Recession Risks Looming Over U.S. Stock Market: Insights from Goldman Sachs

The S&P 500 futures have seen an impressive rebound, rising about 18% since the significant low recorded on April 7. Just a couple more solid days of trading could catapult these futures into bull market territory. This resurgence has led traders to speculate that the stock market may have overreacted to the initial concerns surrounding the potential disruptions from the U.S.-China trade war. A contributing factor to this optimistic outlook was President Trump’s 90-day pause on his “reciprocal” tariff plan, which offered some respite.

However, Goldman Sachs has voiced concerns about the sustainability of this market rebound. Alec Phillips, the bank’s chief political economist, cautions that President Trump’s remarks regarding a trade deal with the U.K. imply that numerous countries could end up facing tariffs considerably higher than they did prior to Trump’s re-election. This scenario complicates the overall market landscape, as the possibility of heightened tariffs raises questions about future economic growth.

Is a U.S. Recession on the Horizon?

During a recent podcast titled “On the precipice of another dip?”, Goldman’s chief economist, Jan Hatzius, and chief global equity strategist, Peter Oppenheimer, expressed their cautious outlook for the market. Hatzius has assigned a striking 45% probability to the likelihood of a recession occurring within the next 12 months. He acknowledged the contradictory nature of recent economic data—while soft data, such as sentiment surveys, has shown weakness, hard data, including recent payroll numbers, has been more promising. Hatzius noted a historical trend: hard data typically lags behind soft indicators by about 60 days, suggesting this cycle may see an even longer delay as businesses rush to complete transactions ahead of anticipated tariffs.

The Federal Reserve’s Response

As economists analyze these developments, the Federal Reserve finds itself in a precarious position. With the uncertainty around tariffs and their potential inflationary effects, the Fed may hesitate to adjust its monetary policy until visible deterioration occurs in the labor market. Hatzius posits that if a recession does materialize, this could compel the Fed to implement up to 200 basis points of rate cuts to stimulate the economy.

Market Dynamics: Reasons for Optimism and Caution

Despite the mixed signals and looming recession risks, Oppenheimer pointed out that the stock market has recently benefited from several positive factors. Traders have welcomed Trump’s temporary retreat from his initial punitive tariffs and have responded favorably to earnings results that, although not exceptional, have been “reasonably decent.” Furthermore, a significant number of retail investors have been active in the market, eagerly buying the dips.

Yet, Oppenheimer remains cautious. He noted that first-quarter earnings do not fully reflect the impact of the tariff turmoil that has unfolded since then. Should hard data begin to deteriorate—particularly regarding the state of the U.S. labor market—Oppenheimer warns that the market may increasingly view recession risks with greater seriousness, potentially leading to a significant downward correction in stock values. “Bear in mind the U.S. market is back to a PE [price-to-earnings multiple] of 20, so it’s not particularly cheap,” he noted. A typical recession could see a 10% decline in earnings, which might revalue the S&P 500 to levels around 4,600, he suggested.

The Global Market Context

In addition to domestic concerns, Goldman Sachs highlighted the growing pressure on U.S. stocks from international investors. As the advantages enjoyed by American technology giants begin to erode, foreign investors may decrease their investments in Wall Street, which could further complicate the U.S. market’s landscape. Historically, the U.S. has accounted for a staggering 70% of global stock market valuations; however, this figure is likely to decline in the coming periods.

Avoiding Structural Bear Markets

On a somewhat optimistic note, Oppenheimer does not foresee a structural bear market on the horizon. Unlike event-driven bear markets, which tend to be deeper and more prolonged, structural bear markets arise from significant asset bubbles and deep imbalances within the private sector, similar to situations witnessed in Japan in the late 1980s or during the financial crisis of 2007-2008. Nevertheless, he emphasizes that there is an asymmetric risk to the downside for stocks in the short term.

In conclusion, while the recovery in the S&P 500 signals potential optimism, underlying recession risks and concerns about tariffs loom larger. Investors and traders alike should remain vigilant, closely monitoring economic indicators that may provide clues regarding the health of the labor market and consumer sentiment in the months ahead.