August 14, 2018

Winter Is Coming . . . to the Economy

Vanguard has bumped up its estimate of recession risk

The New York Times reported that ‘Vanguard Warns of Worsening Odds for the Economy and Markets’. As with any economic projection Vanguard ‘emphasizes that this is a general forecast.’ They acknowledge that the economy may continue to grow and the market might go up in the short-term. ‘To be clear, Vanguard isn’t predicting a recession; it is merely saying that the odds of one have risen’ the article points out. 

The chances of a recession by the end of 2020 are mounting. And the prospects for the American stock market in the next decade have worsened appreciably.
Vanguard Economic Forecast as reported in the NY Times, August 10,2018

And what are those odds? ‘Vanguard says the chances of one by late 2020 are between 30 and 40 percent. That’s Vanguard’s highest-ever estimate for that time frame, Mr. Davis said. (A six-month forecast reported a greater than 40 percent probability before the recession that started in December 2007.)’ The forecast could also be read as a 60-70% chance of no recession in that time frame.

The increased recession risk estimate is driven by interest rate expectations. First, that the Federal Reserve will raise short-term rates more quickly than longer-term ones resulting in a flattened or potentially inverted yield curve. Second, ‘rising credit risk for below-investment-grade bonds.’ If the facts change then so will the forecast.

Of course there is always a risk of recession. Many global events can drag down an economy. Trade issues and events in Turkey and developing markets add uncertainty. 

How should lenders view this forecast? As interest rates rise some customers are likely to feel that pressure more than others. Have you assessed interest rate risk for different customer segments? In addition, the impact of recessions are inconsistent across regions. Have you evaluated your geographic concentrations? What steps, if any, should you take to address changes in risk? Keeping an eye on the changing measures of economic health along with the health of your key customers can help minimize downside risk of the economic winter that is coming.

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