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Investors had a sobering time last year. Runaway inflation was met by central banks rushing to raise official interest rates, destroying returns on almost every asset class except gold and other commodities. The key for financial markets in the coming year will be whether policymakers can bring about a soft landing for the global economy or whether the recession becomes endemic. Given how misjudged the post-pandemic environment has been by monetary stability guardians, we are skeptical of their ability to invent a Goldilocks economy. Tightening too much risks serving cold economic porridge when growth stalls.
Is the bond trend over?
Bond yields have been falling steadily since the 1980s. This decade-long downtrend has clearly been broken, with the 10-year average yield in the G-7 bond markets more than doubling over the past year from the 1.3% average of the last decade. At current levels, borrowing costs in the debt capital market are in line with their 20-year average. Your guess is as bad as ours about what happens next in fixed income.
Overly generous monetary and fiscal stimulus during the pandemic has led to runaway inflation – kryptonite for bonds. US yields, the global benchmark, have paved the way to significantly higher levels. The consensus forecast among economists polled by Bloomberg is that 10-year Treasuries will trade at 3.5% by the end of 2023, little changed from current levels of around 3.85%. That seems unlikely to us; Either Team Transitory wins the day and yields fall, or increasing friction in global trade pushes consumer prices and bond yields higher.
Inflation, inflation everywhere
Post-pandemic consumer price increases have impacted all economies around the world and include goods and services. And there is still no end in sight.
Global inflation had slowed to almost 2% by early 2021. But gargantuan pandemic stimulus plans, combined with an energy shock after Russia’s invasion of Ukraine and the logistical nightmare of supply chain lockdowns, have pushed consumer prices up fivefold. While the pace of central bank rate hikes may slow in the coming months, the cleanup is far from over. It gets even more difficult as the International Monetary Fund estimates that a third of the world’s economies are either in recession or on the verge of a recession. Stagnation seems the most likely outcome, at least for the first half of this year.
I owe it, I owe it, so I go to work
Central bankers are kept awake at night by wage increases that are too high. In this way, inflation expectations are embedded in economic behavior. It’s devilishly hard to avoid a self-perpetuating spiral in which rising living costs lead to ever-increasing demands for pay increases.
Average hourly earnings can be comfortably a little above the Federal Reserve’s 2% inflation target in normal times. But the number has been above 5% for over a year. Until this crucial measure is back under control, the Fed cannot stop raising rates. With the US Federal Reserve virtually dictating how high global interest rates must rise, US jobs data, particularly wages, will be the key economic indicator for 2023.
The shipping news is improving
The cost of transporting goods around the world has almost returned to pre-pandemic levels, having fallen 80% since peaking in September 2021. This offers a welcome logistical recovery for supply chains and accompanying inflationary pressures.
Much of the retracement is due to delays in ports finally being reduced and transit times improving. However, the broader economic picture is also less favorable, with the Chinese economy reopening with a delay following lockdowns and risks of recession looming in many parts of the world. In the longer term, the growing trend towards de-globalisation, with more manufacturing moving to the West, could lead to a decline in trade with Asia.
The negative yield bond universe has dried up as the train of rate hikes gathered momentum. At its peak in early 2021, more than $18 trillion in debt was being offered at sub-zero interest rates. It’s a much more modest $1.1 trillion now, as the financial world returns to some normality as the Alice-through-the-looking-glass era of paying money for loans finally ends.
The main debtors with negative yields in recent years have been the core countries of the euro zone and Japan, with Switzerland playing a minor role. Negative interest rates across the eurozone are a thing of the past, even for shorter-dated debt, as the European Central Bank belatedly joined the rush to raise borrowing costs. German and French 10-year government bond yields are currently around 2.5% and 3%, respectively, a significant jump from around zero a year ago. Japan remains the outlier as it remains in control of the yield curve to prevent its 10-year yield from breaching the recently revised 0.5% ceiling. With the Bank of Japan interest rate still at minus 0.1%, only a handful of Japanese government bonds are yielding below zero.
That number — $96.6 trillion — is the current global stock market cap, down from its November 17, 2021 peak of $122.5 trillion. This year’s 20% drop is the worst since 2008’s 47% drop.
A Bloomberg News survey of 134 fund managers including BlackRock Inc., Goldman Sachs Asset Management and Amundi SA suggests investors expect global equities to recover by 10% this year. But 48% of respondents said stocks could be hit again by stubbornly high inflation, while 45% cited a deep recession as a concern. In summary: ¯_(ツ)_/¯
In August, a London-based tech startup called Stability AI made an imaging model available for general use. Here’s how it interpreted our request to depict a short-haired English blue cat playing the guitar (look at those shoulders and hands; creepy doesn’t really cover it):
A few weeks ago, ChatGPT, a text generation system from San Francisco-based OpenAI, took the internet by storm with its ability to write screenplays, poetry, limericks, and even computer code. Artificial intelligence and machine learning are likely to provide us with further paths into the uncanny valley in the coming months. Maybe someone will develop a bot that can forecast the economy better than central bank models.
Bitcoin’s corpse is still twitching
“Paradise for scammers or digital gold?” We wrote about the world of cryptocurrencies a year ago. Ponzi schemes or the future of money? The coming year will be decisive.” The collapse of digital exchange FTX, the arrest of Sam Bankman-Fried on fraud charges, and the consequent evaporation of billions of real dollars have clearly tipped the issue in the skeptic’s side, in our opinion. Bitcoin, first among equals for laser-eyed enthusiasts, is languishing below $17,000 after peaking at nearly $70,000 just over a year ago.
Blockchain technology, which underlies decentralized finance, remains a solution to a problem. The Australian Stock Exchange recently abandoned its multi-year effort to migrate to a distributed ledger platform, writing down around $170 million; ` Moller-Maersk A/S and International Business Machines Corp. have set up a shipping blockchain project called TradeLens aimed at tracking goods on ships. The bitcoin corpse is still twitching, but we are with Jamie Dimon of JPMorgan Chase & Co.: “Pet rocks” he described crypto tokens last month.
More from the Bloomberg Opinion:
• Cathie Wood may be right when Jay Powell is wrong: Robert Burgess
• The inverted yield curve has something for everyone: Conor Sen
• The Fed should not raise its inflation target: Bill Dudley
This column does not necessarily represent the opinion of the editors or of Bloomberg LP and its owners.
Marcus Ashworth is a Bloomberg Opinion columnist covering European markets. Previously, he was Chief Markets Strategist at Haitong Securities in London.
Mark Gilbert is a Bloomberg Opinion columnist covering wealth management. A former head of Bloomberg News’ London bureau, he is the author of Complicit: How Greed and Collusion Made the Credit Crisis Unstoppable.
For more stories like this, visit bloomberg.com/opinion
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