The stock market's recession playbook is in full effect
Stock traders are behaving like they have during past instances when recession fears have flared.
iStock; Rebecca Zisser/BI
- Investors are de-risking their portfolios amid recession fears, driving a stock-market sell-off.
- Weak economic data, including a surge in unemployment, has fueled recession concerns.
- Traders are responding by piling into defensive and dividend-paying stocks, as well as government bonds.
The stock market's recession playbook is in full swing as suddenly panicked investors look to aggressively de-risk their portfolios amid fears of a downturn.
Major equity indexes have been in free fall for three days running, with a sell-off in response to a slew of weak economic data. Investors are questioning whether the Federal Reserve waited too long to cut interest rates and whether it's too late to fend off recession. As indexes sit deeply in the red, with the Nasdaq-100 in correction territory, cries for an emergency cut are gathering steam.
But that doesn't mean every area of the market is getting hit. As the S&P 500 has fallen 5% since Thursday, three sectors in the benchmark index have stayed in the green: real estate, utilities, and consumer staples. Viewed as safety plays during market turmoil, they've outperformed amid investor nerves.
The same goes for ultrasafe bonds. US Treasury yields sit at yearly lows as traders play defense and flee into government debt.
Detailed below are four outperforming areas of the market that make it clear investors are employing the recession playbook:
1. Defensive stocks
Investors are sowing cash into defensive stock sectors, such as consumer staples and utilities, which tend to outperform during rough patches in the economy.
Since Thursday, the consumer-staples and utility indexes within the S&P 500 have been up 0.7% and 0.3%, respectively. Grouped with real estate, those are the only areas of the benchmark index that have gained over the past three trading days, with all other areas of the market posting losses that trail up to 10%, according to Bloomberg data.
"As the rate of economic growth in the US is poised to slow in the second half of 2024 and into 2025, investors have looked to the stability of defensive stocks to position their portfolios to weather any potential downturn," David Sekera, the chief US market strategist at Morningstar, said in a recent note.
2. Dividend-paying stocks
Stocks that pay out dividends to shareholders, another common recession play, are also growing in popularity.
Utility stocks, which often pay dividends, have outperformed the overall S&P 500 over the past few trading days, while the iShares Global Utilities ETF is up 12.7% from levels at the start of the year.
3. Government bonds
US Treasurys saw a sharp rally on Monday as traders anticipated steep rate cuts — a policy move that is typically indicative of the Fed responding to recession risks.
Treasury yields, which fall as government-bond prices rise, hit their lowest level in a year on Monday. The yield on the 10-year US Treasury fell as much as 10 basis points in early-morning trading, while the yield on the two-year US Treasury plunged as much as 16 basis points.
"Bonds are seeing safe-haven demand," David Rosenberg, the chief economist of Rosenberg Research, said in a note on Monday. "For the macro bulls out there, I have some news for you: the bond market is telling you something not-so-good is about to happen," he later added.
4. Selling high-momentum growth stocks
Investors, meanwhile, are shedding high-flying growth stocks — specifically, tech stocks — from their portfolios. The Nasdaq deepened its descent into correction territory this week, with the tech-heavy index losing 12% over the past 30 days.
The S&P 500's information-technology index, meanwhile, is down 9% over the past three days.
"The tech bubble, as was the case in 2000 (and it wasn't all about dot-coms back then, but the entire sector getting swept away by the Internet as has been the case now with the AI craze), is in the process of popping," Rosenberg wrote. "As we saw with routers, cable, and fiber optics in the late 1990s, anxiety over AI over investment is now beginning to build, and the comparisons are stark."
Still, some forecasters say the outlook for a recession remains uncertain. While the slowdown in the job market looks concerning, weakness in the latest jobs report was likely overstated because of recent weather events, which temporarily displaced about 416,000 workers, Ned Davis Research said in a note.
"Next's year's pricing makes sense if the US economy falls into recession and/or inflation tumbles below the Fed's 2% target," analysts said of the market's rate-cut expectations. "Although we may get there, that is not our call at this time."