Recession Obsession

The US economy is slowing and we may be in or heading towards a recession. OK, you already knew that, but it seems like every time we get a piece of data that confirms it, investors sell stocks and become obsessed with the notion of recession. That’s what happened yesterday.

The Institute for Supply Management (ISM) released its findings earlier than scheduled amid concern that this important data may have gotten into the public domain --- is anyone else flashing back to the leaked crop report in “Trading Places”? The ISM reported that the U.S. service sector contracted for the first time since March 2003 in January. The ISM's services index came in at 41.9, versus 54.4 for December -- far lower than the forecast 52.5. Any reading below 50 indicates contraction, which obviously would indicate a slowing economy.

Investors hate negative surprises and usually react to them by selling stocks. Each of the 30 stocks that make up the Dow Jones Industrial Average fell as the index lost 370.03 points, or 2.9%, to 12,265.13. It was the worst single-day performance of the year in both point and percentage terms. Year to date, the Dow is down 7.5% and is 13.5% below the high it touched on Oct. 9 of last year. The S&P 500 dropped 44.18, or 3.2%, to 1336.64, is now down 9% on the year and 15% below its October high. The Nasdaq Composite Index fell 73.28 to 2309.57, a decline of 3.1%, leaving it 19% below its October peak and down 13% year to date.

With data telling us that the economy is slowing, hearing the Richmond Fed President Jeffrey Lacker say that “the risks [of recession] have risen lately," does not seem particularly enlightening. Still, many commentators attributed some of yesterday’s selling to these comments. Lacker noted that more interest-rate cuts might be needed to tackle risks to growth -- but also acknowledged concerns about inflation – again, this is information that we already know.

So where does that leave us as we enter a new trading day? Clearly the US economy faces a turbulent time ahead, with a housing market mired in a recession; tighter financial conditions; and potential spillover of the credit crisis into other areas of the economy. Before you find yourself in a full blown recession-obsession, remember that the combination of monetary and fiscal stimulus should help steady the ship and eventually lift the economy. And of course, it’s never as bad or as good as you think it is.