Morningstar DBRS analysts warn that a prolonged downturn in the market after a global sell-off could become what they called a self-fulfilling prophecy.

According to experts, the implementation of the mentioned scenario will eventually form such an environment within the economic reality which will contain conditions and circumstances favorable for the materialization of a state of affairs as a recession. In a note published last Monday, August 5, Morningstar DBRS analysts suggested that the direct downturn impact of the observed sharp market decline is limited.

Experts are most concerned that the market sell-off is becoming a self-fulfilling prophecy. Against the background of these realities, the chief executive officers of corporations are forced to cut back the volume of investments. At the same time, the current state of affairs has an impact on consumers. They reduce the amount of spending, which provokes further cuts and a recession.

Global markets turned out on a downward trajectory at the end of last week. The negative tendency continued on Monday. One of the most noticeable manifestations of this process was the fall of the Japanese Nikkei 225 by more than 12%. Also, the US S&P 500 showed the worst result in almost two years. The global downturn has had the most sensitive impact on technology stocks and bank securities.

On Tuesday, August 6, the situation in the markets improved. The losses incurred on Monday were partially compensated.

The situation in the markets deteriorated sharply after the disappointing employment report in the United States was published on Friday, August 2. In July, the number of nonfarm payrolls was 114,00. At the same time, it was expected that the corresponding figure would be fixed at 185,000. The unemployment rate in the United States rose to 4.3% in July. In June, the corresponding figure was recorded at 4.1%. This information has led to concerns about the condition of the United States economic system being the largest in the world. Also, against the background of disappointing data, questions arose about the correctness of the actions of the Federal Reserve System, which did not cut interest rates at its meeting last week.

Morningstar DBRS analysts said in a note that information about the condition of the United States economic system indicates a slowdown, but still continued growth. They also underlined that the unemployment rate is still below the so-called natural level of 4.4% expected by the Congressional Budget Office.

At the same time, preliminary data on the gross domestic product of the United States indicate that economic growth amounted to 2.8% in the second quarter of 2024. The relevant information was published last month.

Analysts at Morningstar DBRS note that conversations with the management teams of US banks and the latest profit and loss reports indicate that financial institutions are currently not characterized by concern that a soft landing of the United States economy may not take place. Moreover, they suggest that the impact of market volatility on lenders will be limited. In their opinion, this thesis will continue to be relevant even if the market continues to be on a downward trajectory, and a recession scenario materializes in the space of the economic system of the United States.

In their note, Morningstar DBRS analysts expressed confidence that US financial institutions and banks in some other countries continue to be stable and have sufficient capital and liquidity buffers. According to them, the sharp drop in stock markets at the global level does not cancel out the mentioned state of affairs.

It is worth noting that currently, most US financial institutions have little access to stocks in their securities portfolios and on their balance sheets. Analysts at Morningstar DBRS say that the impact of what happened in the markets on wealth and asset management paid to lenders would be offset by their higher market valuation. Separately, they noted that capital market players tend to benefit from volatility. At the same time, experts have underlined that rapid changes in valuation can potentially cause large losses if not hedged properly.

Morningstar DBRS analysts also do not expect a significant impact on capital management by banks in Japan, where a sharp market downturn was also recorded.