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Are recession fears overstated?  

By Simon White, Macro Strategist, Bloomberg

The market is now considering a recession as its base case. Secured Overnight Financing Rate (SOFR) options, which assume a hard landing to be likely and a Federal Funds Rate of 3% or below by next June, now see a downturn as having a 50% probability. However, that's too pessimistic a view based on the data, which show a low chance of recession over the next three to four months.

Recession risks amid payroll trends and Sahm Rule signals  

By: Ashray Ohri, Senior Lead, Macro Research, Fidelity International

The US labour market has moved to the forefront of monetary policy decision-making after being on the dormant side of the debate for over a year. The triggering of the Sahm Rule has prompted market participants to price in recession risks and raised concerns that the labour market is nearing an inflection point, beyond which further weakening could lead to a compounding increase in unemployment. This could create a negative feedback loop of job losses, declining income and reduced spending that further accelerates job losses.

Our view is that we are not at that critical turning point yet. The rise in the unemployment rate and the triggering of the Sahm Rule can partly be attributed to an increase in labour supply, rather than an alarming slowdown in job demand or layoffs.

Accordingly, the chart above illustrates those potential tipping points by examining non-farm private payroll numbers 12 months before and after the start of the last 10 recessions, as identified by the National Bureau of Economic Research (NBER).

On average and/or at the median (orange and yellow lines in the top chart), non-farm private payrolls have typically turned negative at the start of a recession (0 = start of recession) and go on to deteriorate incrementally for another five months before hitting a floor (average peak decline is -195,000). Payrolls then start to recover, although they remain negative for at least 11 months after a recession starts. Clearly, we are not near these levels of contraction.

While these central tendencies may not be the most cautious signals, even the highest non-farm private payrolls at the onset of the last 10 recessions was 76,000 (in the Dec 1973 recession). This suggests that we are still more than 40,000 payrolls away from entering recessionary territory, with current private payrolls at 118,000 in August.

It is important to note that exceeding these thresholds will not necessarily confirm a recession, as circumstances this time may be different. Nevertheless, these serve as simple guideposts to bear in mind as we navigate this volatile cycle.

ECB’s path to easing  

By James Bilson, Fixed Income Analyst, Schroders  

Even after the recent rally, Eurozone policy rates are priced to go only fractionally below our estimate of neutral in Europe, which is around 2%. If we see growing signs of a weakening outlook in upcoming data, more accommodation will likely be needed from the European Central Bank (ECB) to support the economy.

Given that the ECB’s September 2024 inflation forecast has inflation reaching the 2% target only in 2026, further progress in reducing domestic price pressures will be needed for the central bank to speed up its cautious start to the easing cycle.  

Semiconductor sales strong despite SOX slowdown

By Takayuki Miyajima, Senior Economist, Sony Financial Group

The SOX index is a leading indicator of global semiconductor sales. So does the recent decline in the SOX index signal a future slowdown in global semiconductor sales? At this point, I don’t see any significant change in the semiconductor cycle.

The chart compares the SOX index with year-over-year (YoY) growth in WSTS global semiconductor sales. While both the SOX index and YoY growth have slowed in recent months, growth remains strong. Hence, there is a large probability that WSTS global semiconductor sales will continue to maintain double-digit growth for the time being, and there is no reason to be concerned about the cycle peaking just yet.

Loosening financial conditions may delay rate cuts

By Diana Mousina, Deputy Chief Economist, AMP

The Goldman Sachs Financial conditions index is a measure of overall financial conditions using market-based indicators, with different weights across countries depending on the structure of their economies.

An index above 100 indicates that financial conditions are tighter than long-term “normal” for that country, while an index below 100 indicates conditions are looser than “normal.” In the current environment, despite significant tightening in monetary policy across major economies such as the US and Australia, financial conditions have not tightened considerably relative to historical levels. And more recently, conditions have loosened again, driven by lower market volatility, rate cuts priced in by financial markets, and better equity performance.

This recent loosening in financial conditions could argue against significant interest rate cuts from central banks in the near term. But bear in mind that while financial conditions indicators are a good gauge of market conditions, they are less of a guide to actual economic conditions.

Restaurant slump signals rising pressure on US consumer spending  

By Enguerrand Artaz, Global allocation fund manager, La Financière de l'Echiquierv (LFDE)

Far from the post-Covid euphoria that saw leisure consumption soar, the US restaurant sector is now in the doldrums. According to the National Restaurant Association index, activity in the sector has fallen sharply since the start of the year. This illustrates a phenomenon seen in other survey data, namely a refocusing of consumer spending on the most essential items.

From a forward-looking point of view, it is interesting to note that restaurant activity has generally correlated with, and even slightly led, trends in retail sales. At a time when the job market is weakening, US household consumption seems to be under increasing pressure.

