While Fed officials and financial analysts have recently suggested that the US economy may be able to avoid a recession, famed investor Jeremy Grantham says that couldn’t be further from the truth. According to Grantham, a recession is all but inevitable, and the signs have been clear for years. Grantham, who is the co-founder of the asset management group Grantham Mayo Van Otterloo (GMO) and one of the world’s most respected investors, is well known for his uncanny ability to spot market downturns. He’s made a number of prescient predictions over the years, including warnings that a crash was coming in the months leading up to the dot-com bust in 2000 and the financial crisis of 2008.
In a note to investors last year, Grantham wrote that the US economy was in the final stage of a “super-bubble” driven by historically low interest rates and massive government stimulus. As Grantham put it, “an unprecedentedly dangerous mix of cross-asset overvaluation” created the perfect conditions for an “epic finale” to the current economic cycle. While skeptics argue that the US economy has avoided a recession thus far and may be able to pull off the elusive “soft landing”, Grantham maintains that “every great bubble has been followed by a recession.”
In a recent interview with Bloomberg Wealth, Grantham explained why he believes a recession isn’t a matter of if, but when, and that the Fed’s soft-landing optimism is misguided. “The Fed’s record on these things is wonderful. It’s almost guaranteed to be wrong,” Grantham said, adding that “they have never called a recession, and particularly not the ones following the great bubbles.”
According to Grantham, the US economy has been on an unsustainable path for years as stretched asset valuations and rising debt levels have created a false sense of security. With the Fed’s current tightening policy cutting off the liquidity that has propped up the economy for more than a decade, Grantham contends that the final act of the economic cycle is already well underway. When the dust finally settles, he believes the economy’s long-term fragility will be exposed, setting off a chain reaction that could trigger a prolonged recession.
Recession in 2024?
At the heart of Grantham’s bearish assessment is the Fed’s aggressive tightening cycle that has lifted the target rate to 5.5%, its highest levels in four decades. Thanks to the Fed’s aggressive rate hikes and balance sheet runoff, the US economy is already showing signs of strain. Earlier this year, three of the four largest bank failures in US history occurred in rapid succession as rising interest rates and tightening credit conditions sent the market values of Treasury bonds and mortgage-backed securities tumbling. And while analysts have been quick to dismiss the failures as isolated incidents, Grantham believes they’re just the tip of the iceberg.
Despite attempts made by the Fed to assuage the public’s fears, the banking contagion has continued to spread, most notably in the form of a credit crunch that is making it increasingly difficult for businesses to access capital. As a growing number of banks tighten their lending standards in fear of rising defaults, businesses are also finding it challenging to service their debts and stay afloat. Nowhere is this more evident than in the commercial real estate (CRE) market, where prices have been falling for months and are expected to decline further as rising rates dampen demand.
With Morgan Stanley forecasting a CRE downturn “worse than in the Great Financial Crisis,” and Capital Economics pointing to a “35% plunge in office values,” Grantham’s claim that the CRE market is in a state of “ragged disarray” appears to be well-founded. And if Grantham’s predictions are right, the US economy may have already begun its long descent into a recession.
But while the carnage in CRE has been well documented, Grantham warns that the worst is yet to come. “Other things will break, and who knows what they will be” he said. “We’re by no means finished with the stress to the financial system,” adding that the full impact of the Fed’s tightening cycle may not be felt until “deep into next year.” While asset prices tend to respond quickly to the Fed’s policy changes, long and variable lags delay the full economic impact of those changes on GDP growth and employment.
Transmission lags in monetary policy mean that the Fed’s rate hikes are only now beginning to work their way through the economy, and they could continue to sap growth for years. According to the Federal Reserve Bank of Atlanta, it can take up to two years for the full effects of rate hikes to be felt in the economy. If true, then the US economy may not feel the full brunt of the Fed’s tightening until around 2024, making Grantham’s warnings all the more prescient.
Grantham is not alone in his recession prognostication, either. Several other prominent figures in the financial world have begun reallocating their portfolios in anticipation of a downturn in the near future. Under the leadership of billionaire investor Warren Buffet, Berkshire Hathaway recently sold $8 billion worth of stocks and cut its quarter-over-quarter buybacks by more than half in Q2. And while Buffett has been uncharacteristically quiet on the subject, his move has been interpreted by economists as a sign that he too believes a recession is looming in the near future. Michael Burry, the hedge fund manager famous for shorting the subprime mortgage market before the 2008 crisis, has been making similar moves in recent months. Burry’s Scion Asset Management disclosed a $1.6 billion “big short” position against the S&P 500 and Nasdaq-100, indicating that the infamous investor is expecting a sharp downturn in the near future.
According to Grantham, the descent from the 2021 super-bubble has already begun but it’s unclear how long it will take to reach its inevitable conclusion. With artificial intelligence bursting into the spotlight this year, tech stock market valuations have been kept from slipping too far thanks to the sector’s explosive growth. But Grantham warns that “it’s perhaps too little too late to save us from a recession,” given the Fed’s tightening policy and the mounting economic pressures in CRE and other asset classes.
Smart Savings in Tough Times
When the dust finally settles, Grantham believes a reckoning is coming for those who have gambled on an unsustainable rise in asset prices. Of course, not everyone shares Grantham’s grim outlook on the US economy but given his track record of predicting market downturns, it’s worth considering his words of caution. That said, Grantham sees the impending recession as an opportunity for savvy savers to reposition themselves for the future. As with any crisis, there are opportunities to be found in the rubble and those who can identify them stand to benefit greatly.
Precious metals’ have been used to help diversify savings for centuries and could play a key role in helping to insulate savings from economic shocks according to experts. “You want a portfolio of noncorrelated assets, and the statistical correlation between gold and stocks is virtually zero,” says Jeff Christian of CPM Group, a commodities research firm. Increasing one’s exposure to alternative savings instruments like precious metals can serve as a valuable hedge against inflation too, which some experts say could be here to stay for the foreseeable future. Historically, gold’s price has been a counterbalance to inflation, as demand for the precious metal rises in response to weakening currencies. With gold prices near all time highs and experts warning that the US economy teetering at the edge of a recession, there may never have been a better time to explore your options in terms of diversifying your savings. While it’s impossible to predict exactly when and how the US economy will enter into a recession, Grantham and other prominent figures in the financial world agree that the signs are pointing to a downturn sooner rather than later. “When the great bubbles break…It’s like pressure behind a dam. It’s very hard to know which part will go,” said Grantham. But by taking steps now to diversify savings, savers can take heart that they’ll have hedged when the dam finally bursts.