A U.S. Recession May Be in the Cards

By Adam Thurgood on April 24, 2025

Recession is a scary word.  Our two most recent experiences with the “R” word bring back memories of catastrophic job loss and mass economic pain.  The Great Recession and the COVID collapse were scary times, no doubt, but not all recessions are as significant nor as brutal as the two mentioned above.  Before laying out what our models are forecasting, let’s start with a quick overview of what a recession truly is so we can better gauge which kind we are headed towards.

The common definition of recession is two consecutive quarters of economic contraction.  While this definition gives some indication of time, it does little to clarify what is happening and why.  The International Monetary Fund defines a recession as “a significant decline in economic activity spread across the economy, lasting more than a few months.”  This definition provides a bit more context but still doesn’t get to the heart of what is happening.  Perhaps the best definition I’ve seen of a recession is from John Hussman who said, “recessions are first and foremost periods when a mismatch emerges between what the economy has been producing, and what the economy now demands.”

Hussman’s simple definition of recession highlights the importance of the interaction between supply and demand.  In a perfect world, the makers of goods and the providers of services would be able to anticipate changes in demand and perfectly supply the market to keep it in balance.  In reality, supply tends to change once trends in demand have changed, leaving a lagged gap between the two (in either direction).  While we can’t predict with precision what will happen with demand, we can use a series of leading indicators to get a sense of what might happen.

Our leading economic model is composed of four main categories that measure economic activity: 1) employment, 2) income, 3) production, and 4) consumption.  Within each of these categories there are multiple economic indicators that contribute to the aggregate reading.  Together, they provide insight to the direction of economic activity and can give us a sense of what may be heading our way.  Let’s dive into each in more detail.

Employment

Leading measures of the labor market have been weak for some time.  Part of this persistent weakness can simply be chalked up to COVID distortions working their way through the system.  The massive layoffs followed by massive hiring have messed up historical averages, causing many to discount the message coming from a host of leading indicators.   However, over time, these distortions become less significant so it may not be wise to continue to dismiss the negative trend in leading employment indicators.  There appears to be some real angst lurking under the surface. 

Source: Bloomberg, as of 4/23/25

NFIB small business hiring plans are running at a negative 34% rate on a six-month smoothed growth basis.  The jobs plentiful vs hard to get index is also weak, with the six-month smoothed growth rate down nearly 12%.  The quits rate, which measures the number of people that willingly leave their jobs, is also weakening, which signals workers are less confident in finding a better job.  However, it is not all doom and gloom.  Initial claims, which provides a read on the trend in layoffs and is one of the most important leading indicators of the labor market, has yet to materially increase.  Should this one turn higher, we’d grow far more concerned.

Lurking in the back of our minds is the historical relationship between rising unemployment and recession.  As you can see in the chart below, over the past 70+ years, once the unemployment rate crossed above its two-year moving average, a recession was all but confirmed.  We crossed that point about 18 months so history would suggest we are either in or close to being in a recession.

Income

Real income growth has been hard to come by in recent years due to high levels of inflation.  While nominal wages have increased, the amount of goods and services those wages can buy has consistently marched lower.  This is especially true for lower-income consumers where the majority of their spending is concentrated on food, energy, and essentials.  Our friends at Strategas call this the “Common Man” inflation basket and it has wrecked-havoc on lower-income consumers’ real purchasing power. 

Source: Bloomberg, as of 4/23/25

In terms of income growth, we analyze indicators such as small business compensation plans and job switcher wage growth.  As you can see below, these metrics are firmly in the red, which is not a great sign for income levels. 

Source: Bloomberg, as of 4/24/25

Production

What looked like a bright spot coming out of the election, production indicators have taken a dramatic turn lower over the past month. 

Source: Bloomberg, as of 4/23/25

The back and forth on tariff policy has caused uncertainty to spike to levels we’ve rarely seen before.

The escalating tariffs on China have gotten so high that they have effectively moved from being tariffs to a pseudo trade embargo.  According to CNBC and Vizion, U.S. import volumes on ocean bookings from China were down 64% the first week of April versus the last week of March.  That is an astonishing grind to a halt in trading activity.  It is no wonder that CEO confidence has plummeted.

Most of the leading indicators of production are soft data, meaning they capture feelings or intentions rather than actual economic output.  Therefore, there is a chance that these measures could reverse course and not end up leading to a significant decline in production.  However, the longer uncertainty remains high, the greater the probability that the decline in soft data will turn into negative hard data. 

Consumption

The University of Michigan’s consumer sentiment index has plunged this year, running at a negative 33% smooth six-month growth rate, while the Conference Board’s measure of consumer confidence is also in the toilet.  Now, some of this could be due to political views.  Democrat consumer sentiment is at its worst point since they began collecting this data in the early 2000’s (far worse than during the financial crisis!).  Yet even republican sentiment has turned lower over the past month. 

Other leading measures of consumption are mixed.  Consumer credit seems okay and the ISM consumer goods new orders index remains in decent shape, but that data is as of the end of February.  We will get March’s data in a couple of weeks, but the post-liberation day impact won’t be seen until we get April and May’s data in the summer.  If consumer goods new orders decline in-line with confidence, that will put further downward pressure on our consumption indicator and push it into recessionary levels. 

Source: Bloomberg, as of 4/23/25

Putting it all together, we are left with a troubling signal for overall economic activity.  Once the aggregate indicator crosses below -1, it has indicated high odds of recession.  While we aren’t quite there yet, we are certainly flirting with that level.  With data expected to weaken over the next couple of months due to the impact from tariffs, the odds of recession are elevated and rising. 

Source: Bloomberg, as of 4/23/25

Typically, when the U.S. experiences a recession the rest of the world follows.  However, the old saying that “when the U.S. sneezes the rest of the world catches a cold” may not play out this time.  The Trump administration’s message to both allies and foes is spurring investment and stimulus across Europe and Asia.  For example, Germany is embarking on a massive fiscal spending package aimed at improving infrastructure and defense.  China is pushing through stimulative measures directed at increasing internal consumption.  Other nations are also headed down the road to stimulate and build their defense capabilities, all in reaction to the U.S.’s changing role in the world.  While far from certain, we may be heading toward an uncommon economic environment where the U.S. economy weakens while the rest of the world avoids the full downturn.  Perhaps that is why international markets are outperforming the U.S. by a wide margin so far this year.

Our strategies have held up incredibly well year-to-date due to our allocation to gold (up 26% so far this year!) and our overweight allocation to international equities and defensive sectors.  We believe this story has further to run but will also look to take advantage of tactical opportunities to tweak exposures when appropriate.  Recessions bring volatility and with volatility comes opportunity.