US recession risk: Is the UK about to catch a cold?

UBS reports increasing US recession risks based on its composite gauge, which now stands at 37%, up from 26% in December, driven by weakening real-world data, a re-flattening yield curve, and tightening credit conditions, with the credit model reaching a pandemic-era high of 48% recession probability. While UBS is not yet calling for a recession, they caution that further data deterioration, compounded by potential impacts from tariffs, could significantly increase recession risks, potentially impacting global demand and prompting a shift in market sentiment.

Analysis

A recent UBS report indicates a notable uptick in US recession risks, with their composite gauge rising to 37% from 26% in December. This increase is underpinned by deteriorations across all three of UBS's primary indicators: the real-world data model, based on hard economic metrics like production and employment, now shows a 46% recession probability, a significant 12 percentage point jump in a single month due to broad-based weakness in April data. Concurrently, the US yield curve, a traditional recession harbinger, is again signaling concern, albeit faintly, with an 18% implied probability. Most strikingly, UBS's credit-based model, which assesses financial ratios and lending conditions, has climbed to a 48% recession probability, its highest level since the pandemic. While UBS analysts are not yet formally calling a recession, stressing the economy's 'okay footing' at the start of the year, they caution that continued data deterioration, potentially exacerbated by the future impact of tariffs, could rapidly shift the narrative from a 'soft landing' to a more significant downturn. Given the US consumer's pivotal role as an engine for global demand, any retrenchment or reduction in business investment in the US would likely have adverse spillover effects on other developed economies, including the UK. The current situation is characterized by amber warning lights, with upcoming May and June data releases being critical for assessing the entrenchment of this slowdown.

Key Decisions for Investors

• Investors should closely monitor upcoming US economic data releases for May and June, particularly concerning production, employment, and consumption, to gauge if the observed weakness is becoming entrenched.
• Consider re-evaluating portfolio allocations and risk exposure in light of the increased recession probabilities flagged by UBS, potentially shifting towards more defensive assets or employing hedging strategies.
• Assess the potential impact of a US economic slowdown and any implemented tariffs on companies with significant US market exposure or those reliant on robust global consumer demand.
• Be prepared for a potential rapid shift in market sentiment away from the 'soft landing' narrative if further negative data emerges, which could increase market volatility.