Shanghai Composite Roared 5.6% On Positive Trade News
Shanghai Composite - Global Recession Here?
With the slowdown in America, Europe, and China, it’s no surprise the global economy could be in a recession.
The World Trade Organization’s outlook for Q1 is 96.3 which is in the ‘below trend category.’ That’s the worst reading since March 2010. OECD categorizes the periods from 2011 to 2012 and 2015 to 2016 as a recession. So it’s no surprise this level of trade weakness could be consistent with a recession.
To be fair, trade growth could be weaker than it would ordinarily be based on this level of economic growth. This is due to the trade war between America and China. Electronic components index in the WTO outlook was the weakest category. It was at 88.7. That’s probably because of the America-China trade war.
As you can see from the chart below, the Ned Davis recession probability model is at 95.93.
When the index is above 70, there has been a recession 89.7% of the time since 1970. The economy has always been in a recession when the index has been this high.
It’s notable that just because the OECD hasn’t classified this as a recession yet, doesn’t mean the recession will last much longer. By the time economists recognize this recession, it will likely be close to over or over.
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Strong Q4 German GDP report supports the possibility that Europe could be regaining some ground. American economy should rebound. The trade war has cooled off, the government shutdown is over, and the stock market decline is over.
It’s also important to recognize that a recession isn’t 2 quarters of negative GDP growth. Since 1961, global GDP growth was only negative in 2009 when it fell 1.73%. If the global economy picks up, it could support the modest rebound in America that I’m counting on in Q2.
Shanghai Composite - Trade War With China Cooling Down
A trade war between America and China is mostly over.
President Trump is kicking the can down the road by delaying the tariffs that were set to go into effect on March 1st if there wasn’t a trade deal.
He tweeted, “I am pleased to report that the U.S. has made substantial progress in our trade talks with China on important structural issues including intellectual property protection, technology transfer, agriculture, services, currency, and many other issues.”
After more progress is made, President Trump will plan a summit with President Xi to conclude the agreement. It’s tough to say how long it will take to make a trade deal. But it doesn’t matter much for the market. Traders are pricing in some sort of deal which lowers tariffs and increases trade.
Shanghai Composite - The good news will be completely priced in by the time that summit occurs.
The American stock market barely even reacted to this announcement as the market has been pricing this good news in for a while.
However, the Chinese stock market reacted sharply to this news as the Shanghai Composite index was up 5.6%. This trade deal will be great news for China. Hopefully, it will help inspire an economic turnaround.
Traders are certainly banking on economic recovery as the Shanghai Composite is up 20.12% year to date. That’s way better than the Vanguard emerging markets ETF (VWO) which is up 10.8% year to date.
Shanghai Composite - Leading Indicators
January leading indicators report was disappointing as monthly growth was -0.1% instead of 0.1%. December leading indicators growth was revised higher from -0.1% to 0%. The index has been stable since it peaked in October at 112.1. It is currently at 111.3 which is a 0.3% decline from the peak as you can see from the chart below.
The chart shows how long it takes for there to be a recession after the peak.
Previous cycles show between a 7 month and a 20 month lag time before the recession, with the early 1960s recession left out. Technically, that means there can be a recession in as early as 4 months if it follows history.
However, that’s very unlikely because the decline has been minimal. If you look closely, there have been numerous declines off the peak like this one which haven’t amounted to anything.
The weakest trough was the early 1970s recession which fell over 6%. Growth rate needs to be much weaker before we seriously discuss a recession.
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One great tell is the relationship between the leading indicator and the coincident indicator.
Shanghai Composite - When the leading indicator falls below the coincident indicator, it’s a recession warning.
The coincident indicator is currently at 105.5, so that signal isn’t showing a recession is coming. That being said, the ratio between the leading and coincident indicators peaked. The ratio has peaked between 2 and 11 months before the next recession using data since 1969.
It’s important to note that 3 economic reports that are usually in this index were replaced by statistical imputations because of the government shutdown.
They were manufacturers’ new orders for consumer goods and materials, manufacturers’ new orders for non-defense capital goods excluding aircraft, and building permits.
The 6-month moving average of the 6-month rate of change is only up 1.8%. When this indicator falls negative, a recession starts somewhere between the next 2 months and 15 months.
There have been a few times when the indicator fell without a recession impending. The 12-month moving average of the 12-month rate of change doesn’t have any false readings, but in 2 recessions it lagged instead of led. Currently, it’s up by 5.6%.
Shanghai Composite - Conclusion
It’s very likely the global economy is in a recession. But it’s not a complete disaster like you might think. Equities may have already priced this in during Q4 2018.
By the time the recession is officially recognized, it will likely be over.
I see a recession similar to 2011-2012 and 2015-2016 instead of 2007-2009. The leading indicators for America don’t look good but don’t forecast a recession yet.
Good news is the indicator may have improved in February. The bad news is the ECRI weekly leading index is now down 4.6% year over year. Growth has worsened in the past couple weeks even though it faced easier comparisons.