With the probability of a recession dropping below 50% in their estimation, Capital Group’s investment team is looking at a recovery that they expect will be very different from prior economic recoveries.
“I think it’s going to be materially different from the Great Financial Crisis recovery, for example,” said economist Jared Franz during a virtual roundtable last week. “That was a recovery that was stymied a lot by deleveraging on the consumer and corporate sectors, and reduced fiscal spending. We’re almost going to see the inverse of that going forward in 2024 and into 2025.”
This time around, in addition to a strong consumer with a supportive labor market, the impact of the CHIPS Act, Infrastructure Investment and Jobs Act, the Inflation Reduction Act, and the energy transition will soon start to be felt throughout the economy, he said.
“In the third quarter we’ll start seeing some of that money in the national accounts,” he said. “That’s not just going to be a one- or two-year cycle. That’s going to be multiyear. That’s going to be five years. That’s big money. We’re looking at GDP that can be 2.5% or higher coming out of this. So very different.”
Also different is the advent of AI and investment in the technology that is “general-purpose,” meaning it can be used in many ways across all industries, Franz said.
“What we know from history with other general-purpose technologies like the steam engine, for example, is they can increase productivity over decades in some cases and can also increase actual GDP growth,” he said. “That’s a significant potential.”
With those tailwinds in the background, Franz said other strengths in the economy have led him to ease away from a base case of a short, mild recession.
“There’s three reasons,” he said. “The consumer, the consumer, the consumer.”
The consumer, he said, represents two-thirds of the U.S. economy, and if the consumer stays resilient even if individual sectors like housing and manufacturing hit soft patches, then there should be no recession at all.
Supporting the consumer is the strong labor market, where, despite interest rate hikes by the Fed designed to combat inflation partly by increasing unemployment rolls, the 3.7% unemployment rate “hasn’t budged,” he said. Demand for workers remains high in healthcare and retail. Meanwhile, inflation is slowing.
“We’re starting to see inflation coming down. It’s not down to 2%, but we’re starting to see early signs that inflation is coming down from those nosebleed levels of 8%,” Franz said. “That’s adding some resilience to the U.S. consumer. If the consumer stays resilient, and we start seeing improvement in housing and other sectors, then that’s how we skirt a recession.”
Chris Buchbinder, equity portfolio manager at Capital Group, said that like many investors earlier in the year he was very concerned about an impending recession. But now puts its probability at less than 50%.
“Why do I say that? This is Godot’s recession, right? This is the most anticipated recession we’ve all been waiting for. And as a result, companies began pulling back much earlier than normal,” Buchbinder said. “There are fewer imbalances than we would typically find during a period of time when the Fed’s tightening, which means there are fewer things that can go wrong from here.”
Buchbinder said the way this new thinking has shaped his portfolio has meant that he’s focused on the companies and industries that have already suffered some degree of industry-specific cyclical downturn.
The core of his portfolio includes “Covid recovery” industries, which he defined as companies and sectors that really struggled during the pandemic and have more recovery to go, including aerospace and travel. Also considered core are rebounding growth leaders like Meta, Netflix and Amazon that did well during the pandemic, only to lose their luster in 2022, and finally cyclical industries, such as semiconductors, chemicals and energy.
Aside from the core of his portfolio, Buchbinder eyes “companies in controversy” where he can hold them until the controversy fades—such as Royal Caribbean, PG&E and General Electric, he said.
But when it comes to investing in AI, Buchbinder voiced some words of caution.
“I think AI will have very significant long-term implications both on business models and revenue models, and also certainly on costs over time,” he said. “I would also say I think it’s really difficult to understand all those implications from where we sit today, and any forecast of how things will develop is likely to be proven incorrect.”