Economic Outlook

Source: Federal Reserve economic data.

We don’t see a recession materializing in the coming year, extending this already longest-ever expansion through 2020. A healthy labor market and fresh stimulus from the Federal Reserve are key pillars of support, but trade, election and geopolitical uncertainties are increasing headwinds. We think the economy will grow in the 1.5%-2% range next year..

The upside: no recession in the coming year – Our checklist of recession signals is not yet flashing red. The recent yield curve inversion is the lone warning sign, though it’s more a symptom of global rate conditions than economic exhaustion, in our view. Elsewhere, the backbone of the expansion remains reasonably sturdy. Unemployment is at 3.7%, near a 50-year low, and monthly job growth is extending the longest streak on record, which should support better than 3% wage gains ahead. In addition, the Fed has shown a willingness to cut rates to extend the business cycle. This economic expansion is not bullet-proof, but the largest share (70%) of GDP comes from household spending, so GDP growth should be sustained in the year ahead.

The downside: the pace of growth is likely to slow – Factors other than consumer spending pose headwinds that we think will restrain the pace of growth this year. We expect the growth rate to slow to 2% or slightly below as the pall of uncertainty from the U.S.-China trade turmoil and upcoming election weigh on business investment and net exports. We suspect the combination of impaired business confidence (stemming from the trade spat) and the lagged effects of the Fed’s rate hike campaign from 2016-2018 will be on display as we enter 2020. However, progress on trade negotiations and lower corporate and household borrowing costs make a case for sustained growth, and slow growth is still a reasonably favorable backdrop for market performance. Since 1970, when GDP rose by 1.5%-2.5%, the annual return in the S&P 500 was 4.7%.

Action for investors

Bear markets are nearly always fueled by recessions, so even modest growth ahead should support market performance. In the late stages of this cycle, rebalancing to your long-term targeting allocation between equity and fixed income is appropriate. Our outlook for U.S. large-cap equities is still positive, while small- and mid-cap equities should benefit from an extension in domestic growth.

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