Financial and Economic News: January 24, 2024

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Wall Street Eyes White House Race

To kick things off, we’re talking about the U.S. Presidential election. Longtime FinWeekly fans will know that normally we like to avoid discussing politics here, but I think it’s worth discussing the upcoming race because of its possible market implications. Because with Donald Trump all but sealing the Republican nomination this week, we learned that Wall Street is closely monitoring his potential return to the White House, and anticipates significant market shifts depending on how things play out. Traders, drawing lessons from 2016, expect possible increases in bond yields and a stronger dollar. Trump's proposed policies could also impact crucial elements like interest rates, taxes, and regulations. Trade policies, especially new tariffs, could also impact the overall strength of the dollar. We also know that the stock market’s trajectory is closely tied to the Federal Reserve's handling of interest rates and economic guidance. With the current Biden administration, we know what measures are currently being taken in those areas. But the reality is we don’t yet know what to expect from a potential Trump administration. All of this further adds uncertainty to the race – and consequently, to financial markets. 

Brevan Howard’s Recession Warning

Next up, Jason Cummins, Brevan Howard's chief economist, predicts a 2024 recession, challenging the consensus of a smooth US economic landing. His concerns are largely due to a downturn in labor markets and risky FED policies, particularly when it comes to inflation. Now, if his predictions are correct, it could mean heightened unemployment for individuals and global market shifts. Cummins identifies three major changes—a post-2008 end to secular stagnation, shifts in China's growth model, and a reevaluation of liberal democracy. These shifts may impact the global economy, influencing inflation, trade, and geopolitics. Interestingly, Cummins also stressed about the potential increase in financial market deception, recalling the 2008 crisis when indicators contradicted the real economy. He emphasizes the potential for rapid changes in financial conditions and the risk of inflation tied to geopolitical conflicts. Cummins encourages vigilance, and suggests that prevailing economic optimism might be misplaced. Instead, he urges us to be mindful of the intricate interplay between monetary policy, geopolitical shifts, and their consequences on financial well-being.

Stock Market Gaining Momentum

Keeping these insights in mind, take this next story with a grain of salt. Because at the moment, stock markets are standing firm and rebounding from a record high amid strong economic data and positive expectations for 2024 Fed rate cuts. Despite concerns of an overextended market, the S&P 500's resurgence since 2022 has added a substantial $10 trillion in value. But where’s that money all coming from? Well, investors are shifting focus from anticipating aggressive Fed rate cuts to recognizing the economy's resilience, thus propelling the ongoing equity rally. Optimism surrounds the tech sector, particularly in semiconductors and software, thanks to advancements in AI. Options traders are also feeling positive about S&P 500 gains, with bullish sentiment prevailing despite potential overbought levels. So what does this mean for folks like us? For individual investors, any signs of a potential slowdown in stock gains this year are a reminder to evaluate our investment strategies. And if you’re wondering where to look for insights, the trajectory of the Fed's rate-cut decisions and the unfolding earnings season will play pivotal roles in shaping economic conditions and market trends moving forward. So stay informed, and you’ll be in a good position to navigate the market - no matter what unfolds!

Treasury Market Transformation

Meanwhile in the Treasury Markets, SEC Chair Gary Gensler is shaking things up with plans to move most Treasuries trading to a central clearinghouse by mid-2026. This progressive decision aims to fortify market resilience and mitigate systemic risks by minimizing counterparty credit risk. The downside? Higher risk-management costs for dealers and stricter SEC rules on clearinghouses, which could potentially impact day-to-day liquidity. For individuals, this restructuring may indirectly influence liquidity availability, particularly for those with investments in the Treasury market through various financial instruments and funds. In the bigger picture, this move will help strengthen the $26 trillion US Treasuries market, with positive ramifications for global financial markets. Hedge funds, though exempt from central clearing for cash trading, might experience shifts in repo market dynamics. The broader implications on market resilience and liquidity are expected to unfold gradually, influencing various market participants and institutions. Essentially, this regulatory transformation indicates a major step to reshape the dynamics of the Treasury market, and balance risk reduction.

Wall Street Buying Spicy Treasury Dip

And on the subject of Treasuries, Major Wall Street players, including Morgan Stanley and JPMorgan Chase, are encouraging investors to seize what they view as a “buying opportunity” and grab five-year US Treasury notes. This recommendation comes on the heels of the most significant selloff in these notes since May. Morgan Stanley believes this market dip is precisely the moment to make a move, anticipating data in the upcoming weeks to unveil downside surprises in US activity. JPMorgan echoes this expectation, suggesting that investors purchase five-year notes as yields have already climbed to levels last seen in December. And while it’s nice to believe that numbers don’t lie, big banks are urging caution, noting that markets are overly aggressive in pricing for early central bank interest-rate cuts. Because of this, they emphasize that these could be premature expectations. So as always, I encourage you to make informed decisions. Take opportunities when they present themselves, but be sure that you understand the risks and benefits of what you’re getting into.

