I apologize for the cliché, but this is simply the best way to describe the current condition of markets and the economy. Here’s what I mean.
Markets look good right now
Volatility in both the stock and bond markets has fallen near the lows of their three-year ranges. In other words, investors are seeing little need to buy insurance on stocks and bonds, and accordingly, the insurance is cheap, as shown by prices of options contracts. The market “consensus” is that risk is low across the board.
The major US stock indices have bounced off a short drawdown; the Dow Jones, NASDAQ, and S&P are less than a percent off their all-time highs. Stock price momentum ticked back up in the last week.
The market for corporate bonds is charging companies ever lower premiums to borrow money. Both investment grade and junk bond spreads have edged lower for several months.
Investment Grade Corporate Bond Risk Premium over US Treasuries
Source: ICE, BofA
Junk Grade Corporate Bond Risk Premium over US Treasuries
Source: ICE, BofA
Financial conditions have been “loosening” for about 15 months – ever since the regional bank failures of Spring 2023. Companies are capitalizing on these easy conditions to refinance high interest debt. For example, Texas fast food chain Whataburger refinanced $2.73 billion of debt for only 3 percent above the Benchmark. This is only a few months after they went to the credit market for $340 million in January. Thursday, JPMorgan reported that firms with a “junk” credit rating have refinanced $270 billion in debt since the beginning of the year.
Chicago Fed National Financial Conditions Index (down means loose, up means tight)
Source: Federal Reserve Bank of Chicago
Cryptos have gotten a boost, Bitcoin has risen 30 percent in the last six months, a strong indication that the investment community’s appetite for risk is high.
Earnings growth for S&P 500 companies is strong; Factset estimates earnings growth of 5 percent for the first quarter of 2024, the highest since the 2nd quarter of 2022 (which came in at 5.8 percent). 77 percent of the companies that have reported earnings so far have beat estimates.
Headline jobs growth is still positive. There hasn’t been a drop in the number of monthly new jobs created since 2020.
Source: Bureau of Labor Statistics
Signs of weakness are re-emerging
In January, Moody’s rating service forecasted an increase in defaults among junk rated companies in the first quarter of 2024. By the end of March, their competitor S&P reported a doubling in the number of corporate defaults in 2023, and the fastest increase since 2009 in the first few months of 2024.
Corporate Default Counts Through February Each Year
Source: Marketwatch, S&P Global
Their overall Credit Cycle Indicator was at the lowest level since 2010, and their household credit indicator was at the lowest level since the beginning of the series in 1995.
S&P Global Credit Cycle Indicator
Source: S&P Global
Default rates on credit cards and auto loans reached their highest levels since 2011 by the end of 2023, as reported by Equifax.
US Consumer Delinquency Rates
Source: Equifax, TD Ameritrade
Real Gross National Income per person in the United States is in a two-year drawdown. Gross national income (GNI) is – exactly what it sounds like – the aggregate amount of income accruing to households and businesses in the United States in a given year. It’s a close corollary to Gross Domestic Product, which is the “go-to” measure for economists on whether the economy is growing or shrinking.
Real GNI per capita means the National Income, adjusted for inflation, per person in the US. The Real GNIPC, if you will, typically declines at least one quarter before the “official” start of a recession. There’s never been this long of a drawdown in this indicator that didn’t eventually culminate in a recession, complete with a rise in unemployment.
Real Gross National Income Per Capita and RGNIPC Recessions
Source: Bureau of Economic Analysis
Lastly, the job market is showing signs of weakness. During the recovery from the COVID recession in 2020, employers found it extremely difficult to find warm bodies to fill jobs. From that experience, the lesson learned is that it’s a bad idea to let anyone go unless it is absolutely necessary. That’s keeping a lid on layoffs and headline employment numbers positive.
There are, however, other ways businesses can cope with rising costs and/or falling demand. They can cut hours and convert employees to part-time status. Average weekly hours are significantly below the cycle average. On net, there hasn’t been a new full-time job created since July 2023.
Weekly Hours Worked minus Cycle Average
Source: Bureau of Labor Statistics
Initial unemployment claims for the last week of April spiked the most since Summer 2023. Take this one with a grain of salt, as the unemployment claims data can be quite noisy.
One of the most alarming indicators, which I haven’t seen reported anywhere else, is the expectation of layoffs. The percentage of workers expecting to lose a job has risen 6 percentage points since the start of the year, as of March, to the highest level since October of 2020.
Federal Reserve Expectations Survey – Mean Probability of Job Loss
Source: Federal Reserve Bank of New York
Synthesis
You may have heard the phrase “soft landing”, it’s been quite popular in the media for the last year. This is the expectation that the Fed will be able to successfully kick the rapid post-COVID inflation, by raising interest rates, without triggering a recession. The soft-landing narrative has taken both economic forecasters and market participants. In 2022. 63 percent of Wall Street economic forecasters predicted a recession in the next 12 months. In April, it’s down to 29. As discussed at the beginning of the article, the bond market is demanding ever-lower premiums for corporate risk. There’s a word for this, it’s “complacency”, when the investment community is lulled into a sense of safety, even with large warning signs.