside.  Twenty+ months of yield curve inversion should make everyone more recession-conscious, but an inline retail sales number and a sustained break above 5447 would temporarily remove those concerns from the market narrative.  The SPX isn’t currently priced for a recessionary outcome and there’s room for asset prices to fall if growth concerns reemerge.