Week of January 9, 2023
Dec Mullarkey, CFA , Managing Director, Investment Strategy and Asset Allocation
Headline inflation dropped to its lowest level in a year, confirming that it has likely peaked. Markets expected as much with the December update right in line with consensus. Headline inflation is down for a sixth consecutive month. This bolsters the case that the U.S. Federal Reserve will step down the size of its rate hikes at its next meeting and then pause in a few months.
The key inflation measure Fed Chair Jerome Powell and team are obsessing about is core services less housing costs. Wages are a big part of that. And while wage increases have slowed, they are still resilient.
The Fed and the market are still at odds over the trajectory of rates once the central bank pauses. The market expects cuts while the Fed insists it will be patient and seems adamant on holding its ground on that standoff.
The Fed can’t risk its credibility with an early pivot that could reignite inflation, while the market seems to be enthusiastically extrapolating a few data points into a trend.
Source: U.S. Bureau of Labor Statistics, Bloomberg, 2023.
Andrew Kleeman , Senior Managing Director, Head of Corporate Private Placements
Why do companies issue in the investment grade (IG) private credit market? A student intern asked me this question on their first day of work this week. I answered that there are many reasons companies issue in IG private credit, including confidentiality, flexibility to do small or large deals, speed to market, market stability, the ability of private credit to underwrite complex structures and long-term relationships with investors who understand an issuer’s business. A recent conversation with a large deal source about the early 2023 pipeline summed it up pretty well, with the deal source describing the IG private credit market as “the market of choice” for many issuers. The value add of the private credit market offers an attractive source of funds for issuers, and many opportunities for investors with a long-term horizon.
John Bichajian III, CFA , Senior Director, Derivatives & Quantitative Strategy
Fed policy has played an ever-increasing role in the performance of assets globally. Market participants can use derivative pricing to infer what the markets imply in terms of probabilities of future interest rate hikes and/or cuts. In the U.S., 30-day Fed Funds futures contracts are exchange traded, have particularly attractive liquidity characteristics at maturities of one year or less, and are valued based on market expectations of the average daily Fed Funds effective rate during that month.
The Fed Funds futures market is currently implying a peak rate of 4.9% in June, coupled with approximately 50 basis points (bps) of cuts in the back half of the year, leaving Fed Funds under 4.4% by December. The Fed members’ and presidents’ median year end projection of 5.1% paints a significantly less rosy picture. While this 70-bp gap will eventually be resolved in the coming months, risk asset performance will be impacted by whether the futures market or Fed participants are more prescient.
Source: Bloomberg, 2023.
Market insights are based on individual portfolio manager opinions and market observations. These are observations only and are not intended to provide specific financial, tax, investment, insurance, legal or accounting advice and should not be relied upon and does not?constitute a specific offer to buy and/or sell securities, insurance or investment services. Investors should consult with their professional advisors before acting upon any information posted here.
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