"Is the wolf coming" or "Is the wolf really coming"? Will tonight's non-farm payrolls trigger a "self-fulfilling" recession?

As the September rate cut approaches, the tightening cycle of the Federal Reserve is coming to an end. However, since the rate hike in March 2022, the market has quietly staged a "reverse operation": the financial conditions index has risen instead of falling, and both the stock market and housing prices have hit new highs.

This abnormal phenomenon challenges the concerns that have arisen in the market: Is the economic situation in the United States more complex than imagined? Normally, a rate hike would tighten the financial environment, but the current situation in the United States is quite the opposite.

In its latest research report on the 4th, Nomura Securities pointed out that there are still vulnerabilities in the current U.S. economy, believing that the current high growth in U.S. household net worth is not sustainable, and once a market adjustment occurs, it may have a serious negative impact on the economy.

It is worth noting that the heavyweight non-farm payroll data will be released tonight. If the employment data performs poorly, it means that the U.S. economy is heading towards a recession, and the Federal Reserve may take more aggressive rate cuts to stimulate the economy.

Non-farm payroll data is imminent, is a recession imminent?

By comparing the economic and financial variables before and after the bursting of the Internet bubble in 2000-2001 with the current situation, Nomura Securities found that despite some recent turbulence, the S&P 500 index and the Nasdaq index have hardly adjusted, but the unemployment rate has risen more sharply. This is similar to the early stages of the bursting of the Internet bubble.

During the bursting of the Internet bubble from August 2000 to March 2001, the S&P 500 index and the Nasdaq index fell sharply, by 24% and 56% respectively; the ISM manufacturing index continued to decline, falling below the 50 boom-bust line; the unemployment rate surged in January 2001, while the inflation rate remained around 2%.

The report points out that although the stock market had already plummeted by the end of 2000, the Federal Reserve did not start cutting rates until January 2001. In just three months, the Federal Reserve cut rates three times by a total of 150 basis points, showing concerns about an economic recession. In April 2001, after the U.S. economy officially entered a recession, the Federal Reserve further cut rates by 150 basis points to 3.5%. The subsequent terrorist attacks further exacerbated the economic situation.

Nomura Securities states that the current situation differs from the Internet bubble in several ways: consumer confidence is weak, core inflation is high, and oil prices are falling.

Nomura Securities particularly emphasizes that when asset prices (such as stocks, real estate, etc.) continue to fall and the overall economic situation deteriorates, a vicious cycle will form, prompting the Federal Reserve to respond more quickly and forcefully. If this Friday's non-farm payroll report falls short of expectations, coupled with intensified selling in the stock market, we are not far from triggering such a vicious cycle.

Optimism and Pessimism: Two interpretations of the market on loose financial conditions

Since the rate hike cycle, the contradictions and controversies faced by the U.S. financial conditions have been ongoing, with overall financial conditions still relatively loose, manifested in stable financial condition indicators and rising asset prices.

Nomura Securities believes that this loose financial condition is the result of multiple factors at play. In the report, it points out two market views:

Optimists believe that loose financial conditions help support the economy and reduce the risk of economic recession. Despite rising interest rates, businesses and individuals can still access funds at relatively low costs In addition, the continuous rise in asset prices such as stocks and real estate has brought expectations of wealth growth to people, thereby stimulating consumption and investment.

However, pessimists believe that this loose financial situation is contradictory to high interest rates and economic cooling, increasing the risk of adjustment. In addition, if a large-scale market adjustment occurs when the unemployment rate is already rising, it could become a catalyst for pushing the economy into recession.

Rapid expansion of household wealth raises concerns among economists

Reports indicate that in recent years, the ratio of U.S. household net worth to disposable income has significantly increased, far exceeding historical average levels.

Calculated by disposable personal income, from World War II to the mid-1990s, household net worth has remained relatively stable at around 5 times. However, since then, the household net worth ratio has experienced two major cycles—the dot-com bubble and the rise and fall of subprime mortgages—followed by long-term prosperity, reaching 7.75 times in the first quarter of 2024.

The report believes that the significant increase in the size of household net worth is due to long-term low interest rates, coupled with quantitative easing, fiscal stimulus, and the boom in the artificial intelligence industry.

The question arises: When household net worth has reached historical highs, will a large-scale market adjustment become the final straw that breaks the economy's back? Moreover, negative wealth effects, collateral effects, and confidence effects may trigger chain reactions.

Nomura Securities draws insights from historical experience. By comparing the dot-com bubble of 2000, the analysis suggests that the current economic situation may face similar risks. The bursting of the dot-com bubble once triggered a severe economic recession