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'Recession risks are rising right now': investment strategist

The U.S. economy is tilting closer to a recession, according to ClearBridge Investments, a Legg Mason unit that has $142.3 billion under management. The firm’s Recession Risk Dashboard turned yellow this month, as indicators including manufacturing and job sentiment worsened.

“Yellow means caution, so it doesn't mean a recession's around the corner,” ClearBridge Investments strategist Jeffrey Schulze told Yahoo Finance’s On the Move. “It just means that recession risks are rising right now. We're handicapping a recession at 50% over the next 12 months.”

Schulze has been watching so-called “soft indicators” of sentiment that have begun to show signs of cracks in the economy. The number of respondents in the Conference Board’s June Consumer Confidence survey saying jobs are “hard to get” rose to 16.4% from 11.8%.

Meanwhile, manufacturing is also exhibiting strain. The Institute for Supply Management’s Manufacturing Report’s new orders index fell by 2.7 percentage points to 50 in June — the breakeven level between expansion and contraction.

Schulze wrote in a note to investors that several real-economy indicators have also begun to worsen, including truck shipments, housing permits and retail sales.

Inverted yield curve is not as worrisome

Another component of the dashboard, the highly-watched Treasury yield curve, is less a cause for concern, Schulze said. In particular, the gap between the yield on the three-month T-bill and the 10-year Treasury note, which has inverted at times over the past several months, doesn’t necessarily signal recession, he said.

“The depth of the inversion hasn't been all that deep. It's been very shallow. Traditionally, ahead of recessions, you see a negative yield curve of 50 basis points, 100 basis points, sometimes even 125 basis points,” Schulze said. “So, the deepest that the inversion got this time was around 25 basis points. And the Fed is acting early to be able to get ahead of this and avoid a policy mistake.”

All of this said, Schulze and his team still believe stocks can move higher from here. “We do believe that equity markets will grind higher from current levels, choppiness notwithstanding,” he wrote.

He points out that the final year of a bull market has averaged returns of about 27% since 1976. “Whether we are currently in the midst of that final year remains to be seen; however, we do believe the chances of the current bull market coming to an end have increased.”

Julie Hyman is the co-anchor of On the Move on Yahoo Finance.

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