(544 words, ~3 minute read)
The first week of February is shaping up to be a beauty with the Fed, ECB, and NFP on tap. Not very often do we get a week this jam packed and it reminds me the first week of the NHL payoffs. Action all round.
Below is a summary of the events and how things stand heading into tomorrow’s FOMC decision.
FOMC (Federal Reserve)
Inflation has peaked and is trending back towards its historical range between 2-3%. But, J. Powell is dead set on hiking further into restrictive territory until the labor market cracks. The problem is the labor market is not flinching, not even close with data from JOLTS and initial jobless claims looking solid. Hike until something breaks I guess.
Maybe tomorrow’s interest rate decision will come with a surprise announcement that monetary policy is on hold. Then again, maybe not. Any way you slice it, Powell thinks that any sign of a pivot will release animal spirits and risky assets shoot to the moon and inflation comes roaring back.
Obviously, the event risk around FOMC is big so judge accordingly.
ECB (European Central Bank)
Compared to the US inflation is spicy in Euroland. Only recently did Christine Lagarde get tough on inflation by aggressively raising interest rates. But the ECB is way behind the curve. It’s hard to believe but the difference between US/German 1month gov’t bonds is ~2%!
Brace for lots more tightening in the Eurozone this year.
NFP (non farm payrolls)
As I mentioned above job openings (JOLTS) and initial jobless claims are showing signs of a strong labor market. This is at odds with what Powell wants, higher rates and job losses in order to kill inflation. As some point down the road the labor market will crack, but at what cost?
I think we get another stubborn NFP print on Friday in line with 200k. No crazy outlier expected, but the trickle of layoffs from global corporates is almost a daily occurrence. Eventually the layoffs will bleed into the payrolls data.
Conclusion
Simply put, the Fed is going to hike rates until they break the labor market. The only way to avoid a hard landing recession is if somehow Powell pauses the rate hikes while maintaining a hawkish narrative AND not have risk assets spike higher. I think Powell stays the course and pushes the terminal rate towards 5%.
But what about your investment portfolio? In a nutshell, the global macro data which drives the risk parameters of our asset allocation model strongly suggests a heightened risk of a global recession with in the next 4-6 months. As a result, we have allocated a significant weight to >4% yield short-term bonds. We see excellent opportunities to buy risk assets at discounted prices towards Q3/Q4 2023.
Thanks for reading!
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