The Daily Spark

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  • Fed Estimates of Long-Term Interest Rates

    Torsten Sløk

    Apollo Chief Economist

    The Fed’s estimate of where interest rates will be in the long run has started to move higher, likely driven by the muted response of the economy so far to Fed hikes and by structural changes in deglobalization, energy transition, and defense spending.

    Source: FOMC, St. Louis Fed, Apollo Chief Economist

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  • Homebuilders Building Smaller Homes

    Torsten Sløk

    Apollo Chief Economist

    The median size of new single-family homes peaked at 2,473 square feet in 2016.

    Today, the size of new homes being built is 2,237 square feet, see chart below.

    US homes are getting smaller
    Source: Census Bureau, Haver Analytics, Apollo Chief Economist

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  • Strong Labor Market Continues

    Torsten Sløk

    Apollo Chief Economist

    After the Fed started raising rates in March 2022, the labor market started softening, with households saying that it was harder to find a job. This changed after the Fed pivot, see the first chart below.

    Since December 2023, households have said that it is easier to find a job, reflecting a rebound in corporate confidence, see the second chart.

    The bottom line is that the improvement we have seen in the labor market in January and February is real. Combined with low jobless claims, nonfarm payrolls are likely to surprise to the upside again in March.

    The labor market has rebounded since the Fed turned dovish
    Source: Conference Board, Haver Analytics, Apollo Chief Economist
    Business confidence is rebounding
    Source: National Association for Business Economics, Haver Analytics, Apollo Chief Economist

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  • Cocoa prices have tripled over the past six months, driven by extreme weather in West Africa, crop disease, and associated panic buying, see chart below.

    Supply shortages and panic buying pushing up cocoa prices
    Source: Bloomberg, Apollo Chief Economist

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  • More Bankruptcy Reorganizations

    Torsten Sløk

    Apollo Chief Economist

    Normally, when a firm goes bankrupt, you imagine a liquidation where all employees are fired and all assets are sold. But this is not what is happening at the moment. A record-high 70% of US bankruptcy filings this year have been reorganizations, see chart below.

    High stock prices and tight credit spreads help companies reorganize instead of liquidating. Combined with the wealth effect of easy financial conditions on consumers, it is harder for the Fed to get inflation under control when financial conditions continue to ease. Put differently, easy financial conditions dampen the traditional transmission mechanism of monetary policy.

    US bankruptcies: Fewer liquidations and more reorganizations
    Source: S&P Capital IQ, Apollo Chief Economist. Note: Data till March 14, 2024. Bankruptcy figures include public companies or private companies with public debt with a minimum of $2 million in assets or liabilities at the time of filing, in addition to private companies with at least $10 million in assets or liabilities. Chapter 11 liquidation and Chapter 7 bankruptcy filings are categorized as liquidation and other Chapter 11 bankruptcy filings as reorganization.

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  • Outlook for Banks

    Torsten Sløk

    Apollo Chief Economist

    Since the beginning of the year, the banking sector has been underperforming the S&P 500, and the regional banks have been underperforming the broader banking sector, driven by deteriorating earnings expectations for regional banks, see charts below. Our latest banking sector chart book is available here.

    Regional bank stocks underperforming
    Source: Bloomberg, Apollo Chief Economist
    Earnings expectations falling for regional banks
    Source: Bloomberg, Apollo Chief Economist

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  • The S&P 500 is up 25% since the November FOMC meeting. That is a $10.9 trillion increase in the market cap of the S&P 500 in five months.

    Similarly, with lower rates and tighter credit spreads, the market cap of the US bond market is up $2.6 trillion. That’s a total increase in wealth since the Fed pivot of $13.5 trillion. For comparison, US consumer spending in 2023 was $19 trillion.

    Combined with higher home prices and higher bitcoin prices, the bottom line is that the wealth gain experienced for US households since the Fed pivot is at least 70% of consumer spending, and this is going to be a strong tailwind for private consumption over the coming quarters.

    Wealth has increased $13.5 trillion since the November FOMC meeting
    Source: Bloomberg, Apollo Chief Economist. Note: Indices used are WCAUUS Index and LC07TRUU Index.

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  • HY Default Rates and Financial Conditions

    Torsten Sløk

    Apollo Chief Economist

    Higher costs of capital have pushed up default rates in high yield corporate credit since the Fed started raising rates in March 2022.

    But since the Fed turned dovish five months ago, credit spreads have tightened and stock prices have rallied, which has reopened capital markets with more M&A activity and IPO activity.

    As a result, the high yield default rate is now beginning to flatten out, see chart below.

    In short, the negative effect of Fed hikes is being offset by the Fed pivot and the associated easing in financial conditions.

    HY default rates: The negative effect of Fed hikes being offset by easier financial conditions
    Source: FRB, Moody’s Analytics, Haver Analytics, Apollo Chief Economist

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  • Strong Tailwind to Stocks and Credit

    Torsten Sløk

    Apollo Chief Economist

    One way to measure liquidity is to add bank reserves and money market assets, see chart below which shows that there is record-high liquidity to push stock prices higher and credit spreads tighter. In particular, once the Fed starts lowering interest rates, some of the $6 trillion in money market funds is likely to find its way into stocks and credit.

    Record-high liquidity to support equity and credit markets
    Source: ICI, FRB, Haver Analytics, Apollo Chief Economist

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  • The best guide to whether monetary policy is restrictive is not r-star but the incoming data. The incoming data shows that after the Fed turned dovish and the stock market rallied, we have in January and February seen strong employment growth, low jobless claims, and upward pressure on CPI and PPI inflation.

    Maybe the lagged effects of Fed hikes work after 12 to 18 months through income in the consumption function. However, the effects of easy financial conditions on consumer spending are immediate. Given that financial conditions have eased significantly over the past five months, with record-high stock prices, tight credit spreads, and rising home prices, it is not surprising that the incoming economic data is strong.

    The bottom line is that the last mile is harder because of the immediate positive impact on the economy of record-high stock prices. In contrast, the long and variable lags work mainly through a rising unemployment rate.

    In short, the long and variable lags of monetary policy have been overwhelmed by the 25% increase in the S&P 500 since November.

    Fed model estimate of r-star
    Source: FRBNY, Haver Analytics, Apollo Chief Economist

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