Someone Flipped the Switch to 'Off'

Acting Man: The Phrase that Initiates Recessions

What struck us was a comment made by the CEO of a manufacturing company in the context of the latest Kansas manufacturing survey release. As Wolf street notes, according to the survey, “the future composite index and the indexes for the future production, shipments, and new orders all dropped to their worst levels since 2009”. Here is what the CEO said:

“It feels like someone just flipped the switch to ‘off’ without any concrete reasoning,” one of the executives commented.

(emphasis added)

We immediately recognized that phrase – we have heard it twice before, and it has stuck with us ever since. In fact, we have mentioned it a few times when occasion demanded in past articles. The first time we heard this phrase was in late 2000, in an interview with the CEO of a telecom equipment provider. Paraphrasing: “It’s as if someone had just thrown a light switch – orders have suddenly disappeared”.

The next time we heard the phrase uttered was in late 2007 – this time in connection with a mortgage credit company. Ever since, we have filed it away as an anecdotal reference to the onset of recessions. And lo and behold, the phrase is popping up again in a district manufacturing survey.

ZeroHedge: SocGen Models A Chinese Hard-Landing; Sees The S&P Crashing 60%

‘EM lost decade’ scenario: a square root-shaped equity market

Stressing our equity risk premium model indicates that the S&P 500 could potentially drop by 30% to 1400pts due to a strong move in the risk premium during 2016. In such a scenario, the market could quickly rebound (by year-end 2016) in line with commodity prices. We would expect support from central banks and the resilience of the US and European economies to support developed equity markets, which should gradually recover, albeit to a lower level. We thus imagine a square root-shaped scenario in which European equities would underperform US equities, but would then rebound stronger (on the back of a lower oil price, weaker currency, a more aggressive ECB and more attractive valuations).

‘Chinese hard-landing’ scenario: a V-shaped equity market trend

In our hard-landing scenario, a theoretical drop in China’s GDP growth from 6.9% in 2015 to 3.0% in 2016 and its consequences would have a major impact on global corporate earnings. We would expect a sharp sell-off of global equities in such a scenario. Our risk premium model indicates that the S&P 500 could in theory return to its lows (around 800pts). But then again the deflationist shock could prompt the central banks to turn more aggressive and support the equity markets to prevent the S&P 500 from sliding into such a bear market. We think that after such a shock the global equity market would rebound strongly on a return to growth in China and central banks actions.