The consensus probability of a hard landing is “around 20%,” but oil, dollar and bond yields remaining elevated, as well as tighter financial conditions, “remain the September-October risk,” strategists led by Michael Hartnett said in a note dated Sept. 7.
“Yields then rise to punishing levels,” causing a “long and hard landing,” Hartnett added. “We use any rallies in risk assets in coming months to get defensive” and position for a hard landing. According to Hartnett, high positive gaps between earnings and bond yields have been extremely bullish for stocks and credit, citing March 2003, 2009 and 2020. By contrast, when the gap has turned negative, as in August 2000, or has narrowed to a low, like in July 2007, it has triggered “not so great” periods for these risk assets.
Still, cracks in the narrative started to appear, with Fed officials sticking to their hawkish stance, while 10-year Treasury yields surged to their highest level since 2007 in August. Meanwhile, rising oil prices, which have jumped about 24% since the end of June, are likely to keep some inflationary pressure.