We find ourselves faced with a curious scenario “parallel divergences” says Antonio Cesarano, Chief Global Strategist of Intermonte observing the US and European markets: most agree that there will be areversal of trend in rates, but there is a great deal of disparity of opinion on when and how much. But despite such an uncertain scenario, there is no shortage of very interesting financial instruments to put in your portfolio. Here's how to assess the situation and how to move.
How do you read the current economic and financial scenario? On the one hand there are investors who are very worried about high rates, but also about the possibility of a recession. On the other hand, however, the stock markets are very effervescent and other investors expect a soft landing at most. Who is right?
“The overall picture shows uncertainties, fluctuations and different perceptions. The latest monthly survey conducted by Bofa/Merrill Lynch shows that 75% of respondents see a soft landing or even a no-landing as more likely, 10% more than the same survey a month ago. Looking at other studies, the opinions are very different. UBS believes that there will be a strong recession in the US and that the Fed will therefore have to cut rates significantly. Goldman Sachs, on the other hand, says that the USA is strong and will continue to be so next year, so if anything the first cuts could arrive at the end of 2024. There is Morgan Stanley which is in the middle seeing an economy which is not doing very well and which will have need for a rate cut as early as the middle of next year. And then we heard Mario Draghi who, as a former central banker, hypothesized a recession, but not a deep one. So we find ourselves faced with parallel disagreements: everyone agrees that we are close to a rate cut, but they differ on when and how much. Everything will depend on the data that emerges in the coming weeks."
How do you evaluate the restrictive actions of central banks, compared to the decidedly expansionary behavior of certain governments, particularly US ones, but also European ones?
“The confusion among operators may arise from the uncertainty of central banks who continue to pursue an approach dependent on macro data, without outlining a perspective. Moreover, while they were trying to cool the economy to contain inflation, they found themselves caught out in the face of significant government expansion and stimulus measures, particularly in the USA. For example, we have seen Joe Biden's government act to support the payment of student loan installments, equal to around 500 dollars on average per month, allowing non-payment from March 2020. From October, however, the moratorium ceases and US consumers will have to resume pay installments on student loans".
Since we need to carefully analyze the data, how can we read the third quarter data and the first fourth quarter data that are arriving?
“Precisely thanks to those stimulus tools provided by the government, the United States recorded a GDP of 4,9% in the third quarter. But the moratorium on super loans ended in October, even if Biden sweetened the pill by saying that those who do not pay will not be prosecuted in the next 12 months. And some data is already reacting to the disappearance of these stimuli. For example, requests for unemployment benefits in the last 4 weeks are rising, while the infliction, which was stable in October, shows an annual figure that has fallen to 3,2% below and estimates of 3,3%".
Money doesn't grow on trees, as we know, and more stimulus usually means more debt and greater deficits. How do you evaluate the situation of US debt, never seen at these levels?
“We are starting to pay the price for the super expansionary maneuvers and the rating agencies are already noticing it: Fitch has moved with a rating downgrade, Moody's with a negative outlook. It is certainly not a solvency problem for the US. But the problem of such a high public deficit, and which will remain so until around 2033/34, certainly needs to be addressed: before Covid, every quarter the US Treasury resorted to the market with bond auctions for around 300/400 billion, now it travels around 800 billion, per quarter. Especially since there is the issue of interest expenditure: it has never been seen that more than 20% of tax revenues were used to pay interest. And next year will be, as for Italy, an important year for the so-called "maturity wall", due to the maturing of very large amounts of government bonds as well as especially US High Yield corporate bonds".
He has often linked the US situation with the Italian one. How close are the two economies?
“Except obviously for the different ratings, there are several similarities. The Italian 10-year bond yields 4,54%, not far away is the US one which is at 4,60%. The average life of the debt is approximately 7 years for Italy and 6 years for the USA. Furthermore, as we have said, both countries are faced with bills to pay to cover past overspending and huge amounts of auctions due next year.”
US politics is playing a game of loggerheads on the debt chessboard. Republicans and Democrats are competing on the issue of greater rigor on state spending. How could the situation evolve?
“A measure proposed by the new Republican leader in the House Mike Johnson was recently approved in the House which effectively provides for the authorization of spending for some departments until January 19th and for others (including defense) until February 2nd. The aid package of over 100 billion dollars requested by Joe Biden for Israel and Ukraine is excluded from this proposal. Johnson stated that this package will be taken into account in another measure. Therefore, the shutdown (i.e. closure of various public offices) will most likely be avoided until the beginning of 2024, but the Republicans' strategy is equally evident: forcing the Democrats to continue negotiations until the next presidential elections in November 2024, with the aim of obtaining cuts to spending which could ultimately result in a positive factor for the bond market which is very sensitive to the evolution of the public deficit".
In light of these scenarios, what is Intermonte's position?
“With the easing of the stimuli we have mentioned, we see a possible slowdown in the fourth quarter, which will become more significant in the first half of next year. The Fed should therefore have ended its policy of raising rates, also in light of the signs of a slowdown in inflation. At most he could still make a move, just out of prudence, in the case of extraordinary external events, especially on the geopolitical front."
What are the most suitable investments?
“In this scenario, bonds remain an interesting investment, especially in the 3-5 year portion, but with some tactical lengthening of maturities. Investments in securities issued by the financial sector, particularly in Italy, were also good, given that the banks have mostly allocated the extra profits to strengthening capital, thus providing greater security to the bond investor".
And what about equities?
“It is necessary to focus on those securities that have greater liquidity and/or that generate a lot of liquidity and which therefore can withstand even prolonged phases of high rates. It is above all the US big tech sector that has these characteristics: the companies not only have a lot of cash in their portfolio and offer many buy backs, but they are now reaping the fruits of the investments made in the past, see for example artificial intelligence. Other sectors with good liquidity are utilities, banks and partly also energy."
How do you see investing in gold?
“I would keep 5-10% invested in the yellow metal. The gold market is experiencing a moment of record demand from global central banks because, after the Russia case, they want to diversify their currency reserves away from the dollar. Furthermore, the Chinese New Year is approaching, February 10th, which this year will be dedicated to the dragon. Seasonally, demand for Chinese gold (China is the world's largest consumer) tends to rise in the two months before the Lunar New Year."
Next Friday will also be a key date for Italian debt, given that around 23pm the judgment of Moody's is expected, whose rating is currently right on the threshold between investment and non-investment grade. What do you expect to happen if there were to be a downgrade?
“Moody's could follow the other agencies by confirming ratings and outlook based mainly on the impact on the growth of the PNRR. In any case, otherwise there could be volatility on the spread in the very short term, but I believe that it could then return, given that the other three agencies have confirmed the rating and outlook. In any case, it would also be an important signal for the final phase of approval of the budget law, as well as for the negotiations on the new stability pact".