Hedge Funds Score Big

We also learned this week that hedge funds, guided by influential managers like Chris Hohn and Ken Griffin, delivered surprisingly strong results in 2023, collectively raking in a whopping $218 billion in gains (after fees, that is). Chris Hohn's TCI Fund Management clinched the top spot in LCH Investments' rankings, securing $12.9 billion in gains. Citadel came in second place, with $8.1 billion. Interestingly, the top 20 hedge fund firms, representing less than a fifth of the industry's assets, played a pivotal role by contributing about a third of the total gains last year. While the industry's average return hovered at 6.4%, the top 20 firms exceeded those numbers with a huge 10.5% gain in 2023. It’s worth mentioning that over the past three years, these leading firms have contributed to 83% of all hedge fund profits. This really highlights how skilled they are at navigating challenging conditions, knowing what opportunities are available in the market, and capitalizing on favorable trends. However, there's a growing concern surrounding the dominance of major multi-strategy hedge funds like Citadel, Millennium Management, and D.E. Shaw. Together, these funds have amassed $71.2 billion in gains over the last three years, accounting for a substantial 38.3% of total hedge fund profits. Regulators, investors, and traders are now closely scrutinizing the sustainability and acceptability of the risks associated with these models, particularly when it comes to potentially overleveraged funds.

Investing Titans Flee Asia

Internationally, hedge fund founders in Asia are abandoning their solo ventures to join global giants like Citadel and Millennium Management.  In particular, Torq Capital Management's CIO, Avinash Abraham, is closing his firm to return to Citadel, while Ayan Sen, a macro manager, is ending his five-year stint running Navik Capital to rejoin Millennium. Their reasons? Smaller hedge funds face challenges in capital raising and talent recruitment, leading founders to opt for established global platforms. So the difficulty in this capital-raising environment, along with rising talent costs, are contributing to the trend. High interest rates are also driving up expected returns, favoring larger global firms over independent ventures. In real world terms, that explains why, in the first three quarters of 2023, twice the number of hedge funds in Asia shut down, compared to new ones opening. In their place, a shift towards large firms with diverse investment pods, capable of delivering consistent returns even in market downturns, has been evident. Since 2017, 55 pod shops have tripled their combined assets to $368 billion. However, investment “pod shops” are also known for high staff turnover, and the industry expects fewer single-manager shops in the future.

Hong Kong Stocks Slide

Staying in China, their stock market saw a notable downturn, with some shares reaching a substantial 36% drop. The Hang Seng Index's 2.4% decline, nearing levels unseen in almost two decades, paints a troubling picture of investor sentiment toward China. These feelings are fueled by a number of factors, including a persistent housing downturn, deflationary pressures, and uncertainties regarding US interest rates. The conservative approach taken by Chinese commercial lenders in maintaining lending rates has further contributed to the overall market downturn. In response to these challenges, overseas institutional funds are pulling their money out of Hong Kong to invest it in other promising Asian markets, while local investors face restrictions on selling. The ongoing slump positions Chinese stocks in Hong Kong as the poorest-performing major benchmark globally, presenting a stark contrast to the positive trajectory observed in the S&P 500. This concerning trend also raises major questions about the broader economic landscape, as one of the world’s major powers continues to lag behind…

China Doubts Grow Deeper

… Because unfortunately, the bad news for Chinese assets goes well beyond just stocks. Investors are now anticipating underperformance in the yuan and government bonds, given that the People's Bank of China (PBOC) has limited room for interest rate cuts amidst the country’s economic slowdown. Meanwhile, the offshore yuan has weakened over 1% this year, and continued foreign outflows are expected to exert more downward pressure on it. Despite calls for stimulus, the PBOC kept its one-year policy rate unchanged and emphasized their goal of achieving economic expansion without massive stimulus – further dampening hopes for any type of policy support. To make things even worse, China's current 2.5% benchmark 10-year yield faces competition from markets like India, Mexico, and Brazil, where yields are significantly higher. So understandably, investors are increasingly skeptical about China's economic prospects, and we’re quickly seeing that impact on its currency and bond markets.

Budgeting is #Trending on TikTok

And last but not least, I’m always trying to keep up with what’s cool with the kids, and this week I was surprised to see the latest social media trend was budgeting. Wait, what?  It's crazy, but it's true. Specifically, there’s been a growing trend of something called  "Loud Budgeting" on various online platforms, where kids are cheering each other on for sharing their financial goals, budgets and spending behavior. As you can imagine, finance professionals like myself can’t get behind this trend fast enough. Why’s it so important though? Well, while I’d never ordinarily encourage my own kids to spend extra time on their phones, this trend does resonate with a lot of the fundamental principles of responsible money management and financial planning that I always encourage businesses to use. And as a parent, I’m excited to see young people getting comfortable talking about topics that encourage things like financial literacy, the importance of prudent spending, and how to handle debt and savings. More broadly, this trend echoes a cultural shift towards financial responsibility, motivating young people to make informed financial decisions and increase their financial awareness. And while, of course, every individual-and every family-will have a slightly nuanced approach to teaching their kids about money, I will always advocate and encourage parents to use this movement as an opportunity to open the door to discussing these things with their teens. You don't have to teach them everything at once, but introducing them to concepts like setting budgets, savings goals, and responsible spending habits can encourage financial literacy from an early age, and contribute to a solid foundation for their future financial fitness. It's never too early!