August 15, 2019

Markets Signal a Slowing Economy

Market participants generally anticipate a slow August, where junior staff watch the trading desks as more senior staff depart for time off. But this August has defied expectations with geopolitical concerns surfacing around the world.

If you woke up from a decades-long nap in today's world, you would be forgiven for some confusion over market indicators. Certainly, risk aversion assets are securing multi-year highs even as stocks swooned 3 percent midweek, one of the year's worst declines. Gold reached a six-year high, and the U.S. dollar moved to two-year highs. Also this week, one of the strongest slowdown indicators — the closely watched yield curve of two-year Treasury yields against 10-year Treasury yields — inverted for the first time since 2007, CBS News reported

In another eye-popping data point, about 60 percent of the 500 stocks in the Standard & Poor's index carry dividend yields greater than the 10-year Treasury yield. Also, the 30-year Treasury rate hit all-time record lows this week touching levels below 2 percent for the first time in history. And around the world there is $15 trillion of negative-yielding debt, according to CNBC.

On the other hand, assets that are typically in demand when investors are seeking to avoid risk are also high. Almost every equity market around the world is up on the year – double-digit increases for almost all stock markets around the world. A notable major exception is – unsurprisingly – the Hang Seng index in Hong Kong.

Some of the old narratives about global financial flows clearly have broken. Investors used to switch between stocks and bonds and cross borders in search of better yields. What we see now is that almost all assets, and in almost all countries, money seems to be flowing into financial assets.

Some of that story no doubt comes from the massive amounts of fiat money created by central banks, money that eventually makes its way through the system and into financial assets. One analyst calls the current situation an “everything bubble.”

My View: So which approach by investors is right? That clearly depends on which narrative you believe about the path of global economics and politics. I tend to notice the assets that have ascended to extremes not seen in the last few years. That points to assets such as government bonds and gold, which are increasingly flashing warning signals about the health of the global economy.

That said, timing is everything. A meaningful yield curve inversion points to a recession in perhaps 18 months. Shorter-term, the U.S. economy - at least - still looks strong. I would refer you to City National Rochdale's latest Economic Perspectives commentary about the U.S. economy for the second half of this year for more on that front.

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