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JPMorgan Advises Hedging Recession Risk as Bonds, Stocks Diverge

JPMorgan Advises Hedging Recession Risk as Bonds, Stocks Diverge

(Bloomberg) -- Equity and credit markets have priced in much lower odds of a U.S. recession than Treasuries, a dislocation that’s likely to set up another rout of market volatility, according to JPMorgan strategists.

While manufacturing data in China has improved, global growth is “not out of the woods yet,” strategists led by Nikolaos Panigirtzoglou wrote in a note, urging investors to establish hedges against the possibility of a recession.

JPMorgan Advises Hedging Recession Risk as Bonds, Stocks Diverge

The warning in a strategist note came the same day the bank’s chief executive officer, Jamie Dimon, said investors should prepare for more wild rides like the one that upended markets at the end of last year. In his annual letter to shareholders, Dimon cited a raft of issues driving the more pessimistic outlook, including uncertainty about the Federal Reserve’s interest-rate shifts, Germany’s economic slowdown, Brexit and the U.S.-China trade spat.

Panigirtzoglou and his colleagues compared the behavior in financial assets now to their past performance during recessions. Right now, Treasuries point to more than 70 percent odds of a recession over the next year. By contrast, chances implied by stocks and high-yield bonds are much lower: 8 percent and 6 percent, respectively.

“While we maintain a risk-on and pro-cyclical stance, we believe that investors should start building up hedges against the risk of a repeat of the past two weeks’ yield curve inversion episode,” they wrote. “Yield curve inversion has been generally a bad omen for growth and recession risk, though with variable lags to risky asset prices historically.”

Below are some of their recommendations on what investors can do to help ease any potential shock:

  • Long U.S. dollar vs EUR and vs AUD, and a small long-duration position in 10y euro swaps
  • Trim corporate bonds
  • Raise cash to neutral from underweight
  • Increase government bond holdings

To contact the reporters on this story: Lu Wang in New York at lwang8@bloomberg.net;Gaurav Panchal in London at gpanchal2@bloomberg.net

To contact the editors responsible for this story: Brad Olesen at bolesen3@bloomberg.net, Chris Nagi, Jeremy Herron

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