Stockwatch: is talk of recession overly pessimistic or fair?
There’s a lot going on in the world currently, with multiple major players able to affect the direction of global financial markets. Analyst Edmond Jackson assesses the situation and possible outcomes.
7th March 2025 11:16
by Edmond Jackson from interactive investor
Amid a maelstrom of issues impacting stock markets this week, one key factor matters for intrinsic value. But does all this make a recession more likely? The Atlanta Federal Reserve already projects a 2.8% fall in US gross domestic product (GDP) for the first quarter of 2025, which would be the first decrease since the March 2020 Covid lockdown. A recession is defined as two consecutive quarters.
The US situation is skewed because firms boosted imports after Trump’s victory in November, in anticipation of paying more once tariffs come in. Just lately there is a lag which may not last. Yet US consumer and industry sentiment data is softening. The big unknown is how this administration’s approach to tariffs actually bites, as opposed to a lot of barking currently. But the uncertainty created – especially regarding Canada and Mexico – has scope to impact America’s trading partners to some degree. “An unfolding car crash” is no stretched metaphor.
- Invest with ii: SIPP Account | Stocks & Shares ISA | See all Investment Accounts
Despite some cheer that Europe is re-setting its public debt limits to engage defence spending, thereby an aspect of “stimulus”, various data this week is perturbing. It also looks increasingly like the UK chancellor will need to trim spending and raise taxes to avoid another debt market upset.
Wednesday saw a firm rebound in US equities, as if a “buy the drop” strategy remains intact. But despite Trump suddenly delaying tariffs on Canada and Mexico by one month amid further market falls yesterday, the rebound did not hold, the S&P 500 closing down 1.8%. It starts to look like financial sentiment is cracking too.
Source: TradingView. Past performance is not a guide to future performance.
Downside from a near 22x PE on US equities
Some commentators take heart from long-term bond yields. The yield on the 10-year US Treasury has fallen from a recent high of 4.8% to recent low of 4.2%, which supposedly helps equities. I find this quite like “the inverted yield curve” argument which pessimists seized on in recent years to warn of recession. Yes, historic data can show changes in bond yields later affect equity values, but bond prices substantially reflect financial expectations. I take my cue chiefly from business data.
On a positive note, one reason for S&P 500 “weakness” is healthy deflation in mega-cap US tech shares. A criticism of the US market is valuations having been narrowly based - the artificial intelligence (AI) story has created froth even if it proves a lasting revolution like the internet in the 1990s. Some unwinding of the AI trade towards a less febrile market is welcome.
Bulls note how 40% of the S&P 500 constituents have outperformed on a one-year view versus 26% in 2023, thus market breadth has improved.
But I do not buy Trump/Musk supporters’ argument about how aggressive spending cuts in government departments will shift resources to economic production, hence growth. Unless these people are going to be delivery drivers they will need re-skilling. Production has to meet demand.
Some analysts reckon that even if circa $1 trillion (£775 billion) of US imports are hit by 25% tariffs, the worst-case scenario would be a 0.8% domestic inflation bump and offsets could only mean 0.4%. US money supply is currently not strong, hence it will be hard for firms to pass on price increases. While I agree not to overreact, a retaliatory tariffs environment has kicked off and is likely to be medium-term inflationary. Trump’s deporting various immigrants is going to affect a wide range of industry, hence growth.
The key question for equities being: will all this result in economies muddling a stagflation scenario, or data become recessionary? If the latter, then cyclical and financial shares will likely fall even if yields presently appear supportive.
- Could ‘Bed & ISA’ spare you a hefty tax bill?
- Insider: buying at a FTSE 250 faller and high-flyer Rolls-Royce
Historic US data implies that in a recession scenario, equities typically bottom on mid to low-teens price/earnings (PE) multiples. I would beware such generalisation given equity indices alter with time and industries - the Dow Jones includes more traditional and cyclical firms than the S&P 500 where tech giants may offer relatively resilient earnings. So, I do not agree that the S&P 500 is necessarily staring at 38% downside from a 21.8x trailing PE, to a median 13.5x if recession takes valuations down to a 15x to 12x area.
Market technical indicators are yet to indicate a bullish trend breaking down, although by such time you would be looking at equity losses anyway, so beware much assurance from charts.
