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If There’s a Recession Coming, Not Even the Fed Could Stop It Now

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Jerome Powell departing after taking the oath of office for his second term as Federal Reserve chair on Monday.

AFP via Getty Images

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The word recession is on the tip of everyone’s tongue.

Influential investor and philanthropist George Soros is talking about it in Davos. The Federal Reserve, on the day minutes are published, is constantly being grilled about it. Stocks are getting hammered as the outlook worsens.

The cause is a combination of the fastest inflation in 40 years and a series of aggressive interest-rate increases to combat it. Which raises the question—if the Fed stopped hiking rates now, could recession be averted?

It’s the latest version of the classic Trolley Problem. A train trolley is barreling down the tracks and people are stuck on the line up ahead. The Fed, in this example, is at the lever to change the course of the tracks, but that would put other people in danger. What should it do?

The answer always depends on how you set up the dilemma. For the Fed, the important thing is that no matter what it does, innocent people are going to get hurt as the economy slows. If it stopped raising rates, or even started to cut, ever-faster inflation would crater consumer spending and upend company plans. That leads to a bad recession in and of itself.

But the Fed sees the lesser damage—the line with fewer people stuck on the tracks—in continuing to hike until it feels like inflation is under control. Letting prices run rampant would lead to an even bigger downturn than the one that comes with interest rates high enough to crimp growth.

That is why, no matter how low stocks sink or retailers lower their outlooks, the Fed will keep tightening. Chair Jerome Powell says that a soft landing is possible, but he kind of has to say that. Otherwise he would have to admit that he is choosing to let the trolley crash into some people, albeit with the best of intentions.

Brian Swint

*** Join MarketWatch retirement reporter Alessandra Malito today at noon as she talks to Michael Finke, Retirement Income Institute research fellow at the Alliance for Lifetime Income, about when annuities are appropriate, why they may be misunderstood, and how to find the right one. Sign up here.

***

Drop in New Home Sales Is ‘Clear Recession Warning’

New single-family home sales dropped 16.6% in April from March, the fourth straight monthly decline and the biggest month-over-month slide since 2013—“a clear recession warning for the overall economy,” said National Association of Home Builders chief economist Robert Dietz.

New home sales were hurt by soaring prices and rising mortgage rates, making homes less affordable. Consensus estimates were anticipating a 1.7% decline, but a “significant number” of home buyers are being priced out, Dietz wrote in a blog post on Tuesday.

Coupled with last week’s decline in existing home sales, there are clear signs that the residential real estate market is slowing down. Lawrence Yun, chief economist of the National Association of Realtors, expects further drops.

The median sales price of a new home in April was $450,600, up 19.6% from a year ago. And last week’s average weekly rate on a 30-year fixed mortgage reached 5.25%, according to Freddie Mac.


Toll Brothers

beat profit and revenue expectations in the second quarter. The luxury home builder said while demand has moderated in the past month, its second-quarter backlog of 11,768 homes means it can continue to project 20% revenue growth for the year.

What’s Next: The last time the U.S. saw a combination of high inflation and low unemployment like today’s was seven decades ago. The combination is usually a harbinger of pain—even when both rates are at more moderate levels. The minutes of the latest Federal Reserve meeting could give investors insight as to the central bank’s efforts to stave off a recession.

Shaina Mishkin and Janet H. Cho

***

Americans Are Still Shopping, but Getting Selective

Retail earnings from Best Buy, Abercrombie & Fitch, Ralph Lauren, Nordstrom, and Petco Health & Wellness underscored that Americans are still shopping, but being more selective about what they are buying. Differing results illustrate the bifurcation between well-heeled and budget shoppers.


Best Buy

reported stronger-than-expected sales and profit, but trimmed its top- and bottom-line forecast for the year, and expects a bigger decline in same-store sales. Best Buy said its margins will likely be squeezed through the rest of the fiscal year.


Abercrombie & Fitch

blamed its disappointing quarter and outlook on lower consumer demand amid record inflation, and higher raw material and freight costs. But


Ralph Lauren

posted stronger-than-expected earnings, saying its customers are buying dressier clothing for social and professional events.


Petco
’s
better-than-expected results show that shoppers are still splurging on pet food and sticking to their favorite brands. It maintained its previous guidance for the full year, including revenue of up to $6.25 billion and adjusted earnings per share of up to $1.

Sales rose 23.5% at


Nordstrom

and 10.3% at Nordstrom Rack, with double-digit growth in menswear, women’s apparel, shoes, and designer goods, as affluent consumers shopped for in-person social events and travel. Purchases at its urban stores surpassed prepandemic levels, despite fewer markdowns.

What’s Next: Nordstrom’s shares soared 11.2% late Tuesday after it raised its guidance for the second time this year. Nordstrom expects total 2022 revenue to rise as much as 8%, and adjusted EPS of $3.20 to $3.50, well above the $3.11 consensus.

Teresa Rivas and Janet H. Cho

***

Advertising Trends Under Scrutiny After Snap’s Q2 Warning

Companies that depend on advertising revenue saw their shares nosedive on Tuesday.


Snap

warned it would miss second-quarter guidance because economic conditions were deteriorating more rapidly than expected, weighing on shares of


Meta Platforms
,


Twitter
,
and


Pinterest
,
among others.

Most investors have been skeptical of Street consensus estimates for 2023 across the digital ad space, though few expected that weakness to show up so soon, said


UBS

analyst Lloyd Walmsley. Snap shares fell 40%, Meta fell nearly 9%, and Pinterest fell 24%.

