Consumers roll back discretionary spending as downgrades to growth expectations look likely.
Global yields posted new highs over the past week, with central banks continuing to make hawkish comments with respect to the trajectory of monetary policy. With risk sentiment holding up relatively well, policymakers have continued to up the ante in the absence of a dramatic tightening of financial conditions. During the past week, Bullard floated the idea of a 75bp Federal Reserve (Fed) hike, with Powell later giving credence to the idea that two or more hikes of 50bp are on the table in what appears to be a front-loaded tightening cycle.
Meanwhile, in Europe, Governors Kazaks and de Guindos were among the first to flag a rate hike as likely as early as the July ECB meeting, while Lagarde seems to agree with sentiment in the US that the demand for labour is currently too strong.
Yet with real incomes being squeezed as prices move higher, it is interesting to keep a close eye on economic data that may suggest that the economy is starting to be impacted.
From this standpoint, the loss of 200,000 subscribers from Netflix over the past quarter can be viewed in the context of consumers rolling back discretionary spending as bills increase elsewhere. That said, perhaps it is not too surprising that consumers want to spend less on content as the pandemic ends and life normalises. It is also true that Netflix is seeing rising competition from other streaming platforms.
It will be interesting to observe whether the ‘Netflix chill’ will show up in other areas of consumption. In light of this, mortgage rates at 5.25% may also start to weigh more apparently on the housing market, and although it might be premature to call for a recession in 2023, it seems appropriate to continue to downgrade growth expectations for the year ahead.
As things stand, we would currently attach a probability of recession at around 30%. It strikes us that whether a contraction manifests relies predominantly on the path of inflation over the coming months. A continued overshoot in prices makes such an outcome more likely, with central banks needing to raise rates more aggressively. However, if the delta on monthly inflation numbers turns negative with price pressures normalising, then it is quite possible that central banks could soften their messaging and mitigate the extent of tightening later this year.
Looking at inflation, on the one hand, economic re-opening should see positive base effects, which have elevated prices, dropping out of the annual data. Supply constraints have eased versus last year and although China lockdowns can create ongoing disruption, bottlenecks have shown signs of diminishing.
On the other hand, labour markets remain very tight and show no sign of cooling. Wages may spiral higher as inflation expectations de-anchor. This could create powerful second-round inflation effects that policymakers won't be able to ignore.
Meanwhile, events in Ukraine are likely to sustain upward pressure on commodity prices, with food inflation compounding recent moves seen in energy.
At this point, it seems that risks are quite finely balanced and the backdrop is evolving rapidly. This is creating material uncertainty in assessing the investment landscape on a medium-term view.
For now, we continue to advocate a lower-risk approach to portfolio construction, awaiting more clarity in discerning market direction or looking for opportunities should short-term volatility create pricing opportunities.
On a relative-value basis, we continue to favour euro rates relative to the UK, on the thinking that the UK will see a much bigger inflation overshoot than the eurozone in April – even with the UK economy more exposed to a negative growth shock as a result of a squeeze on real incomes. In light of this, we retain a negative view on both Gilts and the pound.
Opinion polls appear to suggest that Le Pen is very unlikely to deliver a surprise victory versus Macron in Sunday's French elections. Clearly, were Le Pen to win we would see eurozone markets in turmoil, though with this risk largely discounted, we doubt there will be much of a positive reaction to a Macron win.
Meanwhile, a more hawkish ECB continues to represent a risk to the periphery. The days of asset purchases seem to be numbered, and although we have seen comments about a backstop mechanism to support spreads, we feel that we are still a long way from consensus on such an initiative. History in Europe suggests such policy progress only comes in the wake of a crisis and we doubt there is much incentive to support 10-year BTPs unless the spread to Bunds is well above 200bp.
Our relatively cautious macro outlook means that we maintain a broadly flat exposure in credit, with short CDS positions held against long exposures on a relative value basis.
In FX, we retain a long dollar bias and have added a short in China renminbi. Meanwhile, we have become constructive on Thai baht as tourism reopens and have added to the Israeli shekel given the strong underlying economic fundamentals.
More data will be needed in order to grasp a firmer hold on the future path of economic growth, inflation and monetary policy. From a macro perspective, there will often be times when it seems possible to project forward with a fairly high degree of confidence in what the economy is likely to do in the coming 12 months, but it strikes us that this is not one of those moments.
Indeed, there seems to be a sense of unpredictability at the moment – one that investors are not being compensated for at prevailing valuation levels.
From this standpoint, perhaps it makes sense to sit back, watch Netflix and chill out. As for the streaming platform itself, its equity price fall may just be a story of what happens when a stock goes ex-growth. That said, with the share price now 68% below last November’s highs, it could be said that investors have rather been left up Schitt’s Creek.