In a recent survey, the chief financial officers of US companies have expressed their concern about the outlook for the US economy. 20.8% of respondents expect GDP to contract over the next four quarters.[1] Financial markets participants also feel nervous and show a mindset of ‘good news may actually be bad news’. The latest labour market report was surprisingly strong, triggering a jump in bond yields, a strengthening of the dollar and a decline in equity market futures (chart 1). These reactions reflect an expectation that the Federal Reserve may have to tighten more than previously expected. In such a scenario, the reaction of equities reflects the impact of higher risk-free rates, but also unease about the implications of more aggressive rate hikes in terms of recession risk and the earnings growth outlook.
Perhaps the current strength of the US economy is being overestimated. The Atlanta Fed nowcast for second quarter GDP shows an annualized negative growth rate versus the previous quarter of -1.9%. During the quarter, the decline in the manufacturing ISM index has played an important role in explaining the drop in the nowcast (chart 2).[2] In assessing the signal quality of a nowcast, it is important to look at the forecast errors. Chart 3 shows that until the GDP number for the fourth quarter of 2019, the forecast errors had fluctuated in a rather narrow range. Unsurprisingly, this changed with the Covid-19 pandemic, which led to important swings in activity and to large forecast errors.[3]
