The U.S. economy seems to have held up better than many believed it would. And while it’s impressive, we worry about market complacency and caution against falling for the “recency bias” – which means that there’s a bias to overemphasize the importance of recent events or information and extrapolate them into the future.
Or, put simply, it often misleads us to believe that recent events can give us an indication of what to expect in the future.
So, amid the current mainstream media pushing a U.S. economy ‘soft landing’ narrative – the cooling period in growth without causing a steep recession, unemployment, or instability – we believe it’s become an overcrowded view.
Let’s take a closer look at this and why it’s a potential contrarian signal.
Beware The Overcrowded Soft-Landing Narrative
Economists and the media have historically faced difficulty making recession calls and ended up grossly overestimating a soft landing.
For example –
In September 1973, the New York Times introduced its readers to Herman I. Liebling – a senior treasury economist – as well as the term soft landing.
The New York Times wrote, “Herman I. Liebling, a senior Treasury economist, recently spelled out some of the ‘strengths’ in the economy that ‘were absent in earlier episodes’ when government‐ fiscal and monetary restraints helped turn booms into recessions: An ‘ongoing capital good, boom’ — meaning business investment in plant and equipment.”
But soon after – the U.S. economy fell into a recession for an entire year (between Q2-1974 and Q2-1975).
In January 1980, News Journal wrote a story highlighting how the U.S. economy was heading for a soft landing.
News Journal wrote, “The financially strapped consumer, at some point, will simply run out of money, the experts say… Their conclusion: we’ll have about a 1.5 percent decline in real GNP this year, in effect, a modest recession (or, as some put it, a ‘soft landing’).”
But over the remainder of 1980, a recession hit. Followed by a brief respite, only to sink into a prolonged recession between 1981 and 1982 – with U.S. unemployment peaking at 10.8%.
In February 2007, The New York Times wrote an article quoting then Federal Reserve Chairman Ben Bernanke about his “upbeat view” of the U.S. economy.
The New York Times wrote, “In contrast to the changing moods on Wall Street, Bernanke expressed a broad satisfaction that the nation remains on track for a "soft landing," a modest slowdown in growth that would reduce upward pressure on prices without aggravating unemployment.”
Further, he told U.S. lawmakers, “The U.S. economy appears to be making a transition from the rapid rate of expansion experienced over the preceding several years to a more sustainable average pace of growth.”
But soon after this piece was published, the U.S. economy sank into its worst recession since the 1930s as housing prices, banks, and equities all collapsed while unemployment rose sharply - jumping from 4.5% in 2007 to 10% by October 2009.
Thus, even the experts have historically struggled at making correct forecasts.
And we understand – because it’s a very difficult task to do.
But what troubles us is when the crowd becomes overweight on one view or another.
Or, put simply, we focus on the extremes in sentiment as a potential contrarian indicator.
So, how is current sentiment regarding a soft landing?
Well, according to recent data from Bloomberg, the number of news articles mentioning ‘soft landing’ has hit historically extreme levels – marking its highest cyclical amount in the last 30 years.
In fact, according to this data point, the number of articles mentioning ‘soft landing’ tends to peak right before a recession unfolds.
Putting it another way, the media seems most complacent right up until it’s too late.
What We Can Learn From The Turkey Before Thanksgiving
We liken this to the ‘Turkey on Thanksgiving’ dilemma – a term coined by former investor turned author, Nassim Taleb.
In his 2007 book – The Black Swan – Taleb reminds us how difficult it is to predict the future based on past events.
For instance, Taleb uses an example of a turkey on a farm.
It hatched in December and grew up living its normal life in a pen. Eating plenty of corn and playing with the other turkeys.
And overtime, the turkey becomes more and more complacent with its everyday life. Growing increasingly comfortable, fat, and satisfied.
But little does it know that each day that passes, it nears catastrophe.
Because just as its comfort level peaks - Thanksgiving arrives. And that turkey is served for dinner.
Taleb wrote, “Consider that [the turkey's] feeling of safety reached its maximum when the risk [Thanksgiving] was at the highest!”
This parable is a poignant reminder about complacency and falling for the recency bias when making forecasts.
Thus, as the market and media scale into the soft-landing narrative, we believe it’s prudent to stay vigilant.
Or rather, we find the hype around a soft landing worrying at a time when the U.S. economy faces potential headwinds.
Such as –
The exhausted pandemic era excess savings.
According to the recent San Francisco Federal Reserve data, there’s potentially less than $190 billion of excess savings remaining in the aggregate economy (down from the $2.1 trillion in August 2021).
Decelerating consumer credit demand as higher interest rates and tighter bank lending standards squeeze the private sector.
Less consumer credit generally means less demand elsewhere.
Higher gasoline prices and higher debt servicing costs eating away at disposable income and may potentially slow consumption.
It’s important to note one can only do two things with the same dollar: save or consume (dissave). Thus, higher costs on necessities lead to less money available for discretionary spending and saving.
And this has ripple effects. For instance, according to S&P Global data from September, U.S. corporate bankruptcies filed year-to-date have exceeded annual totals for both 2021 and 2022 as companies continue to face issues. Most importantly, consumer discretionary is leading the bankruptcy pack (57 year-to-date).
So, like the turkey before Thanksgiving, we caution growing too complacent as potential risks mount.
Simply put, beware of becoming the turkey.
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