Is the commentariat wrong (again) about a recession in the US?
The R-word is on many investors’ lips at the moment. The combination of the US yield curve inverting – though note that it is now positive again over 30 years, if not 20 – gloomy economic data and this weekend’s attack on Saudi oil facilities has led the commentariat to assume that recession is now a virtual certainty. At Linchpin we beg to differ. A year ago we thought a US recession was inevitable because of the Federal Reserve’s stated policy of raising rates. However, since January there has been a sharp change of policy, and we believe the signals now point towards stronger growth and no recession. It’s not just the un-inversion of the yield curve, with US rates lower and 10 year bonds back up above 1.8%. Liquidity, as defined by our friends at CrossBorder Capital, were back to near neutral levels at the end of August, compared to 18 (range of 0-100) in April. It is not evenly spread, true, but cross-border flows, often a good indicator, are strong at least among Developed Markets. And equity markets have been remarkably sanguine, suggesting investors don’t entirely believe the bond market bears. China still exhibits the weakest liquidity overall: the People’s Bank started tightening 12 months ago, we’d surmise in order to support the yuan while trade-skirmishing with Trump, and over the next nine months reduced its balance-sheet by about 10%. Since spring, as we have chronicled, it has reversed course and been easing. However, the August data exhibits a sharp volte-face and one big question is whether this is temporary or not. Cross-border flows are also sharply negative out of China. So why aren’t markets flying? The answer lies with another long-standing theme of ours: the risk to the financial system from the inability of private sector lenders to obtain ‘safe’ assets to collateralise corporate lending, combined with the short-term nature of much of it. We don’t expect this to resolve itself but if further central bank easing results in some recovery in risk appetite then we may see steeper yield curves as investors sell Treasuries and the like. Which in turn may mitigate the collateral squeeze on lenders. We’d therefore be more bullish on Developed Markets, without expecting a major rally and, at least in the short-term, more cautious about Emerging Markets and those linked to China. Of course we have to give the usual caveat that geo-politics (oil prices, BREXIT, trade) can make any prediction look foolish, including ours here at Linchpin. But the big R in the US? We think it is now unlikely. To purchase CrossBorder’s latest analysis, please click here.