UK-related updates this week have presented a mixed picture
The Labour government has set substantial store on infrastructure and housing – classic “Keynesian public works” – as a means to revitalise growth. New-year updates from housebuilders were broadly firm, and it was notable how last Wednesday’s interim results from construction group Galliford Try Holdings (LSE:GFRD) delivered “excellent" performance, guiding full-year results to 30 June above the top end of expectations.
Source: TradingView. Past performance is not a guide to future performance.
But a survey of UK building companies by S&P Global cites steep declines in housebuilding and engineering work – to the lowest level of activity since May 2020. The purchasing managers’ index (PMI) slumped to 44.6 in February from 48.1 in January, foiling expectations for 49.7 – where a reading below 50 represents contraction. Residential building saw the fifth monthly decrease in a row to 39.3. It was the weakest-ever February on record and the fastest rate of decline since early 2009. Reasons cited are weak demand, elevated borrowing costs and lack of new work.
- Stockwatch: coming of age as a global consumer technology share
- Sign up to our free newsletter for investment ideas, latest news and award-winning analysis
This is reflected lately also in a survey by Glenigan. It had previously noted a 31% jump in UK private housing projects from November 2024 to end-January, involving a near 11% jump in UK housing starts from the third to fourth quarter 2024.
The EY Item Club cautions on reading too much into such PMIs. Similarly, as I question bond versus equity yields, EY says they are essentially sentiment readings. But EY’s sense – or hope – is that UK consumers will come to the rescue given inflation-busting wage increases and desire for home ownership.
Recruiters convey an ongoing cautious environment
PageGroup (LSE:PAGE) cites “a slower end to 2024 which has continued into January and February, and Robert Walters (LSE:RWA) how “the first few weeks of 2025 have continued muted...the board’s planning assumption remains that, at the earliest, an improvement in end markets is unlikely to be seen before the latter part of 2025...”
Source: TradingView. Past performance is not a guide to future performance.
Mind how revenue visibility in recruitment is notoriously short - January and February are seasonally quiet, hence it is possible such outlooks are “darkest before the dawn”.
But given both firms are geared to professions such as finance and IT, it implies little counterbalancing in services for weakness elsewhere.
Aside from PageGroup citing Japan as “notably flat”, it is also significant how recruitment is weak globally.
A slump in UK takeovers
Following Trump’s election win and pledge for extensive tariffs, merger and acquisition activity in the UK fell from 151 in November to 65 in December – just over half the level a year before. This would have substantially reflected higher UK business costs from employment cost increases soon, although US takeovers have been significant in the stock market.
As a litmus test: it will be interesting to see what is the outcome of Dubai-based Sidara renewing takeover interest in John Wood Group (LSE:WG.) – both in engineering services for energy industries. Sidara is attracted by strong commercial logic for deciding against a £1.6 billion approach less than a year ago, then to come back to Wood when its market value slumped to just £200 million.
After carrying out due diligence it backed off last August, citing “rising geopolitical risks and financial market uncertainty at this time” – which although true, came across as a fig leaf for issues it might have found. Indeed, Wood’s updates have since been a tale of woe.
Source: TradingView. Past performance is not a guide to future performance.
If Sidara embraces Wood, it will be a sign of confidence in a tough global context. I imagine Sidara’s board having vigorous discussion as to risk/reward. Acquiring troubled companies is a classic recipe for bringing yourself down, unless the industry context is resilient.
Edmond Jackson is a freelance contributor and not a direct employee of interactive investor.
These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.
Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.
Disclosure
We use a combination of fundamental and technical analysis in forming our view as to the valuation and prospects of an investment. Where relevant we have set out those particular matters we think are important in the above article, but further detail can be found here.
Please note that our article on this investment should not be considered to be a regular publication.
Details of all recommendations issued by ii during the previous 12-month period can be found here.
ii adheres to a strict code of conduct. Contributors may hold shares or have other interests in companies included in these portfolios, which could create a conflict of interests. Contributors intending to write about any financial instruments in which they have an interest are required to disclose such interest to ii and in the article itself. ii will at all times consider whether such interest impairs the objectivity of the recommendation.
In addition, individuals involved in the production of investment articles are subject to a personal account dealing restriction, which prevents them from placing a transaction in the specified instrument(s) for a period before and for five working days after such publication. This is to avoid personal interests conflicting with the interests of the recipients of those investment articles.