(New York)
Whether investors like it or not, a recession is coming. One of the key indicators is for a yield curve inversion to last 90 days or more. If it does so, a recession is highly likely in the next 12-18 months. Well, the first point of inversion began in March and we just crossed the 90-day threshold, which means that the strongest indicator of recession has just been triggered. Here are some tips to prepare: clear out garbage holdings from your portfolio (e.g. the stock tip from your brother in law six months ago), set aside cash and come up with a plan to buy stocks when certain thresholds are hit (e.g. a 25% decline in key indexes), pay down debt (it might not be this easy to do so again for awhile).
FINSUM: For all the talk we have heard over the last year about “this time is different”, the reality is that the strongest recession indicator known has just been triggered.
(New York)
The muni bond market is in a difficult place for investors. Demand is far outstripping supply, which means prices are high and yields low, leaving investors few opportunities to find value. However, few does not mean none, so here are some places to find good value municipal bonds. Airport muni bonds can be a good choice, as they tend to fair well in recessions and have very defensible funding sources (e.g. state and local governments). Toll-road bonds are another good choice, as they have very strong credit characteristics (only two have defaulted since 1970). Toll roads in San Francisco, New York, Oklahoma, and Maine are particularly good bets as there are few options for drivers to avoid them.
FINSUM: These seem like well-thought out and defensible choices.
(New York)
More some time now, bonds have been sending worrying signals to investors. The huge plunge in yields has been seen as a warning sign that the economy may be headed south. However, more recently, fixed income is sending more comforting signals. In particular, the recent narrowing of corporate bond spreads. Bond spreads had been rising for some time, but have leveled off recently, showing fixed income investors are not as worried about the economy and corporate performance. The overall spread is still well below where it was in the 2015-2016 growth scare.
FINSUM: The leveling off of spreads is a good sign that some stability is coming back to the market.
(New York)
You may normally think of it in terms of stocks, but “buy low, sell high” applies to bonds just as much, and that is a good way to think of the market right now. With yields having fallen so far since last year, one strategist said it was time to accept the “the present the Fed has given us”, and swap out bonds for floating rate securities, which have lagged this rally. The scale of returns in the bond market is impressive. For instance, the iShares 20+ year Treasury Bond ETF has risen over 9% since the beginning of the year.
FINSUM: It seems unlikely to us that bond yields are going to drop much further, which means there is little reason to wait for further gains.
(New York)
Deutsche Bank is an uber dove. The bank has just come out saying it expects the Fed to make three full rate cuts before the end of the year. “Over the past month, downside risks to the outlook for the US economy and Fed have built”, said Deutsche Bank, continuing that a mix of different concerns, from the trade war to weak inflation, are pointing to “more negative outcomes”. Pimco thinks the Fed won’t cut this month, but that it may cut by 50 bp in July, saying “we wouldn’t expect Fed officials to wait for the economic data to confirm declining US growth — if they do, they could risk a more meaningful shock to economic activity”.
FINSUM: The odds of a downturn certainly seem higher than an upturn, which means the Fed is much more likely to cut than to hike. That said, three rate hikes in the next six months sounds a bit aggressive to us, especially because the Fed would want to leave some firepower if the economy really heads downward.
(New York)
With all of the volatility of the last months, bond ETFs are taking on a new life. As an asset class, bond ETFs have surged in popularity in recent years as a much easier and cheaper way of accessing bond market liquidity. Recently, bond ETFs have seen their role morph. Whereas they have often been seen as a safe haven from periods of volatility, they are now being used as a risk management tool, says the head of iShares U.S. Wealth Advisory Product Consulting at BlackRock.
FINSUM: So many of the newer bond ETFs are designed to thrive in volatile markets, not just provide a low volatility safe haven. This means they are more of a proactive than reactive product.
(New York)
Jay Powell, head of the Fed, has been working on a year-long project to overhaul one of the Fed’s most important goals. That goal is full employment. The Fed only has two mandates, stable prices in the economy, and maximum employment. Yet the definition of maximum employment is now up for debate. At the core of the consideration is the idea that having a job is different than having a good job. The difference between the two means the Fed may use a different calculation for measuring employment. That potential change has huge implications, as it would likely lead to looser monetary policy both in the immediate future and further out.
