Thread by @IntrinsicInv

1/8 Everyone is waiting for a recession. But equity investors need to realize the corporate earnings recession started six months ago. This may help explain the surprising strength of the market.

2/8 4Q22 S&P 500 earnings were -5% and 1Q23 is tracking towards -7%. But inflation in those quarters was +7% and +6%. To make these earnings declines comparable to those in the past, we can adjust them for 2% inflation rate.

3/8 Removing the "excess" inflation leads to adjusted earnings declines in 4Q22 of -10% & 1Q23 of -11%. Mild recessions when unemployment increases by less than 3%, are more common than severe recessions. And mild recessions typically have 20%-30% declines, like we got last year.

4/8 So equity investors shouldn't be thinking about when a recession will arrive, but instead recognize that we are already six months into an earnings recession. The S&P 500 peaked 6-9 months before earnings flipped negative, just like normal.

5/8 The market then bottomed (for now at least) in October, just as earnings went negative. Market declines related to mild recessions last for about a year on average. And that's what we got between November 2021 and October 2022.

6/8 So what's next? If in fact corporate earnings total decline this cycle ends up being in the "mild recession" 10%-20% range, we probably bottomed last fall and are now pricing in an earnings recovery kicking off in 2H23.

7/8 But investing is hard! There is always another potential outcome. It could be we get a severe recession, earnings drop 20% or much more, and we see new lows. Do you think unemployment will spike 3%+ to over 6.5%? Seems unlikely, but it certainly could happen.

8/8 We aren't macro investors who jump in and out of the market based on guesses about recessions. But we do think it is useful to realize that the issue at hand is not if a recession will start, but rather when will the earnings recession that began six months ago come to an end