Is A Recession Looming? Will It Boost Gold?

More and more people are worried about a recession in 2016. Several investment banks have raised the likelihood of a U.S. or global recession in recent weeks. Even George Soros has recently warned of an impending financial markets crisis. Is the next recession coming? What does it imply for the gold market?

Recession Will Come but Nobody Knows When

The economy does not grow evenly and continuously. Instead, there are periodic expansions and contractions. In the current monetary system based on fractional-reserve banking and the Fed’s meddling in the economy and interest rates, the boom and bust cycle is as certain as a sunrise. So, yes, the next recession will come one day (given that the current expansion has lasted 6.5 years, it should be sooner rather than later). The question is timing. Nobody knows for sure when it happens. It is almost impossible to predict the precise date of the crisis. Even better, it is very difficult to identify a recession in real time. As a reminder, it took one year after the Great Recession began to admit there was a recession. It results from the excessive optimism among economists and government pundits, and the inaccuracy of the data collection system with seasonality adjustments and never-ending revisions. Thus, when analysts say that the U.S. is not in a recession now, it does not mean that it really is not. We do not say that the U.S. is in a recession, but there are some worrying signals that should not be ignored.

Writing on the Wall

There are several signs that something is wrong with the economy. Manufacturing is contracting. U.S. factory orders plunged in December. There is a downturn in transportation, which is a leading indicator. The decline in manufacturing and transportation, together with falling commodity prices, indicate a reduction in global demand and may signal a recession. Real U.S. GDP growth is slowing down, as well as U.S. export growth or retail sales growth.

Somebody would say that this is only a slowdown, not a recession. However, there are also other indicators suggesting rising fears and uneasiness among investors. Credit spreads are widening, implying a rise in risk aversion and a panic in the junk bonds market. The stock market is also falling and corporate profits are declining. Interestingly, investors shun bank stocks, as many U.S. banks are trading below their tangible book value, which has happened only three times in the last three decades. This is an important signal because the behavior of banks’ and other financial companies’ stocks reflects confidence in systemic stability. Moreover, the yield curve is flattening (or even slightly inverting). The yield curve used to have a strong predictive power of indicating slowing growth or even recessions. Undoubtedly, the shape of the yield curve is strongly affected today by the actions of central banks, but it is still not a good confidence signal. Last but not least, gold may be considered an indicator of the economy's health. The current rise in gold prices signals that the economy is struggling because investors have left other, more risky and lucrative investments like stocks for gold.

Conclusions

The key takeaway is that investors became more worried about a global or U.S. recession in 2016. The precise timing of the next crisis is impossible to predict, however, there are many canaries in the coal mine singing disturbing signals coming from the global economy. As nobody knows when the recession will come, smart investors should protect themselves against it in advance. One way for that would be investing in gold, which usually shines during slowdowns and recessions. Actually, gold gained during most of the several last recessions. Although it initially lost due to fire-sales, the yellow metal finished 2008 with a 5 percent gain.  The next recession should not be an exception.