Apologies for the radio silence over the last few weeks – holidays and events have got in the way.
Anyway, back to normal service now, with a quick overview of the markets at this critical juncture.
My hunch is that at the global level we are not about to enter into a recession. This is another of those synchronized, global slowdowns where markets pause for breath. It could turn into a proper slowdown and a recession for any number of reasons but on balance, I think the probability is that we’ll have a Q4 bounce back in stock markets.
Part of that reason for my (guarded) optimism is that the central banks still seem willing to buy off-market volatility by turning the monetary taps back on. I’m not sure this is a sensible strategy for the long term, but it is what it is, and the recent 25 basis point cut by the US Fed – and the ECBs signaling that QE continues – is I think a clear signal. The Powell Put is in place, sitting alongside the Yellen and Bernanke Put, all overshadowed of course by the Trump requirement to have a healthy stock market ahead of his election.
At this point, most investors then start to babble on about events in the bond markets where yields have slumped, and all the talk is of negative interest rates and bond yields. My own suspicion is that what we are seeing in fixed income is not a flashing red light for a global recession, more a specific set of circumstances engineered by central banks in their recent quest to tighten balance sheets. Analysts at Cross Border Capital Research put it very succinctly when they suggest that
“there is a shortage of ‘safe’ assets in global financial markets caused by fiscal austerity policies, compounded ironically by Central Bank quantitative policies and worsened by flight capital from Emerging Markets. These forces have triggered an excess demand for ‘safe’ assets which has driven up US Treasury prices and, simultaneously, hammered down term premia. Assuming that the recent Global Liquidity upturn continues, this may be enough to reverse the downtrend in term premia and normalise markets.”
The chart below gives us a nice historical overview of global financial market liquidity. In recent months the monetary base has tightened but now we are at the start of an expansion of global liquidity. “In short”, Cross Border suggests “there is a strong upturn in the Liquidity Cycle, which is normally bullish for risk assets, against a widespread preference among investors for ‘safe’ assets.”
On a side note, this conclusion receives some hesitant backing from Charles Ekins, an asset allocation specialist who runs an interesting ETF based mutual fund. Charles is a smart quant with a strong value bias and his take on markets is always worth watching.
According to Charles Ekins,
“Our unconstrained asset allocation mode went to zero in bonds earlier this month [September]. In a long/short environment, our indicators are “flat” in bonds but not yet short. Some of this bond reallocation has gone back into equities which have reasonable valuations, and which may be starting to regain momentum. However, cash allocations are still quite high because of the unattractive situation for bonds and the fact that equities have not fully emerged from the difficulties that started in January 2018.”
Not a bad of my own view about markets as we approach October.