The US economy is vulnerable to a new recession that could take place soon, renowned bearish analyst Albert Edwards wrote in recent research.
This means the 33-year bull market in bonds is not nearing its end, as some commentators had thought it might after the recent sudden rise in yields on sovereign bonds.
Edwards, who is a global strategist with Societe Generale, says that deflation, not inflation should be investors’ biggest worry, and that weak corporate pricing power has gone “virtually unnoticed” although it is a key part of the deflationary tide.
Taking a look at the US productivity and costs report, he says corporate output prices tend to offer more forward direction about where prices are going.
First quarter data show a rise of just 0.8% year on year for corporate output prices, compared with rises of more than 1% in all the previous quarters.
“The ongoing loss of corporate pricing power is exacerbating the downturn in the corporate margin cycle,” according to Edwards.
“With revenue growth now declining for the corporate sector overall, these deflationary winds blowing through the corporate sector — and the resultant profits squeeze –leave the economy vulnerable to a renewed recession.”
The US Bureau of Economic Analysis is due to release the second reading of first-quarter GDP on Friday. Analysts expect it to show a contraction of 0.7% quarter on quarter, versus the initial report of a 0.2% increase.
And the weakness is not confined to the US. Recent data show the improvements in the eurozone beginning to falter, with confidence falling.
China, too, is struggling with a mountain of debt, falling home prices and increased stock market volatility, as well as outflows from its capital account.
Although Chinese equities saw their biggest inflows in 14 weeks last week, the jury is still out on whether this is a temporary phenomenon or the signal of a more sustained reversal of the trend.
The capital outflows are exacerbated by lower Chinese interest rates meant to stimulate growth. The central bank then has to intervene by buying yuan to hold its exchange rate steady, shrinking the domestic money supply and thus somewhat offsetting the positive domestic impact of the weaker interest rates.
“China is in a bind, with its virtuous balance of payments turning vicious,” is how Edwards puts it.
Because of all these global weaknesses, talk about the demise of the bond bull market is premature, in his opinion.
“I do not see this as the end of the bull market for long government bonds. Despite the oil price rise, core inflation remains extraordinarily low at a time when the global economy is still struggling to gain traction,” he says.