The $64,000 Question: Hard or Soft Economic Landing


John Micklitsch, CFA CAIA, President & Chief Investment Officer

Whether the economy will experience a hard landing or a soft landing seems to be the $64,000 question facing investors these days. If you had asked us at the end of the third quarter last year, we would have pointed out that the crowded “trade” appeared to be that the economy would experience a hard landing. A hard economic landing would be characterized by a sharp decline in corporate earnings and a significant uptick in unemployment, among other measures. Over the last few months, however, as markets have risen off their lows and the economy has demonstrated resiliency, the crowded trade appears to be that a soft landing might just be possible.

A soft landing would result in only small declines in corporate earnings and only a slight uptick in unemployment, with most impact to jobs coming from a reduction in job openings rather than actual jobs being lost. Advocates for a soft landing point to the fact that consumers and businesses alike have created real savings from refinancing debt over the past decade, unemployment is low, China is reopening after abandoning their zero-COVID policy and there are still significant unspent dollars from pandemic-related stimulus that will continue to find their way into the economy.

So, which outcome do we think will happen? This may sound like a punt, but as is so often the case, the most likely path regarding a hard or soft landing probably lies somewhere in the middle, with something resembling a moderate economic slowdown in the cards. Although better than a hard landing scenario, even a moderate recession may still engender pockets of market volatility.

One scenario that doesn’t seem to get much discussion is the possibility of a higher persistent inflation level becoming acceptable versus the Federal Reserve’s 2.0% target. It may very well be that we simply cannot get inflation back down to 2.0% without risking a hard landing. With a new Presidential election cycle set to begin, and with a desire to remain uninvolved with campaign politics, the Fed may run out of time and find itself in the position of accepting that higher day-to-day inflation is simply the best-case scenario, representing the shared cost of past spending sins.

Against this backdrop, what, if anything, can investors do to prepare for these possible outcomes? To first highlight something investors should not do, is try to time market exposure. The market’s recent rally off the third quarter lows has provided another powerful illustration of how difficult it is to time markets and why it is so important to remain focused on the long-term. This is so that investors can participate in the good returns that frequently follow periods of bad returns, capturing the full impact equities can have on results. Instead of trying to time markets, investors should spend time with their advisers and ensure that there are clear pathways to their liquidity requirements, should the need arise, and that their asset allocation matches their ability, willingness and need to take risk. Most portfolio risk and return characteristics come from asset allocation decisions and, therefore, an allocation deserves close study and attention to ensure it is a good fit for an investor’s needs.

Lastly, with asset allocation decisions, we often say that every dollar has to find a home somewhere and while shorter-dated fixed income and cash may feel good in the short-term, when used alone in a portfolio they rarely are capable of generating the returns required by investors to reach their longer-term goals. Those return goals often require equities and alternative strategies to do the heavy lifting for the portfolio, but also require patience and discipline to get through periods of uncertainty, like today’s hard versus soft landing debates and others that will surely come in the future.

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