Let’s kick this off with some good news. Inflation appears to be abating, central bank action successfully filtering down through the economy and, thus far, without too much pain. Across the major economies the data increasingly supports the notion of peak rates. Current speculation is not whether, but when cuts may come next year, and how much stimulus by way of reducing rates may hopefully lead to a soft landing. Central bank messaging continues to attempt to curtail expectations of easing. The ‘higher for longer’ mantra dominates. Believability is the name of the game. Bar any outsized shocks hiding in plain sight and large enough to bring economies back on their knees, it does seem hard to see a world where we go back to the abnormally low rate environment witnessed post the Great Financial Crisis, thus the need to keep nominal and real rates higher is certainly there.
Continued distress in the property sector can be witnessed far and wide. The collapse of WeWork, which doesn’t work, widely publicised, demonstrated a couple of things. Business models forever chasing growth assuming profit will follow are entirely unviable. Over-exuberance always comes back to bite, particularly where supply outstrips demand and where the new way of working has come about far quicker than the ability for this sector to adapt to those changes. The pain felt by Chinese developers building for building’s sake has come to an end, with new stimulus to the tune of almost $130 billion slated to enter the market with ambitions of putting a floor on the whole affair. Even one of the most prudent of firms in China, Vanke, has seen an aggressive clear out by investors, prepared to take the hit for the limited liquidity in the market on the way out. When some of the most creditworthy are needing government support, it continues to not bode well for the sector. In part, this has affected associated underlying commodities, which have seen appetite rebound, to a degree at least, off the back of continued headlines, short on detail as to how a rescue might fully resolve the issues experienced. The obvious trade back in markets closer to home would be the repurposing of office space to residential, where buyers, sellers, and renters are suffering.
Off the back of aforementioned signs of the easing of inflation, risk assets have had quite the run. Concerns around the potential for escalation in the Middle East and elsewhere have abated, stocks rallying on hopes of cheaper money sooner. Year to date, we are now in a sea of green (bar China and Australia), although once adjusting for inflation and taking into consideration the considerably higher risk free rate, one might argue that there are certainly some that are not rejoicing. In part, the biggest gainers had been the biggest losers of 2022, and thus, in stocks at least, we have already pretty much recovered. A real lack of conviction has dominated the year, although in certain instances, as the YTD figures corroborate, being on the sidelines would not have been the best of options.
Source: Bloomberg LLP
This euphoria has extended to bonds. The idea of cuts is pumping debt portfolio managers’ performance into something more respectable as we power towards 2024. The question yet to be fully answered though is how, when, and if refinancing causes more headwinds in the coming months, and how bad it might be.
Without further ado, on to Europe. Industrial production data released on Wednesday showed a significant drop in production, coming in lower than an already gloomy projection. The monthly figure missed by 0.1% at -1.1% and the year on year -6.9% underperforming by a not insignificant 0.6%. French CPI though came in bang on target for the trailing 12 months at a respectable 4.0%. The wholesale price index at the heart of the European economy, Germany, came in at -4.2% year on year, giving us reason to be optimistic that consumer prices should be coming off too. It will be telling to see how much of this is passed on and whether firms continue to attempt to widen margin. The latest stats from the ECB below paint a bit of a mixed bag. The highlight of the show is undoubtedly the latest inflation print of 2.9%, although fragmentation across the 27 member states persists.
Source: The European Central Bank
Not a dull week in UK politics, with an unelected (to the Houses of Parliament) former PM coming in as Foreign Secretary in the form of David Cameron after an eventful stint in the world of high finance. Chancellor Hunt remains in place, having assisted in achieving Rishi Sunak’s pledge to halve inflation. The rate of price increases has been brought back down to levels not seen since 2021, in part aided by the drop in the energy cap. This is, though, a double-edged sword. The predictions from some of the leading banks out there have not materialised, expecting $100/barrel by the end of December versus the current $70s to low $80s, which is great. However, the UK, along with the rest of the world, remains both vulnerable and somewhat at the whims of any disruption to supply, the risk of which cannot be ignored.
Source: Bloomberg LLP
Eagerly awaited is the Autumn Budget coming in 6 short days. There are those in the Conservative Party that are staying “True Blue” and wanting to see tax cuts. However, given the debt pile nominally and as a percentage of GDP, it is hard to see how this could be afforded. Whilst supportive when thinking about the election, the polls for which they trail by some margin, the books need to be balanced. With inflation having pushed workers into higher tax brackets, benefits will also need to go up to support the most vulnerable in our society. Low growth and high spending leaves limited options outside of this, although an inheritance tax decrease and increase in tax exempt saving in the form of ISA limits is widely predicted. The drop in inflation is also doing wonders for servicing debt. Much needed, frankly.
Source: The ONS & The Times
Less criticism from the market this time around when it comes to negative rating actions by another leading agency. Moody’s has entered the arena, with the outlook flicked to negative. Whilst this alone is not likely to materially affect the market, it is the last major agency to have the USA at AAA. The fiscal position has been cited as one of the driving factors here. There is a mountain of debt with some talking of cost of servicing now exceeding 20% of tax receipts. ‘Buy now, pay later’ at its finest. The best way out for the government would naturally be to inflate it away, but with knock-on effects for the broader economy.
The drag on the economy this poses is not to be ignored nor discounted. Hence the return of the debt ceiling and corresponding politicking, which is not particularly helpful to the cost of said borrowing and is one of the factors stated for the negative outlook. For those using Bills as their sole source of liquidity, if you are dependent on being paid on time you may want to start thinking about diversification as this issue is not going to resolve itself over the coming months nor years….
On a final note, the San Francisco Fed last week released an interesting analysis on the health of the consumer. Savings amassed over COVID were higher than originally predicted, with the expected run-off now coming at the middle of next year. Why is this relevant? As a consumer-driven economy that runs out of disposable income, timing of any possible recession is likely to follow shortly thereafter.