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Good morning. It’s frigid February in New York, which is not in itself good news, but it’s no longer January, which is something. Spring comes, even if the economic data looks a little wintry, as we discuss below. Email us: firstname.lastname@example.org and email@example.com.
Well, this is a bit unsettling:
We like the Atlanta Fed’s GDPNow indicator, and the last time we mentioned it (back when it was still referring to Q4, not Q1) it was slowing, but still reading over 5 per cent. We said then that we’re still in growthflation rather than stagflation territory. Well, we must admit that green dot does not look very damn growthy.
Some calming observations are in order. One, GDP is a volatile series, especially early in a given quarter, when a limited amount of data has come in. As the bank says: “As more monthly source data becomes available, the GDPNow forecast for a particular quarter evolves and generally becomes more accurate.”
Next point: the rather lumpy build-up and depletion of inventories, always a factor that injects volatility into growth readings, has injected even more volatility during the pandemic. The build-up of inventories during the fourth quarter contributed a lot to the strong growth, and so far in the first quarter they are doing the opposite:
The excellent Matthew Klein, over at The Overshoot, explains:
The biggest source of GDP growth in 2021Q4 — and the biggest growth impulse — was the change in private inventories . . . which was responsible for about 1.2 percentage points of the total 1.7% quarterly growth rate. In fact, the real value of non-farm inventories rose by more in 2021Q4 than in any other quarter on record. This likely reflects the gradual lessening of supply constraints and transportation bottlenecks, and should eventually flow through to shorter delivery times and reduced inflationary pressures. Businesses liquidated their inventories earlier on because they were either unable or unwilling to obtain more product to meet demand.
It is not that inventory build-up and depletion are not real GDP growth. It’s just that their timing ebbs and flows more than final demand does.
All that said, the problem is not just inventories. The data has been coming in choppy, but on the whole it shows slowing. The latest example is the modest decline in consumer confidence in January. Citi’s economic surprise index, which tracks whether data comes in ahead or behind analysts’ forecasts and by how much, has clearly turned over, after strengthening in the autumn. It is now negative, indicating more surprises to the downside than the upside. Data from Bloomberg:
The tricky question of course is how much the emergence of the Omicron variant has to do with the bad recent data, and the answer of course is we don’t know. The good news is that Omicron does seem to be subsiding as quickly as advertised, so we will soon have a clearer picture.
How worried are markets? We noted on Monday that the yield curve is flattening. The market indicator most sensitive to an economic slowdown would be credit spreads, however. And they are, in fact, widening some. Here are BBB and CCC spreads, which correspond to the lowest rungs of investment grade and junk-rated corporate bonds, respectively (data from the Fed):
The widening of the past few weeks is notable. But keep it in perspective: in the initial Covid panic of spring 2020, the CCC spreads, for example, hit 19 per cent. Pre-Covid, CCC spreads were about 10 per cent. So these are real but not huge moves. Marty Fridson of Lehmann, Livian, Fridson Advisors says it’s the CCCs that are really telling you something. He emailed the following:
To put it in perspective: 82 per cent of the months from 1997 to 2021 have had bigger moves (up or down) than the change of +12 basis points change in the BBB index in January through [Monday]. So not an exceptional swing for a month. The market is starting to focus somewhat more on the scenario in which Fed tightening triggers a recession . . . This shows up more clearly in the high-yield spread. It has widened by 56bp this month. Only 24% of the months since 1996 have had a bigger move up or down. So the Fed’s more hawkish stance has begun to make investors more cautious about speculative grade credits, but their concern is not great enough to make them substantially more apprehensive about investment grade.
The message, as of now, is: there are some worrying signals out there, but they are not decisive. Stay frosty and keep your eyes open.
How deep is the crypto-equities link?
Bitcoin is not like a high-beta stock. It sells off with tech stocks, but does not consistently rally alongside them. Nevertheless, there is enough recent co-movement between crypto and equities that even the IMF has taken notice, as the FT’s Chris Flood reported on Monday:
Sharp price swings in cryptocurrencies are causing “destabilising” capital flows in emerging markets, and the use of crypto in place of traditional currencies poses “immediate and acute risks”, according to a senior official at the IMF . . .
Officials at the Washington-based fund believe that sharp deleveraging episodes in cryptocurrencies are feeding into sell-offs in equity markets.
“The correlation between crypto and equity markets has been trending up strongly. Crypto is now very closely tied to what is happening in equities. We can’t just dismiss it,” said [IMF director of monetary and capital markets Tobias] Adrian.
One of the proposed mechanisms for the link is that when crypto falls, investors fly into risk-off mode. Those that invest in both crypto and equities then go dump their riskier shares. This effect, the IMF finds, is especially pronounced during severe bitcoin swings or financial turmoil.
More detail on this on Wednesday. For now we’d just note that the link looks like a pandemic phenomenon, as the IMF acknowledges. Just look at what Covid has done to bitcoin:
The pandemic has been an incredible boon for bitcoin, and for crypto. But it was also a weird time. Any relationship forged in the Covid laboratory is not built on a firm footing. The bitcoin-equities link is new, poorly understood and probably in flux. (Ethan Wu)
One good read
There is a hilarious dissonance to reading about the wacky world of decentralised autonomous organisations in the prim prose of The New Yorker.
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