- Wall Street is largely optimistic about the year ahead, but there are still bearish reasons for the markets and the economy.
- Downside risks include a recession surprise and a shaky stock market as earnings disappoint.
- Persistent inflation, geopolitical risks, rising US debt and consumer weakness are also on the radar.
Record S&P 500 year-end goals and forecasts of a soft landing by 2024 suggest Wall Street is optimistic about what's to come.
But market veterans warn that the bearish argument is still alive.
There is a chance that the effects of the Federal Reserve's tightening policy have not yet fully materialized, and experts say there are still many dangers that could arise even as the central bank begins to consider cutting rates.
Stubborn inflationgrowing US debtand a fatigued American consumer, among other factors, could tip the economy into a recession and hurt the stock market along the way.
For starters, the latest inflation data showed that consumer prices unexpectedly rose in December to 3.4% year-on-year, up from 3.1% the previous month. This has clouded the outlook for Fed policy and tempered expectations for rate cuts starting in March.
"The most important thing is that it is now very clear that a recession is not necessary to reduce inflation to 2%, so any recession that occurs would be a mistake made by the Federal Reserve," the chief economist of the Federal Reserve told Business Insider. Morningstar, Preston Caldwell.
"And it would be a mistake that would be quickly corrected by quick and deep rate cuts," he added.
If the lagged effects of rising rates really hit the economy, hiring would slow, unemployment would rise and consumption would ultimately decline, according to Allianz senior investment strategist Charlie Ripley.
"The feedback to stock markets would be a decline in profit margins and lead to a decline in broad stock indices," Ripley told Business Insider. "For this to happen, we would have to see unemployment rise well above 4% and somewhere close to the 5% level."
Historical data suggests that stock market returns are mixed during a recession. Of the 31 recessions that have hit the United States since the Civil War, stocks delivered positive returns in about half of those cases.
It's also worth noting that stock market returns have been highly concentrated on the Magnificent Seven's mega-cap stocks over the past year, and a significant drop in those names could result in a sharp move lower for the market. in general.
Household and government debt
Americans have effectively exhausted all their savings due to the pandemic and a slowdown in spending may already be underway. Credit card delinquencies are emerging, people are saving lessand consumer confidence is tepid.
Even retail hiring fell during the holidays, suggesting that companies are also becoming cautious.
"While the economy looks strong based on retrospective data, it is quite fragile if the consumer pulls back," said Sal Naro, chief investment officer at Coherence Credit Strategies. "Such a pullback would result in companies reducing capital expenditures and employee headcount to limit profit margin deterioration, further exacerbating weakness in consumer spending and creating a vicious downward cycle."
But it's not just about homes. The government is also racking up historic debt.
Eric Diton, president and managing director of The Wealth Alliance, who has an optimistic outlook for the year, pointed to Fitch's recent downgrade of US debt, which crossed the $34 trillion mark.
While the country has run a huge deficit during a period of economic growth, doing so during a contraction could spell trouble.
"At some point, it is quite possible that buyers of US government debt will demand higher rates to take the risk of financing a country without a concrete plan to reduce its debt," Diton told Business Insider. "Higher long-term rates slow the economy and can ultimately cause a recession as borrowers generally pay more."
JPMorgan warned that the US debt situation is like a "boiling frog" situation, and that by the time something is done about it, it may be too late to avoid the worst of the damage.
Geopolitical risks
Overseas conflicts and geopolitical turmoil also loom large.
Russia and Ukraine They are still at war, just like Israel and Hamasand Attacks in the Red Sea have disrupted global supply chains and shipping. Tensions are also rising in Asia, with China's sights set on Taiwan and tensions rising with the United States.
"A military move by China would provoke a response from the United States and that could be World War III," Diton said. "Financing a war would strain an already over-leveraged US balance sheet, reducing domestic government spending and leading to a possible recession."
Experts say Red Sea disruptions also threaten to reignite global inflation this year. The waters around the Suez Canal are among the world's most important routes for international trade, and disruptions to energy flows in particular could open a new chapter in the inflation saga.
