For Wall Street economists who have long adhered to the view of "economic growth bull market", they are increasingly inclined to release new research reports to reverse their views. Bond and commodity markets have long predicted disturbing data, waking up traders of risk assets such as stocks this week, which is the worst performance of the US stock market since the crisis in 2023. Wall Street traders suddenly focus on future US economic risks.$SVB Financial (SIVBQ.US)$"Bad news is good news" has long been one of the driving factors for the valuation increase of US stocks - that is, a sluggish US economy means that the Fed's interest rate cuts will become more aggressive, thereby benefiting the trend of risk assets such as US stocks. However, recently this theory can be described as "falling apart", and the market has once again embraced the "classic framework" that drives the upward trend of US stocks, namely strong performance and resilient macroeconomy, rather than "bad news is good news".

The trigger for the 'Sam Rule' was the July unemployment rate data, which can be said to be the beginning of the failure of the 'bad news is good news' trend. Since then, the catalyst for the upward trend of US stocks no longer relies on interest rate boosts from weak economic data, but more on resilient macroeconomic data and strong performance. The emergence of continued weak economic data not only indicates a slowdown in the US economy, but also an increasing possibility of a US economic recession. The negative chain reaction of recession, such as a sharp decline in consumer spending, significant reduction in corporate expenses, and large-scale layoffs, will undoubtedly deal a heavy blow to the valuation of the entire US stock market.

In contrast, the most obvious example is the initial jobless claims data that has been hovering around or even slightly higher than expectations since early August. This continued to dampen the expectation of an aggressive 50 basis point rate cut and also pushed down recession expectations. However, US stocks have been on the rise during this period.

Performance has also been an important catalyst for the recent upward trend in US stocks.

$Alphabet-A (GOOGL.US)$ As for macro data, the US Department of Commerce showed that the monthly rate of retail sales in the United States in July recorded an increase of 1%, the largest increase since January 2023. It was estimated to rise by 0.4% and the previous value was 0%. Compared with June, this was a strong rebound, and the sales data for June was revised to a decrease of 0.2%. Economists surveyed by The Wall Street Journal had expected sales to increase by 0.3%.$Microsoft (MSFT.US)$and $Tesla (TSLA.US)$The underperformance of technology giants and the fuzzy AI monetization prospects have without exception caused a sharp drop in these companies' stock prices, and due to their significant weight, have led to a weakness in the market. However, investors are not completely abandoning AI-related technology stocks, but are instead focusing on finding companies that can achieve performance growth numbers through breakthrough generative AI. For example, German software industry giant SAP and AI software pioneer$S&P 500 Index (.SPX.US)$Investors are not completely abandoning AI-related technology stocks, but are instead focusing on finding companies that can achieve performance growth numbers through breakthrough generative AI. For example, German software industry giant SAP, and AI software pioneer$Palantir (PLTR.US)$As well as the old-tech giant $IBM Corp (IBM.US)$ , the parent company of Facebook $Meta Platforms (META.US)$ After announcing better-than-expected quarterly performance and performance outlook, the stock price of

However, after the release of weaker-than-expected non-farm data in August, although the expectation of a 50 basis point aggressive interest rate cut has increased, the expectation of a recession has also increased, which has pushed the U.S. stock market to another big decline. Moreover, most of the economic data released since September suggests that the U.S. economy is getting closer and closer to a recession, even pushing the S&P 500 index to its worst weekly performance since March last year.

This is also why, compared to a 50 basis point interest rate cut, the market would prefer the Federal Reserve, which has already signaled an interest rate cut, to choose a 25 basis point cut in September. If the Federal Reserve chooses 25 basis points in September, it is basically equivalent to a "precautionary interest rate cut", which means that the Federal Reserve is relatively optimistic about the U.S. economy, and the 25 basis point cut is more based on preventing the U.S. economy from entering a recession and striving to contribute to the momentum of the U.S. economy; whereas a 50 basis point interest rate cut largely means that the Federal Reserve is relatively pessimistic about the U.S. economy - that is, Fed officials may see signs of an economic downturn in the market that have not been noticed, pushing the possibility of a self-realizing economic recession, and also means that the starting point of the Federal Reserve's interest rate cut may not be the same as that of a "precautionary interest rate cut", which may trigger a panic sell-off in the U.S. stock market due to the surge in recession expectations.

Wall Street traders are increasingly succumbing to concerns about growth.

After a quick rebound from the lows in early August, Wall Street traders are succumbing to concerns about economic growth due to recent disappointing economic data, including labor market and extremely weak ISM manufacturing data. The S&P 500 index has fallen for four consecutive days, and credit spreads are expanding at the fastest pace since early August.$PHLX Semiconductor Index (.SOX.US)$It has plummeted by 12%, marking the largest weekly decline since the outbreak of the COVID-19 pandemic.

The S&P 500 index, the benchmark index for US stocks, has still risen by 13% this year. Almost all fluctuations in the bullish chart are considered to be short-lived in the context of a booming economy. Risk-sensitive assets are widely believed to be headed for a "soft landing" of the US economy rather than a recession.

However, this type of trading behavior, especially Friday's trading behavior, is a rare consensus among cross-asset investors. According to an indicator, until recently, they had the most severe divergence in their views on the future of the US economy since 2019. Therefore, the consensus reached on Friday is quite unusual.

With the influence of the Federal Reserve's hawkish policy actions over the past two years, the US stock market has joined the longer-lasting market decline this week, due to some economically sensitive retailers (such as Dollar Tree) and weak economic data. However, the significant drag from weak economic data such as non-farm payrolls and manufacturing has been tormenting crude oil prices, copper prices, and bond yields for over a month.

