A stock market reckoning could be imminent as the US economy stands on the brink of recession, according to respected market forecaster Gary Shilling. He warns stocks still have another gut-wrenching 30% to fall before they hit bottom.
Shilling, president of A. Gary Shilling & Co., reiterated his call that stocks could plunge 30-40% from peak to trough – a forecast he first issued in early 2022. With the S&P 500 already down 18% after notching a record high in January 2022, that implies an additional 12-30% market plunge lies ahead.
“You’d have a further decline of about 30% from here to get that 40% overall decline, peak to trough,” Shilling told Bloomberg TV’s “The Julia La Roche Show.”
He believes a recession may already be underway or soon to strike, citing several pivotal danger signs:
- Yield Curve Inversion – With short-term rates now exceeding long-term yields, a reliable recession indicator has flipped.
- Slumping Leading Indicators – Key economic metrics like manufacturing data and building permits are dropping fast, pointing to slower growth on the horizon.
- Aggressive Fed – As the Fed aggressively hikes rates to restrain inflation, it’s likely choking the economic expansion.
“When you look at that combination of things, it’s pretty hard to escape a recession,” said Shilling.
While recessions tend to mildly impact the broader economy, corporate profits take a much heavier blow – often falling 20-30%. With stock prices tightly tethered to earnings, a sharp profit pullback helps justify Shilling’s call for a 30% market correction.
The S&P 500 plunged 18% in 2022 after hitting near 4800 in January. Another 30% decline from current levels would push the index down to around 2900 – its lowest point since May 2020.
Bonds and Dollar Look Attractive As Stocks Teeter
With recession risk high, Shilling is focused on traditional safe havens like Treasurys and the dollar over fragile stocks.
I’m betting on Treasuries and the dollar,” said Shilling, who holds short positions against stocks via ETFs. He’s also shorting copper futures to profit from declining commodities.
The biggest bubble Shilling currently sees is in commercial real estate, especially offices, hotels, and malls, as remote work and e-commerce transform demand.
“Commercial real estate is probably the biggest bubble,” he told Bloomberg TV, noting this bubble has already started cracking.
Shilling is renowned for spotting the mid-2000s housing bubble well ahead of the pack. Now, he believes an overvalued stock market faces serious jeopardy in the precarious economy he sees ahead.
When Will the Fed Come to the Rescue?
Veteran Fed observer Shilling doesn’t expect the central bank to change course and ease policy until 2023 is well underway.
First, inflation needs to show clear and convincing signs of abating after hitting its highest levels in 40 years. And the Fed will probably want obvious economic weakness before feeling comfortable taking its foot off the brake.
“I think the Fed will wait until the latter part of next year when it’s obvious the economy has weakened substantially and inflation is no longer a problem,” Shilling told Bloomberg TV.
He expects global forces like technology and globalization to gradually overcome inflation anyway. Those deflationary trends have constrained prices for decades, and Shilling believes they will overpower inflation again before long.
When the Fed eventually pivots dovishly, it could put a floor under battered stock markets. But until then, risks remain skewed sharply to the downside according to this legendary market sentinel.
Tread Cautiously, More Volatility Awaits
With recession odds elevated, inflation still problematic, and stocks overpriced relative to weakening earnings, investors should brace for more whiplash ahead.
Shilling recommends seeking refuge in Treasurys and the greenback while shunning economically sensitive assets like stocks. Once the recession passes and recovery gets underway, conditions may become more favorable.
But for now, the 50-year market sage sees a hazardous outlook. Caution seems prudent until risks abate and better opportunities emerge.
