- Recession fears returned to Wall Street last week as the novel coronavirus spread to more countries and changed the profit outlooks of multiple companies.
- Lori Calvasina, RBC Capital Markets' chief US equity strategist, examined what stock sell-offs have historically signaled about the economy based on their severity.
- Click here for more BI Prime stories.
It was only a matter of time before recession fears returned.
A global economic slowdown was the talk of Wall Street last summer because neither the US nor China appeared willing to compromise for a trade deal. Then shortly before year-end, both nations signed a "phase-one" deal that reignited investors' optimism.
The booster lasted into the new year and powered through the earliest reports of a deadly, novel coronavirus named COVID-19.
But the fuel completely evaporated last weekend when headlines about new cases and fatalities outside of China made clear that this is a global crisis.
The law of gravity took over on Monday, sending stocks into their worst week since the 2008 financial crisis. Along with news of rising fatalities, investors learned that more US companies were revising their 2020 earnings outlooks and restricting business travel.
The big question now is what next, both for containment efforts of the outbreak and the ensuing economic disruptions.
It is usually risky to assume that "this time is different" when markets shudder as they have multiple times during this bull market. But this time could well be different — Wall Street is dealing with a wholly exogenous and unpredictable shock that cannot easily be calmed by an interest rate cut.
To make sense of the cues stocks are sending about the economy's fate, Lori Calvasina, the chief US equity strategist at RBC Capital Markets, divvied up three broad percentage pullback ranges for the S&P 500 and what they historically implied.
All three are listed below — and two of them were hit this week.
1. A garden variety pullback (Cleared)
This kind of sell-off amounts to a 5%-10% pullback from a recent high, and is usually rescued by investors who seize the moment to buy stocks at discounted prices.
US-China trade tensions triggered the most recent one of these. And prior to that, stocks fell 10% in early 2018 when volatility-linked derivatives detonated the broader market.
This time around, stocks cleared the floor of this range at a historic speed. It took just six days for the S&P 500 to slump 10% from its record high and officially record its quickest correction since 1933.
2. A growth scare (Cleared)
Investors have seen several of these since scares the financial crisis — including one that occured two years ago when the Fed raised rates in quick succession.
Calvasina defines this scare as a decline of 14%-20% from the peak. And on Friday, stocks dipped into the upper ceiling of this zone.
"If the S&P 500 resumes its decline and 3,050 doesn't hold, we think the market will be telling us that another growth scare has taken hold and that another significant leg down is looming," Calvasina wrote ahead of the open on Thursday. The 3,050 level did not hold.
3. A looming recession (Pending)
This zone takes the S&P 500 down 24%-32% from its recent high to 2,573 on the upper end.
Calvasina chose this range because it lines up with the median and average declines during recessions dating back to the 1930s.
She added, "The drawdowns in the S&P 500 around the tech bubble and financial crisis were much larger, but we believe that any recession in the US is likely to be quick and mild, as we do not seen the same kinds of excesses in financial markets and the economy today that were present during those times."
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