Goldman Sachs’ economists declared the U.S. economy all but recession-proof at the dawning of 2020, but now it appears a coronavirus-induced recession may have begun just a few months later.

The analysis didn’t account for a “Black Swan,” a term for an improbable and unforeseen event. Instead, it explored the idea of a “Great Moderation,” which is characterized by low volatility, sustainable growth and muted inflation.

“Overall, the changes underlying the Great Moderation appear intact, and we see the economy as structurally less recession-prone today,” Goldman economists Jan Hatzius and David Mericle wrote.

The economy, they argued, would settle gently after 11 years of growth.

“While new risks could emerge, none of the main sources of recent recessions — oil shocks, inflationary overheating, and financial Imbalances — seem too concerning for now. As a result, the prospects for a soft landing look better than widely thought.”

All the risk assessment and economic modeling in the world is futile if it can’t anticipate the one variable that matters most — particularly if it’s a pandemic.

People waiting on a line to enter Trader Joe’s in New York, March 12, 2020.

Valerie Block | CNBC

Pioneering economist Burton Malkiel, who is also chief investment office at Wealthfront, was also bullish on the U.S. economy as the year began. Appearing on CNBC’s “Squawk on the Street,” he said he could not spot a recession on the horizon. He also qualified his remarks by saying that predicting a recession is a very difficult task.

“My guess is, if we have a recession, what’s going to cause it is some shock that we don’t know of now,” said Malkiel, author of the 1973 book “A Random Walk Down Wall Street.”

“Some international shock,” he predicted. “It’s going to be something like that, not something we can see in the immediate future.”

Has the recession arrived?

Recessions are not officially declared until the economy is already deep into them, or until after they’ve passed.

Economist  Alan Blinder told CNBC’s “Squawk on the Street” on Wednesday that the U.S. was probably already in a recession as the coronavirus outbreak cancelled conferences, events and travel plans.

“I wouldn’t be one bit surprised if when we look back at the data, it is decided … that the recession started in March,” said Blinder, a former Federal Reserve vice chairman who now serves as a professor at Princeton. “It wouldn’t be a bit surprising to me.”

By slight contrast, JPMorgan economists predict the U.S. will skirt the technical definition of a recession. They’re calling for negative growth in the nation’s gross domestic product, but they’re calling that a “novel-global recession” since it will only be temporary, according to their forecast. 

In January, it was easy to make bullish forecasts because stocks were setting record highs.  Coronavirus was just beginning to make headlines, and it was the furthest worry from most investor’s minds. Many economists and analysts, in fact, were expecting a slowing economy to glide to a soft landing.

Unheeded warnings

Still, analysts warned about flat corporate earnings, weak manufacturing, high corporate debt loads, a possible resurgence of the U.S.-China trade war, and a potentially divisive election cycle. And for a brief moment, the top worry was the prospect of a war with Iran after an air strike that killed Qasem Soleimani,  an Iranian major general in the Islamic Revolutionary Guard Corps. 

“A violent escalation of hostilities between the U.S. is nearly certain in the coming days, a game changer that will obscure everything else,” declared Greg Valliere, chief U.S. policy strategist at AGF Investments. “There’s a reason, finally for caution in the stock market.”

Savita Subramanian, head of U.S. equity and quantitative strategy at Bank of America Merrill Lynch, had put out a note that said the corporate earnings outlook was flat and that the market “feels toppy.”

“Weak revisions don’t bode well for early 2020,” she wrote.

Other market observers warned about lofty price-to-earnings ratios and a high concentration of investment in just a handful of stocks, such as Facebook, Apple, Amazon, Netflix and Google parent Alphabet.

“We still think the greatest risk in the equity market remains in growth stocks, where expectations are too high and priced,” Michael Wilson, chief U.S. equity strategist at Morgan Stanley, wrote in December.

UBS analysts warned of a coming wave of credit downgrades for U.S. stocks, which may still be on the way as a pandemic grinds portions of the economy to a halt.

“It’s no great secret that U.S. companies have been piling on debt in the past decade,” the analysts wrote. “A mere ten years after the financial crisis, total non-financial corporate debt stands just shy of $10 trillion, or about 50% higher than the lows seen in 2009. Interestingly, debt is NOT a major theme in today’s marketplace.”

Last summer, recession worries escalated when the bond market experienced an inversion of the yield curve.  Short-term Treasurys began paying a higher yield than long-term Treasurys –  a phenomenon that portends a downturn is due within the next 22 months or so.

Michael Darda, chief economist and market strategist, warned that ignoring the yield curve was a mistake. “We are somewhat baffled by the gaggle of Wall Street strategists cheerleading the soft landing based on what we believe is a faulty reading of the macro indicators,” he wrote. “One frequent refrain is that we now have an upward sloping yield curve and hence recession risk has evanesced. Yet, the curve is, on average, 12 months ahead of the cycle, not an instantaneous indicator of real time recession risk.”

 

In the end, most of the things investors were worried about did not trigger one of the biggest market crashes in Wall Street history or the economic pain that most assuredly will follow. It was an outbreak of a new virus that many thought would be contained to foreign lands — and this was truly a Black Swan.

“We are going into a global recession,” warns chief economic advisor at Allianz Mohamed El-Erian, who correctly called the bear market as it approached. “The economic damage is going to last.” 

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