Caution – Signs of economic slowdown ahead

DEWITT, Mich. - April 11, 2023 - PRLog -- As we head into the second quarter of 2023, the strength in the market this year so far has been notable. The S&P 500 is up about 6.5%, while the investment-grade bond market is up a healthy 4.5%. Keep in mind, though, that recent gains in stocks were largely driven by valuation expansion, as price-to-earnings ratios climbed higher¹. Meanwhile, earnings-growth expectations during this period have moved lower. Analyst forecasts now indicate that S&P 500 earnings growth will be less than 1.0% year-over-year, compared with a 5.0% estimate at the beginning of the year¹.

Despite these healthy market gains, the path forward in the near term may be challenging, especially as the economy weakens and potentially enters a mild recession. This past week we have seen signals of a pending slowdown emerging, including weakness in the labor market, manufacturing, and housing (see below). And this comes as the banking sector looks to potentially tighten bank-lending standards, adding incremental downward pressure on consumers and corporations. Nonetheless, for long-term investors, there may be opportunities forming in the months ahead, particularly as markets start to look past the economic slowdown toward a recovery period.

Three signs of a slowing economy:

1. The labor market is showing signs of faltering: The labor market in the U.S. has been a source of strength in the economy, with an unemployment rate still near multidecade lows at 3.6%. However, last week we may have seen the first signs of cracks in the otherwise resilient job market. The ADP private-payrolls report for the month of March showed an increase of 145,000 jobs, well below the expected 250,000 increase.

2. Manufacturing and services activity continues to fall: Last week data for U.S. manufacturing activity and services activity for the month of March came in well below expectations. The ISM manufacturing index, a gauge of manufacturing health, fell to a near three-year low to 46.3, below expectations of 47.5. Readings below 50 indicate a contraction in activity.

3. The housing sector is softening: Over the past couple of weeks we have seen housing data come in softer than expected. The housing and rental components of inflation have remained elevated, although the real-time data indicate a housing market that has started to soften. Last week's Case-Shiller national home price index saw moderating gains for seven straight months, coming in at 3.8% year-over-year, which has not been seen since the pre-pandemic period¹. Higher mortgage rates and cooling housing demand have weighed on the sector, which could also see further downside if mortgage-lending standards tighten.

Sources: 1. Bloomberg, past performance is not a guarantee of future returns.