Whether a recession is just around the corner is a hotly debated topic among U.S. stock market investors, especially as the trade war with China drags on and some economic indicators flash warning signs.
Expecting the U.S. to narrowly avoid a recession, Goldman Sachs recommends one group of stocks with a good track record in this type of precarious environment: aerospace and defense companies. As a bonus, Goldman Sachs analyst David Kostin said, aerospace and defense stocks come "with the lowest exposure to China."
Kostin's recommendation comes as a response to the decline in the ISM manufacturing index, which last week fell below 50 points for the first time in three years. A reading below 50 indicates a contraction. While some may raise concern about the drop, Kostin called the index "an inconsistent predictor of US recessions." But Kostin noted that, when a recession didn't occur following the ISM dropping below 50, aerospace and defense stocks outpaced the growth of the S&P 500 in the six months after.
So in other words, when economic conditions deteriorate but ultimately do not lead to a recession, the stock market typically does well in this period with defensive-type stocks outperforming. The S&P 500 has historically gained 22% in the six months following an ISM contraction that doesn't lead to a recession. And aerospace/defense stocks do even better, gaining an additional 2.5% during the same period, Goldman found.
"During the past 10 years, Aerospace & Defense has been least sensitive to US and global economic growth across Industrials subsectors," Kostin said.
Goldman is bullish on stocks for the next two years, expecting the S&P 500 will climb 4% to 3,100 points by the end of this year and 14% to 3,400 by the end of next year.
"Our economists expect that a US recession is unlikely during the next two years," Kostin said.
— CNBC's Michael Bloom contributed to this report.