Recessions are inevitable, but their timing is always the big question. Many strategists expected one in 2023 that never occurred . Whenever the next downturn comes, it’s a given that the Federal Reserve will lower interest rates.
When the next recession happens, likely in early 2025, investors probably will borrow more, according to Marko Papic, chief strategist at BCA Research. That would reverse their usual pattern: Leery consumers usually back off taking on more debt in a downturn, regardless of rate levels. Oddly enough, consumers are already lowering their loan debt as a percent of disposable income, which presumably leaves them room to expand loans again. They certainly have the means to.
In a research paper, Papic noted that U.S. households since 2020 dialed back their borrowing—debt service as a percent of disposable income is below pre-pandemic levels (although is up from its 2021 low)—because climbing rates have furnished them with enough interest income that they did not need to take out as many loans as before. Also, wages have been rising, resulting in higher savings levels.
The customary pattern for U.S. households is to back off borrowing during recessions, the Federal Reserve Bank of New York’s stats show. That was the case during the Great Recession and its aftermath: Overall debt fell from 2008 through 2011. In the shorter and less painful 2020 pandemic recession, loan issuance flattened out before resuming an upward trend in 2021.
In Papic’s view, recession-inspired Federal Reserve rate trims will be a tonic for one sector of the economy. “When the Fed cuts rates, it will create a surge in housing,” he noted in an interview. In other words, people will take out lower-priced mortgages to purchase real estate. With their plentiful savings, many will feel secure about such a step, recession or no.
Thus, to Papic, a good investment play going forward is to buy homebuilders’ stock. This group has done well, with the SPDR S&P Homebuilders exchange-traded fund up 16.6% this year, beating the S&P 500’s 14.6%. Much of that homebuilder runup has to do with a constrained home supply since the 2008-09 housing-centric recession. Despite high mortgage rates and home prices, homebuilders’ products are in demand. So lower rates will make houses even more appealing.
The Fed has kept its benchmark at an effective rate of 5.3% since last July, within its target of 5.25% to 5.5%. The futures market believes that central bank policymakers will lower the Fed’s target range by a half percentage point as of year-end, amid signs of a slowing economy, such as lower consumer spending.
Another gathering trend, Papic indicated, may help during the next recession: strong capital spending, which in this year’s first quarter totaled $8.1 trillion, up from $7.6 trillion in the year-before period, and from $5.9 trillion in 2019’s initial quarter. He expects capex to be a tailwind that will help the economy through a downturn.
Added to that is the continued boost that tech will provide the economy, he said. Tech “could be the big power for the economy,” he contended.
Related Stories:
When Will Interest Rates Fall and by How Much?
Will the Federal Reserve Go Too Far?
RIP Earnings Recession: 3Q Reports Turn Positive
Tags: BCa Research, capital spending, Debt, Federal Reserve, Interest Rates, Marco Papic, Recession, tech companies, wages