Interview: Dan Rawitch says US markets could drop by 22% or more in the coming recession

The economic landscape of 2024 has not turned out as first expected for the US in January. Inflation has remained sticky, interest rate cuts recede like horizons and now, analysts the world over are issuing stark warnings.

Sometime near end 2024 or early 2025, the United States will likely enter a recession. Some, like renowned financial analyst and commentator, Gary Shilling, believe it could wipe as much as 30% off the stock market.

We discussed the coming gloom with Dan Rawitch: senior trader, entrepreneur, and founder of University of Options. Edited excerpts: 

Many analysts, yourself included, see a US recession coming and, with it, a stock market plunge. Which markets or indices will be the hardest hit?

In the past, I have always said that small caps take the first and worst punch. But this time feels different because only 7 mega stocks make up a whopping 40% of the NASDAQ. 

While these Magnificent 7 companies may still be fairly valued, many investors have made considerable money on the way up. If things get dicey, many will run to lock in their gains. 

That said, when the market plunges, investors start caring about earnings, sales growth and balance sheets. And 30% of the companies that make up the Russell 2000 are losing money. They will get hit hard and fast. 

We call these ‘zombie companies’. They are the walking dead and do not earn enough to pay their debts. They are essentially bankrupt and survive only on newly invested capital.

Most investors are exposed to 'big cap' US stocks. What, in your opinion, will be the effect of all this on the average person's portfolio?

As mentioned above, the Magnificent 7 are ripe for a correction. They are 40% of the NASDAQ, so even a small pullback could create a sell-off in the other companies. 

How much do you foresee markets diving by?  

Understanding Fibonacci helps traders and investors know what to expect. Fibonacci discovered a sequence of numbers several centuries ago. These numbers were later called the golden sequence as they appear everywhere, including in our DNA.  

As a trader, I can count on the market pulling back at least 22.6% once the top is established. The next step down on the Fibonacci ladder is a 38.2% pullback. 

This is not an abnormal move but in a market as we have it now, it is more common for the pullback to stop at the 22.6% level.

Many analysts, like Gary Shilling for example, seem to feel that this will happen in either late 2024 or early 2025. What are your thoughts around when we may see this start to happen?

Shilling is a very bright person, and I often agree with his point of view. He got it right about inflation and gold, so far - although he is way out of the ballpark with Bitcoin. He tends to be the eternal bear and this also aligned with my contrarian way of looking at the world.  

All that said, it seems VERY likely we are getting closer to a recession. The Fed is always too late and when it does drop rates, if history repeats itself, the recession will come sometime after the first rate cut thus forcing the Fed to accelerate lowering rates. 

So, between the time of the first-rate cut and the Fed cramming down rates there could be an ugly ripple through the markets. 

How will the average investor or trader know that things are about to get messy, and to get out?

I have always used a simple formula to know when to get out of the market:

• First, when the SPX price closes below its 50 day moving average line, I sell around 40% of my portfolio. 

• When the price crosses the 200 day moving average, I take everything off the table.  

• When the price eventually bounces, I go back in and then when the price gets back above its 50 day moving average. 

This simple rule can save the average investor a lot of time, worry and guess work.

Which two or three markets, in your opinion, are likely to be the most 'recession-resilient' at this time?

Bonds! Treasuries and Mortgage Bonds will benefit very well when the Fed starts cutting. 

Remember that when rates go down the value of the bonds you are holding goes up. As an example, let's look at a bond that has a yield of X% (let's say 6% and a maturity date of let's say 5 years). Many investors who are not informed will buy those bonds for the 6% return. 

But this is not the point.The point is that if I hold a bond that pays me 6% and let's say I paid 1.00 when rates drop to say 3% my bond could easily be worth 1.50. Big money is made in bonds when rates drop. 

I also love silver, especially now, because the gold to silver ratio is the lowest it has ever been. This means that silver is undervalued. However, if we do see a recession and rates do drop fast, we will see deflation - and this will devalue gold and silver.