There’s an extreme divide in how Americans feel about the economy, and it’s a huge red flag to Wall Street that the next recession is near

Reuters/Brendan McDermid

There’s a massive gulf between how Americans feel about the future of the economy and their assessment of present conditions.
A divide of this magnitude has preceded every downturn since the 1970s, and is well-placed on a list of indicators that investors are watching for the next recession.
Liz Ann Sonders, chief investment strategist at Charles Schwab, gave Business Insider an exclusive look at this dynamic, and what it means going forward.

Stock-market investors are constantly on the lookout for signs that corporate profits are in jeopardy.

There are few cohorts of people that matter more to bottom lines than consumers, who have the power to fold entire companies simply by shunning their products or services. What’s more, consumer spending makes up more than two-thirds of the US economy.

A recent trend among consumers has flagged to some Wall Streeters that their confidence is waning — even though it doesn’t appear that way on the surface. After all, the Conference Board’s consumer-confidence index rebounded in February after three straight monthly declines.

However, pessimism about the future is growing, and that has raised eyebrows. The Conference Board’s index of consumers’ expectations about the future has slumped, creating its widest gulf with the present-situation index since the 2001 recession.

This can be clearly seen in the chart below, which was flagged to us by Liz Ann Sonders, the chief investment strategist at Charles Schwab. It shows that the spread between the indexes of consumer expectations and their present situations has recently plummeted.

But what’s really sinister about this development is that expectations have always plunged and bottomed relative to present assessments before the start of recessions. The track record is virtually unblemished.

"Troughs in this spread have historically represented near-term recession warnings," Sonders told Business Insider.

Skye Gould/Business Insider

In a separate note, Sonders said it’s impossible to know for sure whether this indicator has indeed bottomed. Also, it’s just one of several indicators — both leading and lagging — that investors are keeping a close eye on.

However, its well-placed on a list of indicators that confirm the pace of growth is waning. And, at worst, they’re warning that the next recession is well on its way.

The most important of such indicators — and one that also has not failed investors as a signal since the 1960s — is the yield curve. It measures the gap between short- and long-term interest rates, and inverts below zero when tight credit conditions lift short-term borrowing costs above future ones.

The widely watched 2- and 10-year yield curve fast approached its tipping point last year and is hovering just above it, at 19 basis points. This has some strategists worried that the Federal Reserve could tighten financial conditions too quickly and accelerate the arrival of the next recession.

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Source: Business Insider – aoyedele@businessinsider.com (Akin Oyedele)