US recession chances dip further on job growth, record stocks

Soaring stock prices, a steeper yield curve and a resilient labor market characterized by the lowest jobless rate in a half century continue to alleviate recession fears. Risks, however, remain centered on corporations' lack of appetite to spend.

Bloomberg Economics created a model to determine America's recession odds. The latest update, which looks at November data, estimates the chance of a US recession within the next year at 26%, down from 29% in the prior month. That reading is lower than highs reached at the start of 2019 and will likely move lower given initial positive readings across December data.

Risks Stabilize

Probability of US recession within 12 months

The recession probability model developed by Bloomberg economists Eliza Winger, Yelena Shulyatyeva, Andrew Husby and Carl Riccadonna incorporates a range of data spanning economic conditions, financial markets and gauges of underlying stress.

The decline in the recession probability mainly reflects the shape of the US Treasury yield curve, which, combined with higher stock prices, helped stabilize the Conference Board's Leading Economic Index, a composite of 10 different indicators. While

unchanged in November from a month earlier, the six-month annualized LEI was still down 0.4% as factory orders retreated and claims for unemployment benefits edged higher.

Yield Curve Spread Positive, Hiring Strong

Selected key indicators from recession probability model

The spread between three-month Treasury bills and 10-year notes widened sharply in November. It's steepened further since then, although gradually. While the four-week average of jobless claims rose, they remain near historically low levels. On the flip side, the Institute for Supply Management's gauge of manufacturing orders contracted at a faster pace.

Looking at slower-burning sources of stress, corporate profit margins remain a bit of a concern. Fourth-quarter earnings season, which gets under way in earnest this week, will give a better sense of corporations' financial health and profitability.

Forecasting just when a recession will begin is notoriously difficult, but as a downturn nears, indicators flash clearer warnings. Because different indicators show signs of strain at different points, the heat map below reflects the chance of a recession at various points in time, with each focusing on a different set of indicators.

For instance, the reading on whether the US is on the immediate cusp of recession is based in part on weekly filings for unemployment benefits. At the three-month mark, the model focuses on financial-market variables like the spread between three-month and 10-year Treasuries. Six months ahead, the LEI takes a starring role. Looking further out, the focus is on imbalances that play out over longer periods, like corporate interest costs relative to profits.

Heating Up

Probability of recession within 0, 3, 6 and 12 months

The Federal Reserve, meantime, is in a holding pattern with its monetary policy, having reduced its target range for the benchmark borrowing rate three times in 2019. While consumers carried the torch for the economy through last year's business investment slowdown and trade tensions, the already low federal funds rate leaves the Fed with less room to adjust to any sudden weakening that could jeopardize the longest-running expansion.

Diminishing Firepower

Federal Reserve interest rate cuts in prior downturns

Many define a recession as two consecutive quarters of negative growth. The official dating committee at the National Bureau of Economic Research takes a more holistic approach, defining a recession as a "significant decline in economic activity spread across the economy, lasting more than a few months." As the chart below shows, not all recessions are created equal. Coming with a financial crisis attached, the latest downturn was especially protracted and deep. Previous recessions have been shorter and shallower.

Shallow or Deep?

Quarterly change in US GDP following recession; 100 = start of recession

Recessions are usually accompanied by a swift increase in the unemployment rate. The jobless rate differs greatly between downturns depending on the breadth and severity of the recession. While unemployment peaked at 10% in 2009, and rose even higher in the early 1980s, other downturns have brought still-painful but smaller increases in the jobless rate.

Out of Work

Quarterly change in US unemployment rate in past recessions