Markets need to price in the extremely elevated risk of a recession before a sustainable rally can take shape, JPMorgan strategist says

Traders work on the floor of the New York Stock Exchange (NYSE) in New York, U.S., March 9, 2020.

Bryan R Smith/Reuters

• Risks of a recession are "extremely elevated" JPMorgan strategist Gabriela Santos said, warning a downturn could come mid-2023.
• The odds of a recession are at 50% today, compared to normal levels of 15%, she told CNBC.
• Santos added those risks needed to be priced into the market before a sustainable rally could take place.

Markets need to price in the extremely elevated risk of a recession before a sustainable stock rally can take shape, according to JPMorgan Asset Management strategist Gabriela Santos.

Though a soft landing is still possible, she put the odds of a recession at 50% today, compared to normal levels of 15%. 

"We would still put the odds at over the next 12 months as extremely elevated versus what's normal," Santos said on Tuesday in an interview with CNBC.

Despite some pockets of strong economic data, she predicted indicators would eventually turn lower, with a recession likely starting in mid-2023.

And while stocks have made steep gains recently as investors reignite hopes of the Fed slowing its pace of rate hikes, it may not lead to the gains that investors are hoping for – particularly if markets aren't pricing in those elevated recession risks, Santos said.

"I think for it to be a sustainable market rebound, we need to embed that recession probability more into earnings expectations and also into credit spreads," she said, echoing Morgan Stanley's Mike Wilson, who pointed to upbeat earnings masking future headwinds to the market. "So for us, a bit too early to be meaningfully dialing up risk here."

Other Wall Street commentators have been sounding recession alarms and warning that the Fed could overtighten the economy. The central bank has raised its benchmark rate from near zero to 3%-3.25% this year as inflation touched a 41-year-high.

Fed officials are expected to deliver another 75-basis-point rate hike on Wednesday, with expectations for the central bank to continue hiking to 4.6%.

For now, strong consumer spending and a still-hot labor market are propping up the economy, and those indicators led US Treasury Secretary Janet Yellen to note last week that she didn't see signs of recession.

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