Do bond investors know something others don’t?
CNN, CNN BUSINESS
By Julia Horowitz, CNN Business
As Wall Street regains its footing following the invasion of Ukraine, stocks have been staging a steady comeback. But the market for US government bonds remains tumultuous, flashing a recession signal that’s historically caused investors to worry.
What’s happening: Yields on the two-year Treasury note, which move opposite prices, briefly rose above those on the benchmark 10-year note on Tuesday for the first time since September 2019.
That unusual inversion of the yield curve indicates that investors anticipate bigger risks to the economy in the near term that could prompt more dramatic action from policymakers like the Federal Reserve.
The big reason the move is generating so much attention is its fabled ability to predict the future. In 2018, the Federal Reserve Bank of San Francisco published research that found a yield curve inversion preceded every recession since 1955, producing a “false positive” just one time. (It looked specifically at the yield on 1-year Treasuries.)
Yet stocks are rising, and many experts think the US economy can stay solid. So do bond investors see something others are missing? Are those who point to the strong job market and healthy consumer demand failing to account for the effects of an energy price shock or looming interest rate hikes?
Not quite, according to Mislav Matejka, an equity strategist at JPMorgan. He emphasized to clients this week that the lag time between an inversion and a recession can “be very substantial, as long as [two] years” — and that stocks often perform very well during this interim period.
“From the point of curve inversion to the actual peak of the equity market, which takes place around a year later, [the] S&P 500 was higher by 15%, [versus] government bonds that tended to struggle in the meantime,” Matejka wrote in a research note.
Paul Donovan, chief economist of UBS Global Wealth Management, is also skeptical of the inversion’s importance. The market has changed significantly in recent years, as the Fed has bought up an unprecedented amount of government debt to stimulate the economy in the wake of the Great Recession and the pandemic, he pointed out. That’s pushed down yields on longer-dated bonds.
“Bond markets are rigged, let’s face it,” Donovan told me.
Research published by the Fed’s Board of Governors last week also warned against reading too much into a yield curve inversion.
“The perceived omniscience of the 2-10 spread that pervades market commentary is probably spurious,” the paper said.
Doubters note the recent past. It’s hard to claim the inversion in 2019 was a sign that investors foresaw the coronavirus pandemic in 2020, they argue.
That’s not to say a recession is off the table. Goldman Sachs has put the chance of a recession in the United States over the next year as high as 35%.
“I think it’s very fair to say recession risk has risen,” Donovan said. “There is increased risk of [a] policy error, from the Fed in particular.”
There’s a lot of political pressure in the United States to fight inflation, he added. That creates a climate in which the Fed is more likely to move aggressively.
What should investors take away from the yield curve inversion, then?
It may just be telling us what we already know: that Wall Street thinks the Fed will need to get tough in the coming months to get inflation under control, and that engineering this policy shift without hurting the economy poses a major challenge.
President Biden wants to limit stock buybacks
President Joe Biden delivered a strong message to corporate executives this week in his 2023 spending plan: Share the wealth.
His administration wants to discourage stock buybacks, my CNN Business colleague Nicole Goodkind reports. Critics say buybacks allow ultra-wealthy executives to manipulate share prices while funneling corporate profits into their own pockets instead of back into the economy.
Last year, companies in the S&P 500 repurchased a record $882 billion of their own shares. That number is on track to reach $1 trillion in 2022, according to Goldman Sachs.
The White House pitched new rules intended to curb stock buybacks as part of its $5.8 trillion budget plan.
The proposal would require execs to hold on to shares for a certain number of years, and would prohibit them from selling for a certain amount of time after a planned buyback. The Biden team did not get more specific.
Executives sell more stock in the eight days following a buyback announcement than at any other point, according to data from the US Securities and Exchange Commission.
Discouraging stock buybacks “would align executives’ interests with the long-term interests of shareholders, workers and the economy,” the proposal said.
Not everyone likes the idea, though. Critics claim that ending buybacks could hurt the smooth functioning of markets.
“Corporate buybacks are a growing part of market structure and a growing part of overall liquidity in the market,” said George Catrambone, head of Americas trading at asset management company DWS.
Moving ahead: Biden’s plan would need to be approved by both the House and Senate. That’s not a likely outcome.
Traders are sleeping by their desks in Shanghai
Government leaders have promised that Shanghai’s massive lockdown this week won’t throttle the city’s huge financial services industry.
One result? Banks and investment firms are calling on essential staff to live at the office to avoid any disruption to trading, my CNN Business colleague Michelle Toh reports.
Traders and fund managers have been offered between 500 and 2,000 yuan ($78 to $314) per night to camp out at work, with some companies placing folding beds under workers’ desks, a person familiar with the matter told CNN Business. Other firms have also provided staff with sleeping bags, food and toiletries.
Much of Pudong “is doing it,” the source added, referring to Shanghai’s financial district, which is home to more than 1,000 financial institutions and China’s leading stock exchange.
Zhong Ou Asset Management, a Chinese firm with $98 billion in assets under management, said that several of its investment directors and fund managers began staying overnight earlier this month to ensure operations continued as the outbreak “began to escalate” in Shanghai.
One executive, who is designated the “onsite chief,” has been “stationed in the office for more than half a month,” the company said in a post on Chinese social network WeChat.
Big picture: The extraordinary working circumstances are a reminder of how China’s effort to limit the spread of Covid within its borders is hampering the world’s second biggest economy. Economists have warned that restrictions will hurt spending and could pile pressure on already-strained supply chains.
Up next
The ADP private payrolls report arrives at 8:15 a.m. ET. It’s often seen as a preview of Friday’s official jobs report.
Also today: Tune in to CNN Business’ “Markets Now” digital show, now live at 12 p.m. ET. Bank of America’s Ethan Harris will explain why the Fed will go faster and further in raising interest rates than Wall Street expects. Plus, National Securities’ Art Hogan offers strategies for navigating your portfolio.
Coming tomorrow: Earnings from Walgreens and Blackberry.
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