You must have all seen the 2023 Market Outlooks from the world’s largest investment banks and asset managers by now.
Goldman Sachs https://lnkd.in/eKzF_2K4
J.P. Morgan https://lnkd.in/eHb6-622
Morgan Stanley https://lnkd.in/e2nAMjmM
Bank of America https://lnkd.in/e8XFD8TW
BlackRock https://lnkd.in/eYxCBRGj
Barclays https://lnkd.in/eRT4dsFY.
NatWest https://lnkd.in/euftbUw6
Credit Suisse https://lnkd.in/e4CEK5NZ
BNP Paribas https://lnkd.in/ec4hWEdm
Deutsche Bank https://lnkd.in/eAWCSV_7
Apollo Global Management, Inc. https://lnkd.in/ewwq_62M
Wells Fargo https://lnkd.in/euMkQnKE
BNY Mellon https://lnkd.in/ezMfVgND
Fidelity International https://lnkd.in/eJwK6tVx
Lazard https://lnkd.in/eku-xhqp
Combing through the 2023 outlook reports by major investment banks leaves one with the following consensus-like takeaways:
Inflation has already peaked but unlikely to go down back to the 2% target until 2-3 years later.
Job openings and vacancies are getting destroyed instead of employment. Strong labour market likely to remain.
Europe and the UK are already in recession. Mild and short recession projected for the US.
If recession turns out to be a deep and destructive one, central banks will not pivot to the rescue. Central banks will only pivot if something central to the financial system breaks.
Fed interest rates to peak at 5% in H1 2024. Fed likely to pivot in H2 of 2023.
Bonds and equities exhibiting positive correlation; once Fed pivots, long duration assets (long term bonds and equities) would start to look interesting.
Mixed opinions on commodities due to various geopolitical uncertainties and complex macro effects from China’s end of Covid-zero.
Nobody except Citi and UBS mentioned crypto.
Consensus spreads fast. From Christmas to New Year’s Eve I was at four different parties, and the analysts I’ve met there have all begun to talk about how to position themselves based on this consensus - the pivot is coming!
The end of the Great Moderation
Blackrock declares that the era of the Great Moderation, the four-decade period of largely stable activity and inflation, is behind us. Smothering the global economy is a new economic regime of high inflation, and high interest rates. Central banks are on course to tighten, and eventually, overtighten the monetary supply as they seek to tame inflation. Unlike in 2008 or the 2020 March covid stimulus package, central bankers won’t ride to the rescue when growth slows in this new regime, contrary to what investors have come to expect. They are deliberately causing recessions by overtightening policy to try to rein in inflation.
Blackrock argues that eventually central banks will eventually back off from rate hikes as the economic damage becomes reality. If they overshoot such that as Arthur Hayes puts it, “if the US Treasury market becomes dysfunctional,” then the Fed will start cutting rates.
Dot plots current forecast rate hikes to stablise at 5% in 2023. Inflation is already showing signs of cooling still way above the 2% target rate.
Zulauf argued that 2023 could see a wonderful window of 6-9 months for bond investors. Once the economy weakens, or if something breaks, then all of a sudden we’d find the Fed turning from a seller of treasuries into a buyer of treasuries, and so will the bankers, then the investors and speculators as well. So you’d have a dramatic swing for a short period of time for 6-9 months where 10-year treasuries decline by 200 basis points, particularly if you have that credit event that really signals to the Fed “we have gone too far”. Once that signal is in, you’d have a tremendous bond market rally. It won’t be sustainable, of course. This bond market rally will be extremely beneficial for equities and indeed all risk-assets - crypto as well.
What might that credit event be? Ronald Temple from Lazard said that although he is not worried about the seeds of a global financial crisis, he is worried about the leveraged lending market, where most of those loans are floating rate - with rising interest rates and lowering EBITDA, companies issuing those loans are going to be in trouble.
Salt anyone?
I think there’s good reason to take these projections on Fed pivoting, with a grain of salt.
Recall how in October, a printout of a 7.7% YoY inflation sent crypto markets skyrocketing just because it was lower than expectation - notwithstanding the obvious fact that it is still a 7.7% inflation rate. People are so hurt and so starved of a bull market that they overreact to the smallest bullish news.
All the reports are unanimously bullish, conditional on a Fed pivot. This sounds like hopium overdose. But I guess the analysts at these investment banks can’t afford to be bearish when everyone else is bullish and you’re the only one wrong. If you’re wrong, be wrong along with everyone else.
The following graph from Apollo’s macro outlook report tells us much about how much hopium is mixed into these forecasts. Everyone predicted that inflation would peak the month in which they’re writing their report.
Furthermore, global supply chains are still reconfiguring. There are mixed predictions as to whether China’s opening up is going to unleash the kind of deflation that we have become accustomed since the 90s or whether Chinese demand is going to add fuel to the inflation flames.
China’s pivot from zero-Covid has exposed the fact that its population are woefully unvaccinated (or vaccinated with rubbish). Cases are soaring. Though mortality rates are not as high as in 2020, the economy is not ready to go back into full steam.
Furthermore, continued US-China tensions continue to contribute to the dismantling of the Chimerica order, which limits Chinese export of deflation. And China itself probably doesn’t want to play this game anymore. It wants to dedollarise. It no longer wants to export deflation just to cancel the inflation Americans produce for their military-industrial complex.
When pivot? And what after?
So, Fed pivot if something breaks, but there’s no way to predict when that could happen, or what’s going to break - and we can be sure it is the sincere wish of the Fed to not have anything like this happen, because that would mean they would have to pivot at the expense of fighting inflation.
When the Fed started to raise interest rates in Mar 2022, the negative correlation between bonds and equities broke, and it became positive. That positive correlation remains. Long duration assets, bonds, equities, and crypto are most sensitive to interest rates. As interest rates go down, bond prices shoot up.
Of course you accumulate - BTC, ETH, and a good selection of altcoins that folks might rotate into once the initial BTC and ETH have clearly pumped (more on that in another post) - but I’m still only taking small jumps and not massive leveraged-to-the-tits leaps, for there’s still the DCG dagger hanging above our heads.
As argued above, I think there’s good reason to take predictions or forecasts that the Fed will pivot Q2 or Q3 in 2023 with a grain of salt. One should recall how slow the Fed was to pivot from calling inflation transitory to raising interest rates like mad to kill this persistent beast. The Fed’s nature is to react, and overreact. I’d say if there’s going to be a pivot, it will come late.
And it should seem obvious to me that such a pivot will be nothing like a return to the low interest rate regime we have become familiar to since 2008. Once markets stablize, the Fed will return to the task of bringing inflation down back to 2%, which means such a pivot pump is likely going to be temporary.
This means it will not be a new decade-long sustained supply of easy money. There will be a bull rally, for sure. And sure, the Fed will be late to tighten, but they won’t be as late as last time they decided that inflation wasn’t transitory, and they will swing the pendulum back.
Note that the next bitcoin Halvening is scheduled to be somewhere around April 2024. If the Fed pivot takes place in late 2023, it might just be late enough to coincide with the Halvening to ride on it as well. But if the Fed pivots in mid 2023 and calls the party over before end of 2023, then we’d be left with the first bitcoin Halvening ever in a rising interest rate environment.