August kicked off with a double dose of unwelcome news for investors: a lackluster July Purchasing Managers Index (PMI) report and a disappointing July jobs report.
Those twin pieces of troubling data stirred recession fears and roiled the market.
But, as recently as July 31, there was plenty of reason for optimism, both in the short term and in the long term. At that point, the S&P 500 index was up 16.7% for the year and the Nasdaq 100 index had gained 15.6%. Meanwhile, the Fed had indicated a willingness to start cutting interest rates again, beginning in September.
While the PMI and jobs reports soured market perception, Whittier Trust’s Chief Investment Officer Sandip A. Bhagat says they did not change the reality that the U.S. economy is continuing on a promising trajectory.
According to Bhagat, nothing that has occurred over the past week indicates that a recession is imminent or inevitable.
As he explained in an Aug. 5 client alert, while July’s manufacturing PMI reading was 46.8, down from the prior month’s 48.5 reading and also below consensus, it was more than offset by July’s services PMI, which was 51.4, above the prior month’s 48.8 level and also above consensus. Services represent a much larger portion of the U.S. economy.
The jobs report’s findings that the U.S. economy added 114,000 jobs in July – well below the expected 175,000 – and that unemployment rose from 4.1% to 4.3% were certainly disappointing, Bhagat acknowledged. But, he wrote, these statistic should not be taken as evidence that the jobs market has reached a dangerous tipping point.
The wait for rate cuts
Bhagat tells Family Business the data is consistent with an economy that has been gradually slowing for the past two years and has seen inflation return almost to normal after reaching a record high of 9.1% in July 2022.
The combination of falling inflation and slowing economic growth has created urgency for the Federal Reserve to commence another round of interest rate cuts, Bhagat says, adding that the sudden onset of market panic at the start of August has only increased that urgency.
“They really should start in September and then do November, December and maybe even January rate cuts, which I think they will do,” Bhagat says.
The question is, how low will they go? On that point, Bhagat is also optimistic, projecting the Fed will target a neutral rate of about 3.1%, which is lower than the recent market projection of 3.7%.
The Fed’s policy rate is currently at 5.4%, which means it has plenty of “cushion to cut through” to reach the neutral rate, Bhagat says.
“Growth is not about to fall off a cliff, a recession is not imminent, the Fed has a lot of opportunity to cut rates, this growth scare we’re in the middle of will induce them to cut rates, they will do it sooner rather than later, in my opinion, [and] they will follow through with not just one rate cut but two, three, four or five cuts.”
Now, for family business owners and their investment arms, patience is a virtue.
Investment professionals serving family enterprises should stay the course with their current portfolios, provided they’re already sufficiently diversified, according to Bhagat.
Meanwhile, he adds, family business owners whose companies are anticipating borrowing a significant amount of money for a major project in the near future may want to hold off a bit until interest rates come down.
The outlook remains optimistic
The U.S. economy is, of course, difficult to predict, but Bhagat says he’s confident that recession fears are overblown.
“There’s a fine line between arrogance and hubris on one side and having some conviction on the other, but, in my mind, I don’t see anything on the horizon – and I’m looking out three, five, seven years,” he says.
As Bhagat explains, the COVID-19 pandemic created a bear market that then turned into a bull market before getting interrupted again in 2022 when the market dropped more than 30%.
“Since then, the economy has grown,” he explains. “So, we are in a new economic cycle, and I don’t expect this cycle to be interrupted for the next five years.
“In other words, I do not see the recession that everybody’s spooked about.”