- Markets continued their wild ride this week, with last week’s hawkish Fed announcement pressuring yields higher and stocks lower, while a crisis broke out in the UK
- The action provided some stark reminders on the conduct of fiscal policy and the pricing of assets
The UK government bond market is supposed to be one of the most liquid in the world. But last week, the market collapsed, and the pound fell to a record low against the U.S. dollar on news of the Tory government’s mini-budget. The big questions are—how serious is this crisis, and could contagion become an issue? The short answer is that it’s still too early to say, but it’s definitely a problem. To give just one example of a spillover effect that’s already occurred: last Wednesday, the futures market on interest rates dropped their forecasts by 25 basis points, prompting speculation that the U.S. Federal Reserve may slow down its rate hike schedule as a result of this. So, in that regard, the crisis is already having a global impact. Policymakers in the UK have stressed that they believe that this budget is the right move for them—they aren’t really bothered about the rest of the world at the moment. In the big picture, it’s yet another concern to add on to broader international markets, on top of the ongoing Russia-Ukraine war and other challenges. Because of those other issues, we’d already taken down EAFE and equities in general. The situation in the UK gives us no reason to reconsider as we were already positioned for weakness.
Bottom Line: The situation in the UK is worrisome, but it’s still to early to know exactly how it will play out.
Porsche’s upcoming IPO has been attracting a lot of attention. Typically, an IPO coming out in this kind of market environment would be a bad idea, but this one is oversubscribed despite being priced near the top end. A lot of IPOs have a good first day before fizzling out. But Ferrari’s IPO in 2015 provides a potentially encouraging comparison—it turned out to be a good trade, and so there is hope that Porsche could follow a similar path. In general, anything tied to cars (new and used) has done well during COVID. But will that demand start to slow down as the consumer weakens? The key thing to remember is that these are high-performing cars that attract the higher-end buyer, and while those kinds of high-net-worth individuals have been hurt, they haven’t been knocked out by any means. Porsche getting into Formula 1 will also add prestige to the brand, potentially increasing demand further.
Bottom Line: The fact that the IPO has generated significant interest in a risk-averse market is a positive sign, but it’s unclear if the interest will last.
The devastation of Hurricane Ian has been evident, with images of destroyed homes dominating cable news and President Biden warning of a potentially “substantial loss of life.” There’s no question that this will have significant implications for the affected regions, at least in the short term. Building and re-building will take some time. Consumers won’t be spending as much because they have more important things to worry about. And job losses will likely occur as a result of knock-on economic effects. But the rebuilding will also create jobs, which establishes a potential floor for the economic impact. Another silver lining is that as the region rebuilds, older buildings and infrastructure will be replaced by new ones, which could pay dividends down the road. But for now, the situation is yet another reason why consumer confidence—which is already faltering—may continue to decline.
Bottom Line: The hurricane damage will affect economic activity in the near term before the regional economy gradually gets back on track.
Our recent positioning conversations have been based on what we’re seeing out there in the markets—and right now, it’s all red. We were expecting September and October to be difficult months, so this comes as no surprise. Currently, we’re considering going further underweight equities. And we’ve also further reduced our credit and high yield exposure to go into more conservative bonds. They can serve as a portfolio stabilizer, and at this juncture, it makes sense to not have too much highlight correlated to the economy, both on the equity and fixed income side. We want to continue to build up cash, so that if markets continue to decline, as we expect, we will not have liquidity issues as we deploy that cash back into the markets.
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