Digital advertising is the most immediately vulnerable to an economic downturn that would force companies to cut ad spending. That is because of how easily digital ads can be canceled. Local TV and radio advertising usually follow shortly after, wrote


Wells Fargo
’s
Steven Cahall.

Television and outdoor advertising such as billboards are typically purchased in advance and are at less immediate risk unless the recession and drop in advertising spending linger.


Lamar Advertising

was down 5%,


Outfront Media

lost 8%, and


Clear Channel Outdoor Holdings

lost 14%.

Advertising agencies are safer from temporary glitches in ad spending because they have long-term contracts with clients. Media buying is quick to move but creative spending is stickier, Cahall said.

What’s Next: For media giants such as


Walt Disney

and NBCUniversal owner


Comcast
,
diverse revenue sources such as streaming subscriptions, theme parks, and movie-theater box office sales, can make up for declines in advertising, Cahill said. Still, Disney’s shares lost 4% on Tuesday while Comcast rose 0.4%.

Nicholas Jasinski and Janet H. Cho

***

Global Inflation Could Bring Worldwide Depression: Soros

There is trouble brewing in China that may cause a global depression, Soros told attendees at a private dinner on the sidelines of the World Economic Forum. China and Russia were the primary target of Soros’ speech, a fixture of the annual conference of global business and political leaders.

Soros said that China’s harsh response to a resurgence of coronavirus cases with a “zero Covid” policy has pushed the world’s second-largest economy into free fall. Unless President Xi Jinping reverses course, which Soros views as a near-impossibility, this will only gather momentum, the 91-year old said.

The damage, piled on top of a crisis in China’s debt-laden real estate sector, will be so bad that it will affect the world economy, he said, adding: “With the disruption of supply chains, global inflation is liable to turn into global depression.”

Xi and Russian President Vladimir Putin, with their “alliance that has no limits,” stand at the center of what Soros said is the greatest threat to open society and the West.

What’s Next: Russia’s invasion of Ukraine may be the beginning of a Third World War, Soros said, asking for continued support from the U.S. and Europe to bring the conflict to a close so as to refocus global efforts on fighting climate change.

Jack Denton

***

Investors Flock to Dividend Stocks Amid Volatile Markets

The volatility in the stock market is driving investors toward dividend-paying companies and away from companies that tend to emphasize share buybacks, a sign that preferences have shifted to favor a steady stream of cash in hand versus the potential for outsize gains down the road.

Inflation and rising interest rates erode the value of a company’s future earnings and make a cash dividend payment relatively more attractive right now.


AT&T

shares are up 12% this year, and


Altria

is up 10%. AT&T’s dividend yield is 5.25%, and Altria’s is 6.8%, according to Dow Jones data.

The S&P 500 High Dividend index is up 2.8% this year, while the corresponding S&P 500 Buyback index is down 2.9%, according to S&P Dow Jones Indices. The broad market

S&P 500
itself is down 16.6%.

Some of the largest holdings of the

iShares Core High Dividend ETF
have dividend yields above 3%, including shares of


Exxon Mobil
,


AbbVie
,


JPMorgan Chase
,
and


Chevron
.
The exchange-traded fund’s return is 5.8% so far this year.

Many dividend investors focus on energy companies, whose shares have jumped this year with surging oil prices.


Pioneer Natural Resources

and


Devon Energy

pay relatively small base dividends and add variable payouts each quarter. Their dividend yields are 6.4% and 5.1%, respectively.

What’s Next:


PepsiCo

will boost its annual dividend 5% starting in June, raising it to $4.60 a share. It isn’t the only company to announce dividend increases this year.


United Parcel Service
,


Wyndham Hotels & Resorts
,
and


Kellogg

are also raising payouts.

Liz Moyer

***

Dear Quentin,

My girlfriend and I have been in a relationship for seven months, and it is getting more serious. I don’t expect us to get married in the next year but I like to plan ahead and if things keep working out I do see us getting married in two to three years.

Finances are important to me and I know finances should be looked at without emotion, however emotions and money do collide. I get nervous when I read things like the divorce rate is 50% and rising.

I am a 27-year-old male and I will make $90,000 this year before bonus. My income is steadily growing as I grow in my career. I have $100,000 in different investments and no debt whatsoever. Finances and planning for my future are important to me.

She is 24 and graduated with her Masters in special education. She will soon start teaching and is on her way to a great career as well. We have a lot of similar interests and love spending time together. She is a dream. I love her! But I am concerned.

She is not as financially savvy, or financially motivated, as me. Like me, most of her education has been paid for by her parents but she does have some student loans. She mentioned her student loans and how after 10 years the government will forgive them.

I tried to explain some of the hurdles. I don’t know if it’s denial or what, but it’s worrying to me that she doesn’t see that her loans won’t be forgiven, especially after she gets married and files jointly. I am a little upset that she doesn’t see the bigger picture.

She also moved into an expensive apartment above her means. She still drives an older car that is fully paid off. I am also concerned about divorce. What if I start a small real estate company and purchase rental properties and then we get divorced?

She is better at some things than me. If we buy a house one day, I know she will make that house a real home. I know that sounds like a cliché, but that’s the truth for our relationship and I understand that it is worth something, but that doesn’t remove the risk.

How do I deal with this risk but also make sure it doesn’t affect our relationship?

—Young and Learning

Read The Moneyist’s response here.

Quentin Fottrell

***

—Newsletter edited by Liz Moyer, Camilla Imperiali, Rupert Steiner

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