Bond prices remain below their historical averages

By: Kevin Headland and Macan Nia, Co-Chief Investment Strategists, Manulife Investment Management

Over the last month or so, there has been much debate concerning the Federal Reserve’s path for rate cuts. As the market started to price in the first rate cut and then the potential for more than 25 bps per meeting, yields across the Treasury curve fell, resulting in solid performance for fixed-income investors.  

That raises the question of whether the window for bonds is now closed. We believe that’s not the case and that there are still attractive opportunities. The fixed-income market is deep and diverse, offering pockets of opportunity for astute active managers, not only from a yield perspective but also from a capital gains perspective. Despite some increases in price, many fixed income asset classes remain below their post-global financial crisis average.

History suggests more aggressive rate cuts ahead

By Jens Nærvig Pedersen, Director and Chief Analyst, FX & Rates Strategy, Danske Bank

The Fed decided to go big this week by starting its rate-cutting cycle with a 50bp cut. Now the market is left wondering what comes next. Will the Fed deliver more big rate cuts and how low will it go? The market expects over 100bp of cuts over the next four meetings, suggesting the possibility of further significant reductions.

At first glance, this may seem aggressive, but history tells another story. In half of  the previous six cutting cycles, the Fed ended up cutting rates more than the market initially expected. In the other three instances, the Fed delivered cuts in line with expectations.

Yield has been a good predictor of future returns

By Niklas Nordenfelt, Head of High Yield, Invesco

A notable feature of the high yield market is that longer-term total returns have closely aligned with the starting yield.  

Chart 1 shows rolling 5-year and 10-year total returns alongside the starting yield at the beginning of each period since 2005.  

While the fit is not perfect, Chart 2 shows a strong relationship over an even longer period. It plots the starting yield to worst (YTW) on the X-axis and the subsequent 5-year annualized return on the Y-axis, showing a correlation of 0.68 between the 5-year annualized return and the starting yields.  

Always be prepared for a return of volatility

By George Vessey, Lead FX & Macro Strategist – UK | Market Insights, Convera

Currency volatility has been in the doldrums since most central banks paused monetary tightening in 2023. But this calm across markets contrasts with elevated macro and political uncertainty.  

A big question is how long this low-volatility regime can persist. We’ve witnessed such extended periods of low volatility in GBP/USD only a handful of times over the past two decades, each followed by a shock that reignited volatility. One could argue that the longer the slump, the bigger the eventual jump...

Long-term corporate bonds set to outperform as Fed easing looms

By Brian Nick, Managing Director, Head of Portfolio Strategy, NewEdge Wealth

In light of the approaching Fed easing cycle and recent softening in macro data, I examined the changing relationship between stocks and bonds.  

Investors have grown accustomed to viewing duration as a drag on their portfolios, but it's important to highlight that longer-term corporate bonds have significantly outperformed cash and cash-like instruments over the past year. Historical patterns during rate cuts and economic downturns suggest this outperformance is likely to continue.

Balancing act for Bank of England as markets race ahead

By: David Hooker, Senior Portfolio Manager, Insight Investment

With the easing cycle just beginning, the housing market is already starting to show signs of increased activity and firmer prices. Long-term yields have declined in anticipation of future rate cuts, dragging down mortgage rates and easing financial conditions. This underscores the complex challenge the Bank of England faces: preventing markets from running far ahead of what is likely to be a gradual decline in rates.  

Against a backdrop of still elevated service inflation and high wage growth, don’t be surprised if the BoE maintains a hawkish tone in its statements as it attempts to temper market enthusiasm.

BoE rate cuts: December or Q1?  

By Jordan Rochester, Head of Macro Strategy, Mizuho Bank

This chart shows the change in Bank of England (BOE) policy priced into the Overnight Index Swap (OIS) market, based on Bloomberg’s WIRP tool. What could prove the market wrong looks to be what is priced by December: Will the BOE get enough data to justify moving two meetings in a row by then? Or will back-to-back rate cuts meetings be more of a story for Q1, as we expect?

US MBS offers attractive yields vs corporate debt  

By Carlo Ciabuschi, CAIA, CFA, Portfolio Manager, Inter Fund Management

The above charts provide a concise overview of the US mortgage-backed securities (MBS) market, based on the Bloomberg LUMSTRUU Index.

Left chart: This tracks yield to worst (YTW), duration and average coupon. Duration has dropped to 5.4 years, driven by falling yields and an increase in prepayments.

Middle chart: This compares the current 30-year fixed mortgage rate (6.15%) with the average rate on existing mortgages (3.92%). It also highlights two key spread metrics: Option-adjusted spread (OAS) at 38 bps and the current-coupon spread vs. Treasuries at 125bps.

Right chart: This contrasts US MBS OAS with US investment-grade (IG) and high-yield (HY) corporate OAS. It also shows the San Francisco Fed proxy rate and the MOVE Index, emphasizing that MBS appear cheaper than US Corporate debt.