A Leap of Faith

The economy is in a precarious equilibrium transitioning to lower growth, lower inflation, and lower rates...maybe

Look, the economy is in an “unstable equilibrium”, as per Torsten Slok, chief economist at Apollo Global Management, an alternative asset manager. Growth is having a tailwind thanks to ongoing consumption, and strong companies’ earnings. On the other hand, inflation has not decreased enough to justify cutting rates.

Growth is forecast to bottom out somewhere between 4Q24 and 1H25, according to Apollo. Mind you that the probability of recession has come down from 60% in Nov23 to 30% in Jun24, as per Bloomberg ECFC <go>. On the surface it looks like a soft landing to me, and an even smoother take off.

The tailwind is strong. Since the Fed announced that rates may have peaked in their Nov23 elocution, financial conditions have started to improve, which usually coincide with a rebound in growth. Judging by the usual relationship between the two, there seems to be more growth coming.

Now, the Fed pivot already triggered a “pivot party”, which gave a higher degree of certainty on the cost of capital thus getting back investors into risk mode. Activity in M&A, private equity, venture, IPO have sprung back to life since then. It was even more apparent in capital markets, where wealth has increase by an eye-watering $16 trillion in the 8 months from Nov23 to Jun24.

Such wealth effect had a certain impact on consumption, certainly for the wealthier. By the way, according to Apollo, the wealthiest consumers are driving ~40% of consumer spending.

Now, it is not that simple. Younger and poorer consumers are more impacted by higher rates and slumping growth, and stack up higher delinquency rates. Likewise for companies, for which a new default cycle has already started since 2022, and stand close to 15-year high, if we set apart the short-and-intense covid period.

The CPI print for Jun24, released this week, pointed to slower inflation at 3% (vs 3.1% expected and 3.3% prior). Sticky inflation could well be a sticky feature and not a bug of the next cycle, as re-shoring, ageing population, and elevated wages make stuff more expensive.

On the other hand, the US Government has shouldered a lot of the infrastructure transition through the Chip Act, the Inflation Reduction Act, and higher defense spending, which are leading to elevated levels of debt issuance and the need to maintain rates higher to find willing buyers. In a sign of the Fed’s expected cut in rates, and/or lack of appetite from buyers, the issuance of US treasuries have been thicker for maturities from 2y to 5y, and are even meant to grow by ~40% in 2024.

In such scenario of unstable balance, what should investors do ?

First, they should be content with the 17% total return on the S&P500 YTD24, and immediately recognize that if their “large cap growth” play had paid up, it leaves them at an appreciated yet uncomfortable lofty valuation for the top 10 stocks.

If GDP growth forecast is to be trusted, I don’t foresee a crash from these levels, but probably a warranted correction at the top. As I write this and look up at the screen, Nvidia is tanking by ~5% intraday…Probably nothing, as they say, but I’d better send this note rather quickly. Also, I’d benefit from a favorable valuation gap on more defensive sectors, such as healthcare & utilities, and cherry pick some names in industrials and real estate.

On fixed income, sorry to sound like a broken record, this is all about quality in short duration, where yields are historically attractive, spreads not so much. Overall, I warm up to lending, as higher liquidity combined with a reality-check on business models, have led to an increasing number of deals struck at better terms and structural protections for investors. If you push me, I’d be even willing to consider the new vintage credit funds, which arbitrage the opportunities left by deleveraging banks, and distressed sellers.

The leap of faith appears doable on the back of a benign growth forecast, and you don’t have to over-extend yourself too much into any direction to generate a descent return. Avoiding the edges is probably a wise piece of advice.

Stay safe out there !

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360 Advisory LLC is a Boston-based RIA managing investments

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Sources -

2024 Unstable Economic Equilibrium, Torsten Slok - Apollo Academy

Can valuations make it higher - Sofi

Bond market update Jul24 - Schwab