The Outlook: Chopping into Recessionary Bear Market
If the 20% initial claims trigger flags by March 2024, history suggests SPX will decline to circa 2700 by March 2025.
The cyclical outlook for the S&P 500 presented in The WOTE Report this weekend was as follows:
In a Market Journal post today I discussed the implications of an easing of Israel-Hamas tensions and how that contributes to the extreme “chop” the market is likely to experience into a US recession likely to commence in the first half of next year. In this write-up I want to zoom out and look at what history tells us to expect ahead of the YoY rate of change in the 4-week moving average of initial jobless claims breaking out above 20%.
Historical Analysis of Initial Jobless Claims
In this analysis I make the assumption that once the YoY rate of change in claims breaks out above 20% that the US economy is either in or about to enter recession. There have been a handful of times the 20% threshold has been breached on the upside outside of recession, but given the fact continuing claims have already entered pre-recession territory (discussed in The WOTE Report) and the Fed’s resolute determination to bring inflation back to 2% once and for all, for the sake of clarity and focus it is best to assume the US will enter the recession that is required to kill inflation.
There are five recessionary bear markets to analyze here (by year of SPX trough): 1970, 1974, 1990, 2002, and 2009.
If we assume SPX peaked for this cycle at 4818.62 on 1/4/2022 and that the 20% claims trigger fires by 3/31/2024, that will put the months from SPX peak to 20% claims trigger at 27.2, triple the historical average. This discrepancy speaks to the highly unusual nature of this cycle and the likelihood the SPX peak is best viewed as the 4607.07 level reached on 7/27/2023.
If the 20% trigger fires in March, the months from a 7/27/2023 SPX peak would be 8.3, right on the historical average.
A 3/31/2024 trigger date is an educated guess based on the fact continuing claims are already in pre-recession territory. 20% could come sooner (the shortest period outside of 1990 was 5.3 months in 2007) or it could come later (13.8 months in 1970 is the longest period in the dataset). With such a data-dependent FED hawkishly responding to a reacceleration in coincident economic data, the economy could very well unravel in short order once interest rates reach an unsustainable tipping point - so, I tend to lean toward the “sooner than later” scenario.
As outlined in The WOTE Report, historical valuation analysis suggests SPX is likely to trough somewhere between 2100 and 3150. Not coincidentally, the historical average decline from the 20% initial claims trigger suggests SPX trough circa 2700, right in the middle of the 2100-3150 valuation range. The months-to-trough average provides a good time frame to home in on a possible SPX trough date, circa March 2025 if the 20% trigger fires in March 2024.
Speaking to myself, patience is of paramount importance here as the economy and SPX are likely to evolve in a much choppier, elongated manner than suggested by anchoring on a January 2022 peak. This is a highly unusual cycle for a variety of reasons, and it’s just going to take time to play out. Bottom line.