The Case for a Soft Landing in the US

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IN THIS PUBLICATION:

• Despite the most recent bear market rally, consensus is bearish about 2023.
• In order not to be bearish, we have to assume that the US will be able to deliver a soft landing.
• Whilst history says that’s unlikely, we’ve laid out a four-step process that showcases how a soft landing could materialize.

Market Bottoms and Bear Market Rallies

In an editorial we published a couple of weeks ago, we helped contextualize (fairly brilliantly in my completely unbiased opinion) which part of the cycle we may currently be in (spoiler: not at the bottom). For those of you who are busier than a crypto bankruptcy lawyer in 2022, the TL;DR of why we think there’s still downside ahead of us is:

• Valuations haven’t bottomed yet.
• PMIs haven’t bottomed yet.
• Interest rates (read: hawkishness from the Fed) haven’t peaked yet.
• Positioning hasn’t capitulated yet (i.e. sentiment can get worse).

There’s also a plethora of other indicators used by people much smarter than me that tend to point to the same conclusion:

This makes intuitive sense:

• Despite some easing of lockdowns and the market getting very excited about it, China’s complete reopening is still unclear (and growing evidence of protest in the streets has been met by the strongest month for Chinese equities since the 1990s… go figure), which matters to pretty much everyone as they have been responsible for 30% of global economic growth since 2013 (No Xi, No Party).
• Central banks have not eased their rhetoric about higher interest rates, and
• The upcoming economic recession has yet to really be felt by household budgets around the world (this will mostly come as the unemployment rate starts to pick up), which, when it does, will be reflected in the overall level of demand for goods and services (if you read Tim’s Black Friday rant from last month (the last chart), you’ll know he just died a little more inside).

The fact that this conclusion also seems to be very much the consensus view makes me a bit nervous, I’m not going to lie.

• Consensus believes that a recession in the US has a 65% probability of happening.
• It is in fact the first time since 1999 that Wall Street predicts, in the aggregate, a decline in the S&P 500 for next year.

• That said, the breadth of outcomes (read: the uncertainty about the predictions) is wild.

• In almost 100 years of data, two consecutive years of losses have only happened four times (the last time in the Dot-com bubble). So, consensus is expecting something that, historically, is abnormal.

Bearish consensus for 2023 aside, there has been an extraordinarily positive move in equity markets since the beginning of Q4.

Whilst I cannot justify this move as being “rational” given the current economic, geopolitical, and financial backdrop in which we find ourselves at year-end, a potential rationale might best be explained by JP Morgan’s 2023 outlook: