The Stock Market Calls The End Of The “Recession”

Here’s one important thing to remember: all recessions are backdated.

If our economy is indeed in one, when the NBER formally declares it, we’ll likely be most of the way through it. For example, the 2008 recession, which technically started in December 2007, was only declared in December 2008 —six months before it was over.

What happens next? You’ve guessed it: a bull market. Historical data shows that stocks soar 9 out 10 times a year following the end of recessions.

Speaking of celebrating the end of a recession that hasn’t even been declared, smart money is already in on the act. Trading patterns signal that after the dormant first-half, big investors are backing up the truck again.

Zooming out

There isn’t a clear-cut way to read institutional flows in the sea of millions of trades, but there are a few indirect gauges.

One is Bloomberg’s Smart Money FlowFLOW2
Index. It compares the first half hour of trading —driven by emotional trades and market orders—to the final hour, when big investors typically place their bets, in the Dow Jones Industrial Average.

Since mid-2021, the “smart money” index had fallen off the cliff. But after hitting its low in May when the S&P 500 tipped into a bear market, institutional buying quickly rebounded to the highest level in two years.

That’s a big about-face.

Just two months ago, institutional investors had the bleakest outlook in 30 years. Based on Bank of America’sBAC
June survey, 73% of fund managers who oversee nearly a trillion dollars in assets “were pessimistic about global growth”—the highest share since 1994.

Not only that, BofA predicted that the S&P 500 would bottom out at 3,000 in October, which is 31% lower than today’s level: “History is no guide to future performance, but if it were, today’s bear market would end on October 19, 2022, with the S&P 500 at 3000,” its analysts wrote.

Looking ahead

That’s not to say stocks are out of the woods yet.

The Fed is nowhere near the end of this tightening cycle. Before scrapping forward guidance in June, Fed officials saw the rates closing out this year at 3.4% and the next at 3.8%.So there will clearly be more hikes down the line. Which, as we know, is bad for stock valuations.

Meanwhile, it’s not yet clear whether inflation has really peaked. And even if it has, economists think that the hardest part won’t be taming it but bringing it back to the Fed’s “neutral” rate at ~2.5% in the backdrop of inflationary forces, such as Europe’s looming energy crisis and broader de-globalization.

In the end, the Fed may have to resort to much more tightening than the market has priced in.

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