U.S. Recessions Don’t Start in the Third Year of a Presidency

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At a lunch for professional investors and advisors last week, Philip Orlando delivered a well-rounded argument against a U.S. recession in the near term. Economic growth may well slow down, but he doesn’t anticipate two consecutive quarters of negative gross domestic product growth until 2021 or 2022.

Orlando, senior vice president, chief equity market strategist at Federated Advisory Services in Pittsburgh pointed to a number of customary indicators to make his point. Annual wage growth sits a little north of 3% right now, short of the 4% that in his view would signal a downturn two years out. And while the yield curve (the difference between the U.S. 10- and 1-year Treasury Notes) narrowed last year, it hasn’t inverted, which is a sure sign recession is in the cards.

He also detailed historical precedents having to do with the U.S. election cycle that are less often a part of these discussions.

“Over the last 70 years … there have been 11 post-war recessions in the U.S. Not a single recession was started in the third year of the presidential election cycle,” he said. “The presidents of either party – Democrats or Republicans, everybody does it – knowing that there is a big presidential election coming up the next year, they grease the skids. They want to make sure there is enough monetary policy and fiscal policy stimulus to the system that the economy does well, that the financial markets do well. That way the voters, next year, are predisposed to vote favourably for their party. So we’ve never had a cycle of decline – a recession – in the third year.”

Canadians have seen two pre-recession peaks during the third year of a presidential term in recent years: in 1947 and 1951.

Orlando also quoted U.S. stock market numbers. “The average S&P 500 return in year three is up 21%,” he said. “That’s double the average of years one, two and four. The third year of the cycle, historically has been the most productive year in the four-year cycle. We think that’s going to happen again this year.”

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Orlando did allow for the fact that political risk has to be factored into financial planning. “Robert Mueller is the ultimate black swan,” he said.

“We’re looking at March as a very important month. March 1 is the China-U.S. trade deal deadline. March 20 is the next [Federal Open Market Committee] meeting; the next set of dot plots out of the Federal Reserve. We need to see some conciliatory movement toward some sort of neutral position. And then the Brexit deadline is March 29. If we can get past March with at least two of those three – I’m saying China and the Fed in place and maybe some progress on Brexit – I think the volatility that we’ve seen in the market over the last six months or so will be behind us and we’ll be in much better shape.”

Kevin Press

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Unforced Errors

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U.S. President Donald Trump tabled a new proposal today, aimed at ending that country’s longest ever government shutdown. That he did so on television as opposed to in a White House meeting room doesn’t bode well for public-sector workers smarting from a lack of pay.

In return for Congressional approval of border-wall funding, Trump is promising to protect those who fall under the Deferred Action for Childhood Arrivals (you’ve heard it referred to as DACA) and Temporary Protected Status programs. The deal is meant to reopen the federal government and at the same time limit the political damage all of this is causing the Republicans and Democrats.

A deal along these lines has been previously suggested, more than once. It all speaks to the less-than-ideal state of U.S. politics and in particular of this presidency.

Washington’s latest unforced error comes as U.S. growth is slowing. That has mostly to do with economics, but not entirely.

As yesterday’s Focus report from BMO Capital Markets Economics notes, U.S. political risk is alive and well. “Prepared for the January 29-30 [Federal Open Market Committee] FOMC meeting, the Fed’s regional report should reflect some moderation in economic activity, while underscoring concerns about trade protectionism and labour shortages.”

Elsewhere in the same report, BMO senior economist Sal Guatieri writes: “In light of more dovish talk from policymakers and the minutes of the December FOMC meeting, we have both delayed and reduced the amount of expected rate hikes by the Federal Reserve. We now see increases in June and December – one to three months later than previously thought – and no longer expect a final move next year.”

That could have a direct effect on mortgage rates, which are driven more by U.S. rather than Canadian interest rates. This week, Royal Bank of Canada cut its five-year mortgage rate from 3.89% to 3.74%. Watch for other banks to make a similar move.

Political risk is a fact of life for investors. But while it is seldom associated with the U.S., it cannot be ignored as long as Trump is in the Oval Office.

Kevin Press