Wall Street goes back to school
For two months we’ve talked about it and now it’s here. It’s Tuesday, 5 September. It’s the day after Labor Day and Wall Street is “back to school”. It is 79 days until Thanksgiving – of which a mere 57 are weekdays. The sprint to the line can begin. To mere mortals, and especially non-American ones, that day count means very little. But for those who eat and breathe markets, Thanksgiving is when the year has run its last bend and hits the finishing straight. There are many bon mots and wisdoms as to how the year’s budgeted P&L is to be made. The one by which I worked and which I passed on to my own people is that half has to be made within the first four months of the year. The other half needs to be wrapped up by Thanksgiving after which the Christmas season can begin.
But that is still some time away. For now the objective is to try to catch the mood and to be, pardon the expression, on the right side of history. The good news is that we are not in a US election year, so we don’t have that uncertainty to deal with along with all the other uncertainties which have been bugging us since 2020. It might by now be September 2023, and the Ukraine war might on some days not even be mentioned in the papers, but it has not gone away. And we, the West, are busily trying to work out where we fit into what looks like a developing new world order.
President Xi’s recent announcement that he will not be personally appearing at the coming G20 summit speaks volumes. In his 12 years at the helm in Beijing, he has not missed a single one, and as recently as the 2022 edition in Bali, spoke of the benefits of the event and of face-to-face meetings with his peers. Has he changed his mind? Has he decided to deemphasise the G20 as a subsidiary of the Western G7 and to try to put a more China-centric BRICS show in its place? Or is the flaring up of the ongoing spat with India, hosts of this year’s G20, over a map and about disputed sovereignty too close to the surface for him to want to have it raised on a wider diplomatic stage? One way or the other the G7, even with only 10 per cent of the world’s population, still accounts for over a third of its GDP and over half of its wealth.
BRICS+ has remarkably little economic power, hence the courting of the largest among the oil producers. Currently, that is working out quite well with OPEC+ remaining unusually faithful to its announced supply constraints. Industry estimates suggest that the global market is currently suffering a deficit of give or take 2.3 million barrels per day.
As recently as 27 June, Brent was trading at US$ 72.00/bbl and WTI at US$ 67.00/bbl. At the time of writing, the prices are to within a few cents US$ 89.00 and US$ 86.00, respectively. Winter is not far away, and fuel consumption will rise.
The rising instability across Africa, albeit currently more focused on the French-speaking countries, cannot but remind us that there is more to lending in emerging markets than simply jumping on a moving train. There is a concept I was trained to embrace in my early days in investment banking. The concept was payment morale. It’s sort of taken for granted that 99 per cent of borrowers want nothing more than to be successful enough to be able to repay what they borrow. The skill of lending, especially in less salubrious geographies, is to work out who is part of the 99 per cent and who isn’t.
When sovereign lending to Third World borrowers went wrong in the mid to late 1980s, it was the banks that carried the can. The Third World was resprayed and retitled Lesser Developed Countries (LDC) and the same exercise was repeated. When they began to default, they were once again renamed, this time as Emerging Markets (EM) and the same exercise was again repeated. Except that after the second respray, EM was busily being securitised and sold to public funds which in turn were marketed to private sector investors, many of them yield hungry private individuals. I hate to think how many wealth managers and independent financial advisers with no concept of the risks of lending to lower rated sovereigns have been putting their clients’ hard-earned funds into juicy looking markets they don’t understand.
During the Global Financial Crisis, banks were bailed out and very few depositors actually lost any money. The disintermediation of credit – that’s taking it off the banks’ balance sheets, packaging it up in bond format and flogging it to the public – has spread the risk wider but it has also taken government sponsored deposit guarantee schemes out of the picture. My guess is that most of the private investors who find their diversified portfolio packed with mutual funds and exchange-traded funds (ETFs) on an emerging market theme have no clue just how exposed they really are. At the same time, sovereign borrowers should be aware that when unwinding their ties to the old colonial powers and in climbing into bed with Chinese and Russian interests, they lose the moral high ground which they hold against their erstwhile European masters. They lose the power to play the historic guilt card. They lose the guarantee that they will be bailed out. The new kids on the block, be they Russian or Chinese, will take no prisoners. That said, they know that as long as the right people are kept happy, all will be well. Wagner Group activities bear witness. If asked about EM investments, I think I would in the currently fluid environment most probably have to suggest “Avoid”. Anyhow, with our rates where they are, who needs to take silly and opaque risk in order match the liabilities?
Moving back to more familiar territory, Christine Lagarde, president of the European Central Bank, was in London where she did what she does best. That is, to give a speech in which she says a lot but tells you nothing. Markets are obsessed with central bankers in the hope that they will tell us something we do not know. I think I’ve covered the ground often enough, but ever since central banks began their disastrous foray into forward guidance, we know that they don’t have some kind of crystal ball which enables them to divine the future in a way the rest of us can’t. What’s more, their ivory tower economists are more likely than ours to go down academically interesting but dark rabbit holes.
Lagarde is lumbered with an economy which stretches from Greece to Finland and which is of course not one economy at all. Since the depth of the eurozone crisis, the one lighthouse in the storm has been Germany. That country now has enough problems of its own – political, social, and industrial – and Lagarde knows she can no longer rely on Berlin to pick up the pieces. The eurozone is facing its own paradigm shift so it is therefore not a good time for our Lagarde to be blithely making Draghiesque “whatever it takes” statements.
As of today, markets will be trying to map out the path from here to the end of the year. The first stop will be the next Federal Open Market Committee (FOMC) meeting on 19-20 September. Inflation will be top of everybody’s list. Although, I suspect that as cost-push inflation begins to fade, demand side inflation fuelled by rising wages will keep the rising price flame burning longer than many are yet prepared to acknowledge. Monetary authorities will need to keep their options open for as long as they can. And they can do that for a very long time. A hard landing might encourage them to begin cutting rates sooner rather than later. A soft landing won’t. Beware of what you wish for.
Write to us with your comments to be considered for publication at letters@reaction.life