We hope you’ve marvelled at the many sporting and musical spectacles over the summer. Indeed, we hope such triumphs have bestowed you with a renewed sense of hope and optimism about the future. That certainly ‘was’ the position of this author; at least up until this most recent weekend…. at which point the Gallagher brothers well and truly messed it up! On the assumption I cannot find £2,000 behind the sofa to pay for a seat in row Z, and to help me return to my zen state, I will just have to assume their best times lie in the past!

Turning to global stock markets and we were pleased to observe, in aggregate, indices carved out marginal gains across August. This net performance, however, did mask far higher levels of volatility beneath the surface. Beginning in late July, before accelerating in early August, stock markets came under intense selling pressure as fears of US recession climbed.

Price falls were compounded by the unwinding of leveraged ‘Yen Carry Trades’. Such ‘Trades’ are executed by (a segment of) investors who secure low-cost borrowing to fund investments in higher returning assets; at least that is the strategy. The yen is a popular source of funding given its low-interest rate policy, however, as it appreciates so too does the debt repayment burden. To prevent more meaningful losses, positions are closed via the sale of investments to then repatriate into yen and repay the borrowing. Such a process can have vicious feedback loops, however, as asset sales and yen purchases can beget further asset sales to payback increasingly expensive yen borrowing. This punishing cycle may go some way to explain the remarkable price action seen in early August. We would reassert, however, that US recessionary fears were the likely catalyst for such a frenzy.

It would seem recessionary concerns had risen over concerns ‘cracks’ in US labour markets are widening. Though aggregate employment data remains robust, the level of hiring is decelerating, and layoffs are accelerating; a combination sending unemployment trends firmly in the wrong direction.

Though many factors will be at play, deteriorating momentum within US consumption will be elevating market nerves. Consumers can choose to spend from savings, current earnings or borrowing, with all 3 suggesting the game is almost up for this cycle’s expansion. Though very difficult to get a confident read on savings, most analysis points to the near depletion of pandemic handouts, certainly within lower to middle income groups, who have the highest propensity to spend. Wage inflation is continuing its trend lower, suggesting a diminishing tailwind from current earnings. As for borrowing, higher interest rates negate the appeal for consumers to take on more debt, whilst rising defaults in credit cards and consumer loans, discourage banks from offering more too. This diminishing confidence in the US consumer and, therefore, the durability of a US expansion, likely encouraged many investors to sell down their equity holdings.

Despite such initial concerns, it is not for certain a US recession will arrive within the coming 6-12 months, as US consumer fire power may yet prove more resilient than many anticipate. Indeed, not far into the month of August and US ‘Jobless Claims’ data served to restore confidence in US labour markets, postponing any apparent risk of imminent recession.

Avoidance of recession (at least for now) remains at the centrepiece of the investment strategy, believing growth can remain resilient as consumer and business confidence can be buoyed by fading inflation and the onset of a rate cutting cycle. On this point, investors can take comfort from the increasingly dovish tones from the US Central Bank, signalling with some intent that interest rate cuts will begin in September.

It is, however, a troubling time when volatile single data points (subject to revision) can drive markets so firmly in either direction. Investors should brace themselves for further volatility, as markets fret between extremes of soft-landing euphoria and recession.

Kind regards,

iPensions Wealth Team

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