FINSUM: We think there is a big difference between the quality of different jobs in the economy which needs to be accounted for by the Fed. The current way of measuring employment was designed when most jobs were permanent and full-time, but with the rise of the gig economy, measuring methods need to shift to account for the changing nature of the labor market.
(New York)
The market is overly reliant on a rate cut, say UBS and Goldman Sachs. Both banks think investors are banking too strongly on the Fed cutting rates. The market is currently forecasting three 25 bp rate cuts by the end of the year. Treasury markets have surged, but too far says Goldman. UBS believes “Markets now imply that the Fed will cut rates by around 70 basis points this year and 35 bps next year. We find this excessive … We believe it would take a recession to provoke the magnitude of rate cuts currently being priced by the market, and this remains unlikely in our view”.
FINSUM: We do not believe the Fed will cut rates this sharply unless there is a recession, but maybe that is exactly what markets are expecting (just look at the yield curve).
(Washington)
Investors have been unsure of how the Fed would handle the trade war. Recent minutes from the Fed showed no indication that the central bank was thinking of cutting rates even though the market expects it. However, the silence has finally been broken as Fed chairman Powell announced yesterday that the trade war is on the list of the Fed’s concerns and that the central bank would act to protect the economy from its fallout. In his own words, Powell said the Fed would “act as appropriate to sustain the expansion”.
FINSUM: We took this as a pretty strong affirmation that the Fed is watching the trade war situation closely and is ready to act. Markets liked it.
(New York)
There has been a lot of speculation about whether there may be rate cuts this year. The Fed has been less than clear about this possibility, mostly indicating it just wants to stay put for the year. The Treasury market has been very vocal, however, with investors clearly indicating they expect rate cuts over the second half of the year. Now JP Morgan is weighing in, saying that the Fed is likely to cut rates twice by the end of the year, a prediction which precisely matches what markets are calling for. The ten-year Treasury yield fell below 2.1% recently.
FINSUM: We think the cut will come as a function of how the trade war plays out. Trump is certainly pushing the Fed’s hand, but we expect the central bank will remain “data dependent”.
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(New York)
One of the best indicators of the health of the economy from the last several years has been the strength of the labor market. In particular, low unemployment and jobless claims have highlighted a tight labor market traditionally associated with a strong economy. However, what if the opposite was the case? Recent academic studies show a new recession indicator: full employment. Historically, downturns have typically started about 12 months following the lowest unemployment rate reached in a cycle.
FINSUM: We are currently at 3.7% unemployment, which is VERY low. It seems like the economy is exactly in the “12 months from a recession” position, at least according to this research.
(Dallas)
If you are looking for for a safe place to earn some yield in munis, look to Texas. Specifically, the Texas Permanent School Fund, a heavy weight in the muni market that backs $80 bn of debt. The fund has a triple A rating from multiple agencies and is one of the safest bets in the market. The bonds average a 1.9% yield, which is quite strong for the muni market, especially considering the average triple A only yields 1.7%.
FINSUM: This seems like a very strong credit, and one with a surprisingly good relative yield.
(New York)
JP Morgan thinks bonds are the best of a bad bunch. That is essentially what JP Morgan is saying about the asset class. The investment bank says that bonds are not in a bubble, though there are no good discounts either. JP Morgan, which is the world’s largest underwriter of bonds, says that despite the 100 bp dive in Treasury yields, bonds are not a bubble ready to burst. The bank thinks the Fed will stay on hold, not cut, until the end of 2020 given the increased pressure the trade war will put on the economy.
FINSUM: Despite the speed with which the bond market has seen yields fall, it is relatively hard to imagine them rising back to over 3% any time soon (even if China dumps its holdings). Thus, we generally agree with JP Morgan’s assessment.
(New York)
The trade war has really taken a toll on Treasury yields. The tensions between the US and China have made investors bearish about the economy, sending Treasury prices sharply higher, and steepening the inversion. Treasury yields just hit their lowest point since 2017, with ten-year yields falling as low as 2.27%, light years from where they were in the fourth quarter. Even the 30-year is only at 2.7%.
FINSUM: Yields are going to move in step with the trade war. We think the general trend will be downward given the market anxiety and the fact that the Fed is likely to be more dovish.