Will the U.S. economy achieve a soft landing, or is a recession on the horizon? Is the labor market still rock solid or are the cracks starting to show? Julian Brigden, co-founder of Macro Intelligence 2 Partners, has been scouring the global economic landscape for decades trying to answer those questions and more! He joins the ETF Think Tank to offer his thoughts on the current lay of the land, including the Fed, inflation, and emerging opportunities for investors.
Brigden explains that his firm uses a very simple approach. It starts with a top down view of the economy and then looks at where the markets are currently priced in. If he feels that his views aren’t being factored in, he suggests trades. The overall macro view to start things off helps to create a directional bias and then he looks for opportunities based on that. If he feels that the risk/reward is asymmetric, then he’s likely to establish a position.
Currently, Brigden feels there’s a big market disconnect regarding Fed rate cuts. Right now, nobody is betting that rates will stay the same, let alone move higher. He agrees that central banks are probably going to cut in 2024, but he doesn’t know if there’s a justification for it. The Fed should be looking for opportunistic disinflation and easings should be fine tuning. The markets, however, think the Fed is just supposed to be their benevolent friend. The idea of contemplating rate cuts while services & core inflation is running at 4% is absurd. Nominal GDP is projected to be 6% this quarter. If you have real wage growth at 5-6%, how is that not going to be inflationary? He feels like we could be in a Goldilocks scenario for a little while before inflation potentially explodes again.
Brigden believes that the market is misunderstanding the real situation – how do you reconcile your view of the world with the fact that the market is misinterpreting things? Investors should be looking for where the risk/reward trades are. If you think there’s a recession, you probably just dump equities since those are likely to be the most mispriced. He notes that the Fed Funds rate typically goes to 100 bps above nominal GDP at its peak. That would put us at 7%+ and it’s pretty clear that the Fed isn’t pursuing that path. Investors have gotten so used to rates going up and down that they miss out on the traditional relationship between these two factors.
The fixed income market is likely to get hurt the most when the market realizes they won’t get the rate cuts they’re expecting. We didn’t get the slowdown we expected, so bond prices took a hit. If investors are pricing in a half dozen cuts in 2024 and they only end up getting a couple, yields need to move higher in to reflect that. Brigden said that his macro signals indicated that they should sell bonds at 4% and it ended up being one of the best trades of the year.
Brigden also sees international investing as a potentially interesting opportunity. With the U.S. as the global reserve provider, running significant deficits, he notes that international investors are buying U.S. equities. Corporations were buying back their own shares and foreign investors decided they needed to get in on it too, which turned into a self-reinforcing mechanism. If we end up going into a recession, the money goes home and that helps other investments outperform. Brigden suggests that if you invest in U.S. equities over the next 10 years, it could mean you’ll miss substantial opportunities elsewhere.
Other key takeaways:
- We have this misinterpretation that the markets drive the economy, not the other way around. You can’t lower nominal GDP without impacting the labor market. Stocks are already rising, so where is this weakness in the labor market going to come from?
- A lot of people still aren’t particularly enticed by 5% Treasury bill yields because they’ve gotten used to 15-20% equity returns.
- Brigden isn’t focusing on credit quality as a catalyst right now because the economy is still in good shape. Credit spreads narrowed because growth didn’t slow down. You only get worried when unemployment goes higher.
- Do you diversify aggressively? You have to start looking for opportunities, but you need to see the dollar break down. That’s the ultimate arbitrator.
- Japan looks like it’s starting to break out. Brigden thinks the earthquake and politics have dampened the outlook in the near-term, but he’s watching levels to get back in. He says we’re not quite there yet.
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