The Stock Market Can Be a Humbling Place

It was only last week that the S&P 500 Index was near its highest levels since July after recovering from its August sell-off. The thinking was that better-than-forecast data on housing, factory orders and industrial production meant talk of a looming recession was overdone. This week showed that those signs of resilience may have been little more than a mirage.

On Thursday, two days after a factory index from the Institute for Supply Management indicated a deepening contraction for manufacturing, the group said its services gauge for September fell to its lowest level since August 2016, well below the most pessimistic forecast in a Bloomberg survey. While the S&P 500 did erase an intraday decline of as much as 1.1% to end the day up 0.80% in its biggest gain since Sept. 5, there’s a simple explanation. In short, it’s a sign that investors expect the Federal Reserve may get more aggressive in its response to the slowdown (also note, the market is still down for the week). As FTN Financial economist Chris Low figures, the Fed will look at this week’s data, especially those that suggest the consumer is losing strength, and figure that it has no choice but to finally get ahead of the problem with a powerful policy response that may mean a 50-basis-point cut in interest rates later this month. After all, equities fell after the Fed cut rates only by 25 basis points in July 31 and Sept. 18. “The Fed missed their September opportunity, but it is not necessarily too late to act forcefully in October,” Low wrote in a note to clients Thursday. “Keep kicking the can with timid policy responses for too long, however, and there will be a recession.” To be sure, even if the Fed decided to go that route and cut rates by 50 basis points, it would need to do so in a manner that calmed rather than spooked markets.