Sell-off on Wall Street deepens on 98% recession odds

NEW YORK - Monday brought a stark warning for Wall Street daredevils: Stocks are still in free fall and bearish sentiment is far from getting exhausted - especially when hike-or-be-damned central bankers jawbone recession-obsessed markets like this.

The S&P 500 just sank to the lowest since December 2020, bringing this month's losses to nearly 8 per cent, as the pound weakened to records while commodities buckled under the weight of a hulked-up dollar. US Treasury yields continued to rise, with the 10-year rate climbing as much as 21 basis points to 3.898 per cent, its highest level since April 2010.

Monetary policymakers in Europe and the United States gave no succour to risk assets that keep notching wretched milestones in the face of a concerted global increase in interest rates.

To cap it off: Ned Davis Research now sees a 98 per cent chance of a looming global recession, while Ms Lisa Shalett, chief investment officer (CIO) of Morgan Stanley Wealth Management, warns that earnings optimists are sleepwalking off a cliff.

With bad news around the world piling up, selling pressure is still coming thick and fast for a stock market that is already enduring its worst performance since 2008.

"Unfortunately, this is just a process that is going to need to play out because the Federal Reserve is not going to stop and the market has to price in accordingly," said Homrich Berg CIO Stephanie Lang. "There is still some downside because of the outlook that if we are not in a recession, we will be in one soon."

A dark day in British trading undercut risk appetite across the world, fuelling fears that something in financial markets is about to break, while central bankers in Europe and the US touted their inflation-fighting bona fides.

The S&P 500 fell for a fifth straight day, tech stocks suffered and the Russell 2000 index of smaller firms lost 1.4 per cent.

Worries over economic growth have percolated for months, but incipient weakness in the industrial cycle and in US housing has investors worried that things are deteriorating quickly.

A global recession probability model by Ned Davis Research recently rose above 98 per cent, triggering a "severe" recession signal. The only other times the model has been that high was during previous acute downturns, such as in 2020 and 2008 to 2009, according to the firm's analysts.

"This indicates that the risk of severe global recession is rising for some time in 2023, which would create more downside risk for global equities," they wrote in a note.

Monday marked yet another session of more than 400 S&P 500 stocks closing lower. Almost every sector posted losses, with real estate and energy each dropping more than 2 per cent. The benchmark index has now spent more than 110 days trading under its 200-day moving average, one of the longest such stretches going back to 2008.

Investors also piled into puts at a record pace on Friday, an event that has preceded previous market bottoms, while a slew of stocks are still trailing their short-term average prices.

Yet fear continues to surpass greed, discouraging dip buyers betting that the market has already bottomed as sentiment and positioning hit hard-to-sustain lows.

"The moves are so intense that everyone is waiting to see if something collapses - some very bad market or economic outcome," said Mr Dennis DeBusschere, founder of 22V Research.

Investors have spent the majority of 2022 resisting the idea of a profits recession - something that is looking harder to avoid by the day.

Indications of an economic slowdown, including in the housing market, mean that they could "face a day of reckoning" once they realise that Fed policy works with a lag, according to Morgan Stanley's Ms Shalett.

The problem is that equity investors tend to be good only at translating economic data into earnings forecasts six months ahead, meaning that any current earnings tailwinds could be supporting "a false sense of security". Yet policy operates with longer lags, sometimes of as much as two years.

"This bear market is not over and investors should expect more negative surprises if they continue to underestimate the impact of rapidly rising interest rates," she wrote in a note, adding that a fourth-quarter bear-market rally should be sold.

A strong US dollar, meanwhile, is posing challenges for global manufacturers. At one point on Monday, it rallied against every major currency.

"We almost have an arms race with central bankers raising rates and employers holding on to workers," said Mr Mike Bailey, director of research at FBB Capital Partners. "This could play out with pretty steep rates into next spring, which would be bad for bonds and high-growth stocks." BLOOMBERG