Our dashboard of leading indicators through mid-October does not indicate any change in the drag on the U.S. economic momentum we have witnessed since May. In September, eight of the nine leading indicators we track with available data sent negative (six) or neutral (two) signals on near-term economic growth prospects. In October, five of the six leading indicators sent negative (three) or neutral (two) signals. (September/October data on the Freight Transportation Services Index, the 10th leading indicator we track, are pending at the time of this report.)
Consumer sentiment remains in 2008-2009 recession territory, though it has improved on lower energy prices after reaching a record low in June. Pessimism among consumers remains high as affordability issues stay elevated. Building permits, a leading indicator in our dashboard, fell further to 0.87 million in September from 0.9 million in August as higher interest rates push more potential buyers out of the market.
Where Do We Stand? A Comparison With Past Business Cycles
For the third consecutive month, almost 90% of our tracked indicators with complete data flash non-positive signals (see chart 1): a rate that is almost 30 percentage points higher than historical levels in the past three recessions. We believe that odds the U.S. economy will avoid recession over the next 12 months have dimmed. We expect the U.S. will fall into recession in 2023 (see "Economic Outlook U.S. Q4 2022: Teeter Totter," Sept. 26, 2022).
Chart 1
Yields and quantitative risk of recession
Monthly yield spreads (we use the term spread--the difference between 10-year and three-month Treasury yields--in our dashboard) has stayed neutral since July. The term spread for the 10-year/three-month edged to 0.39% in September from 0.27% in August but remains close to zero. The near-term forward spread, closely monitored by the Fed, also increased in September, to 0.81% from 0.61% in August (0.88% in July). Intermediate spreads--the 10-year/two-year and the 10-year/one-year--have remained inverted since July. The 10-year/two-year and the 10-year/one-year have worsened from -0.14% and -0.12% in July to -0.34% and -0.37%, respectively, in September. Through the second week of October, these two spreads have further declined to -0.43% and -0.42%, respectively. The sustained inversions of these two spreads further signal an impending recession (see "Despite Rising Risks, Yield Curve Is Not Yet Signaling Recession," May 4, 2022, and yield curve predictability table in the Appendix).
Our quantitative assessment of recession risk, based on a spread risks model, remained largely flat in September (compared with the prior month). At the end of September, the odds of recession in the next 12 months were 14% for the near-term forward spread, 28% for the 10-year/three-month, and 33% for both 10-year/one-year and 10-year/two-year. Through Oct. 17, the odds of recession have moved slightly in the three traditional spreads: flat for the 10-year/three-month (28%), and up for both 10-year/one-year and 10-year/two-year (35% versus 36%).
Chart 2
Credit spread, S&P 500, and consumer sentiment
The S&P 500 index continued to fall, recording a 16% decline, after a bear market bounce of 17%, as investors struggled to gain confidence in the market amid high inflationary pressures and a hawkish Fed. Besides, credit spreads are also widening as rising interest rates undermine further growth aspects. On our dashboard, the S&P 500 remained in negative territory for eight of the nine months of 2022, while the credit spread flashed a neutral signal for the seventh month in a row.
The Consumer Sentiment Index for September remained stable compared with August, recording 58.6 points, which is almost 8 points higher than its lowest reading of 50.0 in June and 37.4 points lower than the pre-pandemic average. The sentiment lifted from its extreme lows majorly on the back of the improved one-year economic outlook and a decline in expected inflation. The one year-ahead median inflation rate came in at 4.7% (lowest reading since September 2021), while median long-run inflation expectations fell below the 2.9%-3.1% range for the first time since July 2021, coming in at 2.7% for the month. That said, the long-term outlook for business conditions saw a decline offsetting the gains. The signal on the dashboard stayed in negative territory.
Building permits and new orders index
The housing market has cooled dramatically as mortgage rates climb higher; the 30-year fixed rate hit 6.7% last week. The Fed's aggressive rate hike is expected to continue at least until the middle of next year, keeping the housing market down. Similarly, the Institution for Supply Management Purchasing Managers' New Orders Index (ISM PMI New Orders Index) returned to contraction territory in August, suggesting a decline in demand. The index declined to 47.1% in September from 51.3% in August. The ISM manufacturing index, though still in expansion territory for the 28th month since May 2020, decelerated by 1.9 percentage points to reach 50.9%. The signal jumped back into negative territory after flashing a neutral signal, suggesting that a slowdown is coming. Weakness in regional PMI indexes (Philadelphia Fed and New York Fed) in October point to a worsening outlook for the national index this month.
Credit availability indicators Banks have tightened lending standards across all loan categories, as per the Senior Loan Officer Opinion Survey, owing to deteriorating market conditions. Loan suppliers believe that high inflation will lower borrowers' debt-servicing capacity, increasing their exposure to risk. The Chicago Fed's National Financial Conditions Index (NFCI) signaled declining market liquidity. The index increased by 4 basis points over a month and by 22 basis points since first rate hike in March (increasing value signify tightened credit conditions). The Fed's aggressive rate hikes over the last six months have limited credit availability. The rise in the NFCI Leverage Sub-Index (has been in positive territory since June), which is tied to the cost of debt, has reinforced the notion.
