Jackson Hole Economics

Where’s the Bottom?

Alongside the US Memorial Day holiday, we explore the latest high frequency indicators of global economic activity. Our aim is to provide a snapshot of the collapse in economic activity, and also to see whether and where a bottom may be forming. We conclude with a few observations about what this means for global economic activity, corporate results, market valuations and broad investment strategy.

As a reminder, high frequency data (sometimes called flash estimates) bring together a range of indicators to give timely measures of economic activity. We can divide indicators into three camps: (i) those still contracting; (ii) those showing signs of stabilizing at lower levels of activity and; (iii) those evidencing recovery. Differences in outcomes may reflect lags in data reporting, more traditional leads and lags in economic activity, and parts of the economy more prone to pandemic-related weakness or, alternatively, early beneficiaries of policy stimulus or relaxation of stay-at-home orders. For each indicator, we offer a brief explanation of what we think is driving the outcome.

The following set of data points is not comprehensive, but we feel is indicative of how economies are doing at present.

No bottom in sight

The following indicators show little or no evidence of reversing the sharp contraction of economic activity that began earlier this year:

Bottoming

The following indicators point to a bottoming process, consistent with stabilization of activity at much lower levels.

Signs of recovery

The following indicators point to some recovery already underway:

Overall assessment & implications

As new infection rates fall in many developed and some emerging economies, political, economic and social pressure to relax lockdowns, stay-at-home orders and social distancing is building. The relaxation of economic restrictions differs, of course, by jurisdiction.

It is therefore unsurprising to see early signs of stabilization and recovery across various economic dimensions. Indicators of social mobility (traffic and local travel) already evidence changing patterns of behavior. ‘Bricks and mortar’ spending is likely to be a beneficiary, as are selected services (e.g., dining away from home). Employment indicators in those sectors will probably slow their rate of deterioration, or even begin to recover.

Other areas of the economy will lag. Discretionary travel (including air travel) will take longer to recover. Urban areas may continue to see lower rates of office and hotel occupancy. Public transportation is also likely to see slower rates of recovery.

At the broader macroeconomic level, key areas of restraint merit close watching. How quickly will employers re-hire? Will households desire higher levels of precautionary savings against the risk of repeat waves of infection or as a result of employment insecurity? How long will it take before capital spending picks up? Will fiscal stimulus and transfer payments dry up as governments sense the worst of the crisis may be over? Will recent relaxation of social mobility constraints result in fresh Covid-19 outbreaks that could undermine any recovery in consumer confidence and throw the economy back into a deeper contraction?

For the most part, these broader questions cannot yet be answered. Relevant history offers few, if any, parallels to draw upon. Medical science cautions that fresh outbreaks should be expected, given still low overall rates of infection in the general population and uncertainty about whether exposure confers immunity.

What is the bottom line?

In all probability, economic data will improve in the coming weeks as a result of slowing infection rates and greater social mobility. Yet financial markets have discounted some improvement already (e.g. overall equity index advances, the recovery of energy prices, etc.), even if investors have not been broadly enthusiastic (safe, large, long-term growth companies continue to significantly outperform more cyclical and value-oriented companies).

For investors, the critical question is whether to stay the course by holding safe growth and quality stocks, take profits in expectation that recurring Covid-19 spikes will stunt recovery, or to rotate into cyclical and value stocks in the expectation that improving data will boost investor sentiment towards the market laggards?

We don’t profess unique insights. Science is cautionary, while near-term market and political momentum is more hopeful. Yet much of that optimism rests, it appears, on incomplete and imperfect data, recurring hopes for a rapid development of effective vaccines, and successful flattening of infection rates in hard-hit communities. Optimistic thinking has fewer genuine foundations in data and science, which ought to be worrisome. In particular, we remain concerned that renewed waves of infection will cast a pall over hopes and desires for normalization, which ultimately underpin economic recovery, corporate fundamentals and prevailing asset prices.