Coming global recession or depression?

Goldman is still all happy-clappy:

While inflation reached its fastest yearly pace in March since the early 1980s, we believe headline and core CPI should gradually subside throughout most of the rest of the year, and reach 5.7% and 4.5%, respectively, by YE22. That said, we believe that easing current strong wage growth and tightness in the labor market, where conditions are the most overheated in postwar history based on the 5.3mn gap between total available jobs and workers, will require growth to soften to a modestly below-trend pace—enough to persuade firms to shelve some of their expansion plans, but not so much as to trigger sharp cuts in current output and employment. We expect a substantial drag from fiscal policy will do a significant part of the work, as shown in our chart of the week, though estimating its size is hard because of the interaction with pent-up savings and reopening of the service sector. But the needed growth slowdown also calls for a significant tightening of financial conditions, in our view, which may well require Fed hikes beyond our current modal forecast for a 3-3.25% terminal rate. We think this leaves a narrower path for the Fed to deliver a soft landing, though we still don’t see a recession as the base case and retain our expectation for further US curve flattening despite recent steepening. While the Dollar has historically strengthened going into US recessions, especially against EM currencies, we find that its performance has been more mixed during the actual months of recession and broadly weaker around the trough. For now, we remain structurally bearish on the dollar, but our conviction on its near-term direction is fairly low.

What are the odds of the steepest rise in inflation and interest rates since WWII resulting in a soft landing? Nobody knows. But BofA has a better idea of how long the odds than does Goldman:

Tale of the Tape I: food prices surging, energy costs surging, “inflation shock” continues (US annualized CPI 10.1%, highest since 1981).

Tale of the Tape II: inflation, food shortages, power cuts, curfews…Sri Lankan rupee collapsed 60% since start of war as $7bn of debt payments this year vs $2bn FX reserves signal coming default (Sri Lanka chooses social stability over foreigndebtors); inflation & rates shocks lead to defaults, smallest & weakest first, larger later.

The Price is Right: BoJ Kuroda vows to maintain policy of “powerful monetary easing” in order to…?…well let’s just note since BoJ introduced Yield Curve Control 2016 GDPgrowth has been 0.0%, CPI 0.2%; current “powerful” defense of YCC policy = Japan [email protected] 20-year low) but≠strong stock market (Nikkei in US$ terms same level as Jan’18)

Powerful Impotence: since 2008 GFC central banks have bought $23tn assets, cut rates, created $18tn of negatively-yielding debt; revolutionary monetary policy fantastic for bonds, credit, PE & tech stocks, not so good for inequality & economic growth (particularly in Japan & Europe where transmission mechanism from QE though assetmarkets into real economy is less powerful); central bank results since…

•BoJ introduced QE Mar’01…GDP 0.5%, CPI 0.2%, bonds 1.5%, stocks 1.8%,

•BoJ introduced YCC Sept’16…GDP 0.0%, CPI 0.4%, bonds-3.2%, stocks 6.1%,

•ECB “whatever it takes” Jul’12…GDP 1.2%, CPI 1.5%, bonds 0.0%, stocks 5.6%,

•ECB introduced NIRP Jul’14…GDP 1.4%, CPI 1.6%, bonds-1.6%,stocks 2.1%,

•Fed introduced QE Nov’08…GDP 1.7%, CPI 2.1%, bonds 3.3%, stocks 13.0%

QE to QT: COVID, end of Globalization, War, “all-in” monetary/fiscal excess

In past 2years…”inflation shock”…QE to QT in 2022/23; central banks on course to hike rates>250 times in 2022…biggest tightening this century; $9tn Fed balance sheet set to decline to $7.2tn by end ’23; QE winners bonds/credit/PE/tech now trading as QT losers (Charts9&10); lot of negative already in markets, fresh downside requires “deleveraging events” and/or “consumer recession”…1.Fed hiking cycles always end with default & bankruptcy of extended governments,corporations, banks, investors (Chart 11); abrupt end of era of mass money printing (see collapse in stock of negatively yielding debt from $18tn to $2tn) will lead to deleveraging events…why banks & shadow banks (private equity) trading so poorly; 25bps by Fed cracks very little…150bps a different matter. 2.Everyone fears recession…investors (BofA April FMS), corporations & consumer (small business & consumer confidence already recessionary–Chart 2); Chinese imports already recessionary (Chart 12); capital goods orders have stalled in US, Germany, Japan (Chart 13); tipping point nonetheless requires unambiguous signs US consumer spending & labor market stalling…evidence only partial thus far.

TINA Turning: US 10-year Treasury yields up >200bps from lows, US IG bond yields 4%,HY bonds 6%, EM debt 7%, MLPs 7%…the alternative of yield set to be one of the investments trends of 2022.

Given consensus is usually wrong, I can’t help wondering if 2023 won’t be either a lot better than suddenly popular recession fears or a lot worse.

Don’t forget, the best historical analogy we have is the post-Spanish Flu inflation followed by a deglobalisation and rates shock depression in 1920/21:

As China pushes on a string with OMICRON and property ravaging the economy, Europe sinks into interminable war and energy shock, and the Fed delivers the sharpest rate shock in a century, can we say for sure that a rerun is not a real possibility?

The MB Fund remains very underweight equities, long quality, moderately long bonds, and very long cash.

Houses and Holes

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