The disparity between winners and losers is rarely this wide. In the past weeks we have seen banks fail, be taken over and bailed out. On the flip side, earnings season has kicked off and so far so good with three of the US behemoths all beating expectations, by all measures. In summary, below some of the stats. Who said uncertainty and failure were a bad thing? Revenue and earnings per share (EPS) are one thing but were they more profitable? In short, yes. In particular net interest margin (NIM) stood out whereby the spread between funds borrowed (or deposits!) versus loans has widened significantly. Sentiment is probably best expressed by investor flow of funds, highlighted in the final column by way of how the stock ended on the day of announcement.
Banks are often considered a barometer of sorts when it comes to overall economic health. Given we find ourselves potentially close to a juncture with recession and/or a credit crunch looming (that would result in recession), it seems the music is yet to stop. Either way we will not have to wait long, corporate results will be coming in hard and fast once the banks are done.
Other, macroeconomic data also provide mixed signals. Employment remains strong across the globe, although in some jurisdictions it is right to follow and question the quality of jobs gained and lost. Inflation is proving sticker in certain instances than others, and the consumer is also reacting differently to the combination of how housing and the cost of other staples have moved versus real incomes. Looking at central bank action, some of the first to move such as Australia, Canada and Singapore have or are now likely to pause. Rhetoric continues to be around price stability, but what has been in the periphery such as tax receipts and cost of financing are starting to move into the mainstream, along with dents to GDP. Rising prices is one thing, rising delinquencies due to an inability to repay another.
Closely associated with this is of course the cost of credit, or put another way, how much it will cost to borrow depending on your perceived ability to service both interest and principal. We have certainly seen how a seemingly safe portfolio of government-backed mortgages can end up costing you your shirt. But what of the wider market? Debt levels remain elevated, speed of price adjustment far outpacing the ability of the built-up world to adjust, such as with office space. I suspect we will start to see the gap between winners and losers become more pronounced in the non-financial space where car crashes tend to be slower but equally painful for those involved.
Of the main economies we cover, the Eurozone continues to be the most likely to continue to hike, and potentially still at a sizeable amount. The last to move, and from negative territory in fact, playing catch up has been swift but additionally hard. The disparity between highest and lowest nation-state CPI and varying degrees of debt (and needing to refinance said debt) is also diverging. One interesting metric is to consider the relative cost/return/risk of owning Italian versus German debt. Below graphed out is the spread between them since the birth of the Euro.
As one can see we are not at Sovereign debt crisis levels seen last decade. We are though, half-way there. Living on a prayer?
Additional volatility specifically in money and repo markets is likely to begin to be seen in the coming weeks as the TLTRO (targeted long-term refinancing operations) come to and end. Cheap money artificially inserted into the banking system now being pulled that will start to affect additional regulatory buffers a month prior to expiry after which point we really know where we are.
According to the IMF, again, the UK is expected to lag global peers both in output, growth and the ability to successfully contain inflation. Time will tell. What is undeniable is the inability of this central bank to get a handle on prices. We are still in double digit territory, more than five times above target. The fear is hiking too fast too furious ends in economic write-off.
Whilst payrolls disappointed slightly, the high degree of wage inflation, hitting close to 7%, has led to an initial rally in the pound and added to speculation that the Bank will be forced, once again, to raise rates by what is currently penciled in as a 0.25% hike on May 11th.
Nowhere is a potential cut being priced in more blatantly than by our friends across the Atlantic. Hikes have been bigger and faster than anywhere else. Still though, price rises remain way above target, whilst jobs appear to hold in, nowhere is the labour market more flexible and easy to trim than the United States. Cast your mind back for a second to those front covers of the NY Times… Although (famous last words…), I do not see a repetition of the cull seen during the pandemic.
The New York Times (09/05/2020)
Let’s hope the divergence seen in markets is not reflected also in all things diplomacy. Whilst there is an element of recession and credit risk embedded in the system, the chance for escalation between various jurisdictions or an unintended but disastrous “accident” in Ukraine could have rather dire consequences in every respect. One line looks a lot beyond another than it has historically. The next meeting, 11 May for those that care, is currently likely to add 0.25% to the benchmark rate with potentially one more hike before the end of summer until rates tail off again. Wishful thinking perhaps, or else the market is correctly pricing in a significant slowdown in prices and/or disaster that forces the bank to hold and/or cut.
There seems to be disparity here to around terminal rates, as well as the future path, and more polarisation than is usual. Some forecast a major slowdown, potential for a domino-like credit event whilst others see the financial wobbles of local financial institutions as a blip on the move higher, needed to put the final nails in the inflation coffin. Bank lending and money supply have both dropped off significantly of late, along with that pricing of credit. Some argue that this is effectively helping do the Fed’s job for it. Time will tell. One thing is for sure, another price, that is for money, has gone up. On that note, are you getting paid more? You should be.