"Investors may now realize the risk of an economic recession, but that's after hitting the snooze button ten times," said Michael Oroko, Chief Market Strategist at JonesTrading. "When you consider the economic data and subsequent earnings reports, the environment may only worsen."

When the stock market is dancing, the bond market has already sounded the alarm.

Bond investors, whether right or wrong, have always been regarded as "smart money" because they tend to be the first to anticipate changes in the economy. They bet that the pace of rate cuts by the Federal Reserve will be faster than Wall Street's general expectations. This has also pushed the yield on 2-year US Treasury bonds to the lowest level since 2022, indicating that bond investors expect the US economy to deteriorate further, prompting the Federal Reserve to continue cutting interest rates by 50 basis points.

Commodity market indicators also send warning signals about the prospects for consumption and investment cycles, with significant declines in two major commodity indicators measuring global growth - oil prices wiping out all the gains of 2024, while copper prices have fallen in 13 of the past 16 weeks.

Although the US stock market embarked on a completely different bull market path in 2024 under the catalysis of "bad news is good news", this week's trend does have a clear omen: in early August, early signs of weakness in the labor market led to a sharp decline in bond yields and stocks, and this volatility storm came and went quickly. The recent outbreak reflects the same concerns that led to the first crash - the US economy may be quickly stagnating, and the Federal Reserve is unable to boost the economy with "preventive rate cuts", and there is not enough time or urgency for any emergency policies to remedy the situation.

From a certain perspective, the synchronized sell-off of risky assets such as stocks confirms the particularly cautious attitude in government bonds. To understand how the pricing of stocks and credit differs from other assets in an optimistic growth scenario, you can refer to models compiled by strategists at JPMorgan, including Nicholas Panigirtzoglou. The model assesses the likelihood of an economic recession by comparing the trends of various assets with past cycles, and the possibility of an economic recession as indicated by the trends and pricing of various asset classes. The model shows that as of Wednesday, the implied probability of an economic recession indicated by the stock market and investment-grade credit is relatively low, only 9%.

In contrast, the probability of a recession priced in the commodity and US Treasury markets is much higher, at around 62% and 70% respectively.

Priya Misra, a portfolio manager at JPMorgan Asset Management, said, "I don't think any market is really considering the reasonable possibility of an economic recession, but overall data suggest that the risk of an economic recession is increasing." "Although it is difficult to judge whether the Federal Reserve will cut rates by 25 basis points or 50 basis points in September, if an economic recession is imminent, all markets will have clear moves, and we should not only focus on the pace of rate cuts by the Federal Reserve. Moreover, it will take some time for the rate cuts to penetrate the economy."

The probabilities of recession priced in different asset classes are diverging, with the probability of a recession priced in the stock market much lower than in the bond market.

Of course, in most periods, extracting clean economic information from noisy financial assets is also risky. During the entire inflation period, both the market and central bank governors repeatedly made incorrect predictions about the business cycle. At the same time, various investment factors such as trader sentiment and fund flows may push prices beyond the reasonable level represented by macroeconomic fundamentals. For example, the recent logic behind the correction in the US stock market includes not only recession concerns but also crowded positions and overvaluation, especially for large technology stocks such as Google and Microsoft.$NVIDIA (NVDA.US)$Perhaps the bond market is too pessimistic? There is a high probability of a slowdown in the US economy, but it does not necessarily mean a substantial recession.

Last month, the emotional gap between stocks and bonds was still evident. The equal-weighted version of the S&P 500 Index, which gives large technology companies the same weight as ordinary consumer goods, reached a new high at the end of August, indicating optimism about future business cycles. At the same time, the yield on two-year US Treasury bonds continued to fall, reflecting the expectation that the Federal Reserve, under the leadership of Powell, will be forced to cut interest rates faster than expected to boost the weak US economy. This reflects a stark difference in the market's expectations and pricing of the macroeconomy in the stock and bond markets.

If this belief is established, risky assets such as stocks may be forced to seek new clues from the world's most important bond market. However, this is not a perfect science, but for three consecutive trading days earlier this week, the S&P 500 Index was only 2.5% away from its 52-week high, while the 2-year Treasury bond fluctuated 50 basis points near its 52-week low, a stock-bond divergence phenomenon unseen since 2019.

Throughout the bull market, especially in this post-pandemic era, any predictions of economic recession have proven to be wrong. The bond market is not always correct either. Until this week, the yield on 2-year US Treasury bonds has consistently exceeded that of 10-year Treasury bonds since 2022, the longest-ever period of yield curve inversion.

Now, as the yield curve begins to normalize for the first time in this market cycle, people are starting to question whether it is the most reliable indicator of economic recession.

Now, as the shape of the yield curve begins to normalize in this market cycle, people are starting to question whether it is the most reliable indicator of economic recession.

Throughout history, the signals sent by data have always been ominous. The past four economic recessions have all started after the yield curve has turned positive again. However, with the Fed cutting interest rates, the US economy may achieve a successful 'soft landing,' which could stimulate a steeper yield curve and push short-term interest rates down.

Deutsche Bank strategist Jim Reid wrote in a report this week, 'Therefore, no matter which way you lean, a positively sloping curve (if we continue in that direction) could bring a critical moment, namely, whether the yield curve has completely lost its ability to be a leading indicator in this cycle, or whether its power this time is later than in previous cycles.'

For Nathan Thooft, a fund manager at Manulife Asset Management with $160 billion in assets under management, an economic slowdown is inevitable, but the US economy will be able to avoid a 'substantial recession.' However, this hasn't stopped his company from reducing its holdings of stocks in recent weeks. He believes that even with an economic slowdown, it will lead to a decline in US stock valuations. 'This is not because we are concerned about a major downturn in the US economy, but because the technical aspects and bullish sentiment are weak due to signs of economic fatigue, high valuations, and election and seasonal factors.'

Editor/Emily