Real-time economic conditions
The labor market remained strong despite signs of weakness in the economy. Jobless claims adjusted for the labor force, which respond rapidly to changing business conditions, are still in positive territory as the jobs market remains tight, at least for now (see chart 11). The annual growth rate of the Freight Transportation Services Index, which is released with a lag, is also in positive territory through July (see chart 12).
Chart 3
Chart 4
Chart 5
Chart 6
Chart 7
Chart 8
Chart 9
Chart 10
Chart 11
Chart 12
Appendix
National Bureau of Economic Research definition of recession
When determining recession, the National Bureau of Economic Research's (NBER) Business Cycle Dating Committee considers several monthly indicators--including employment, personal income, and industrial production--as well as quarterly GDP growth. The NBER's definition emphasizes that a recession involves a significant decline in economic activity that is spread across the economy and lasts more than a few months (see "U.S. Business Cycle Barometer: As Weakness Continues, Further Spread Would Mean Recession," Sept. 1, 2022). It notes that in its interpretation of this definition, it treats the three criteria--depth, diffusion, and duration--as somewhat interchangeable. That is, while each criterion needs to be met individually to some degree, extreme conditions revealed by one criterion may partially offset weaker indications from another. For more on this, please see https://www.nber.org/research/business-cycle-dating.
Historical yield curves
| Historical Yield Curves | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Start date | Number of recessions actually occurred | Number of recession correctly predicted (T) | Number of false positives | Number of false positives longer than 1 month (F) | Number of missed recessions (false negatives) | Avg months b/w initial inversion and recession | ||||||||||
| Full history | ||||||||||||||||
| T10 Yr-3Mo | 1982.1 | 4.0 | 4.0 | 0.0 | 0.0 | 0.0 | 12.3 | |||||||||
| T10Yr-3Mo-Bond Equivalent | 1953.4 | 10.0 | 8.0 | 2.0 | 1.0 | 2.0 | 11.6 | |||||||||
| T10Yr-1Yr | 1953.4 | 10.0 | 10.0 | 2.0 | 1.0 | 0.0 | 13.6 | |||||||||
| T10Yr-2Yr | 1976.6 | 6.0 | 5.0 | 2.0 | 0.0 | 1.0 | 15.6 | |||||||||
| NEAR-TERM FORWARD | 1961.1 | 8.0 | 7.0 | 5.0 | 4.0 | 1.0 | 13.1 | |||||||||
| Restricted history | ||||||||||||||||
| T10 Yr-3Mo | 1982.1 | 4.0 | 4.0 | 0.0 | 0.0 | 0.0 | 12.3 | |||||||||
| T10Yr-3Mo-Bond Equivalent | 1982.1 | 4.0 | 4.0 | 0.0 | 0.0 | 0.0 | 12.3 | |||||||||
| T10Yr-1Yr | 1982.1 | 4.0 | 4.0 | 0.0 | 0.0 | 0.0 | 13.8 | |||||||||
| T10Yr-2Yr | 1982.1 | 4.0 | 3.0 | 0.0 | 0.0 | 1.0 | 16.7 | |||||||||
| NEAR-TERM FORWARD | 1982.1 | 4.0 | 4.0 | 3.0 | 2.0 | 0.0 | 15.8 | |||||||||
| Notes: Since the three-month constant maturity rate only dates back to 1982, we extend the series as follows: use secondary market three-month rate instead and convert the three-month discount rate to a bond-equivalent basis (-3Mo-Bond Equivalent): bond-equivalent = 100*(365*discount/100)/(360-91*discount/100), where "discount" is the discount yield expressed in percentage points. The number of recessions actually occurred within data history. If start date coincided with recession, recession not counted. Number of correct predictions (T): True if inverts up to 18 months before recession, else missed recession (false negative). False positive (F): curve inverts earlier than 18 months before recession. In the restricted history table, we compare the individual series dating back to 1982: in line with the earliest time the three-month constant maturity rate is available. Sources: St. Louis FRED and S&P Global Economics calculations. | ||||||||||||||||
The views expressed here are the independent opinions of S&P Global's economics group, which is separate from, but provides forecasts and other input to, S&P Global Ratings' analysts. The economic views herein may be incorporated into S&P Global Ratings' credit ratings; however, credit ratings are determined and assigned by ratings committees, exercising analytical judgment in accordance with S&P Global Ratings' publicly available methodologies.
This report does not constitute a rating action.
| U.S. Chief Economist: | Beth Ann Bovino, New York + 1 (212) 438 1652; bethann.bovino@spglobal.com |
| Contributor: | Joseph Arthur |
| Research Contributor: | Shruti Galwankar, CRISIL Global Analytical Center, an S&P affiliate, Mumbai |
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