Insight Investment

Don’t Panic

Fed Chair Jerome Powell exudes relaxed calm and ease, which feels like a mandatory quality for central bankers.

Yet, we would guess that if you told him back in 2022 that raising rates by 500bp would not only curb inflation, but the economy would not even miss a beat, the labor market would chug along, and many stock markets indices would hit new record highs, his signature restraint would probably vanish quickly. We could even see him exclaiming, in a remarkable impression of criminal mastermind Vizzini from the Princess Bride – “Inflation down, unemployment steady, AND we grew 2.5% last year!? INCONCEIVABLE!" 

Yet here we are. The labor market created almost 800,000 jobs in the past three months, the PCE price index (the Fed's preferred inflation measure) is at 2.4% year-over-year and to top it all off, the economy registered a 4.0% growth rate in the second half of 2023. Inconceivable indeed.

“Not where I want to be, but I’m on my way”

Source: Macrobond, March 2024

No sleep till 2% 

Two lines of thought have emerged regarding what‘s next. One view holds that the "last mile" to the Fed’s 2% target will be the hardest, with only a few low-hanging disinflation fruits left, and economic imbalances remaining. The other side of the argument: the last mile will not be a slog, thanks to ongoing normalization in consumer demand and labor markets, and more disinflation still in the pipeline.

The debate ebbs and flows with every new piece of macro data, but we find ourselves firmly in the second camp.

We think there is abundant corroborating evidence that inflation is on a sustainable downward trajectory, largely due to a confluence of encouraging trends: continuing labor market rebalancing, a softer housing market, anchoring inflation expectations, and the cumulative effect of past monetary policy action.

However, we are also not advocating for unfurling a tattered "Mission Accomplished" banner. The US Economy is still some distance from the promised land of 2% inflation, and uncertainty lurks underneath the dark macro waters. Everything from general elections later this year in the US to a specter haunting corporate boardrooms and public offices – a specter of AI-led disruption, and speaking of disruption...

…and now for something completely different

Fifteen men on a 40-foot container! 

It is widely considered that the golden age of piracy ended sometime around the early 18th century, with the end of the War of the Spanish Succession, the arrival of no-nonsense Governor Woods Rogers in the Bahamas and changing attitudes toward piracy.

However, crimes on high seas have again become a major feature of 2024 headlines, with the Middle East conflict spilling into international waters.

Houthi militants overlooking the Red Sea and resurgent Somali pirates off the Horn of Africa have launched attacks on unsuspecting container and dry bulk ships, re-routing hundreds of vessels around the Cape of Good Hope from the Suez Canal, adding up to two weeks to an Asia to Europe trip and sending shipping rates higher.

“Row, row, row your boat!”

Source: Bloomberg, March 2024 (change since November 2, 2023)

As if that wasn’t enough, a recent attack by Houthis on a Belize-flagged commercial cargo ship may have led to damage to undersea telecommunication cables, disrupting nearly 25% of data traffic between Europe and Asia, highlighting the vulnerability of not only traditional global trade routes, but also of more modern digital infrastructure.  

In addition, lack of rain in has limited traffic in the Panama Canal and US East Coast dockworkers are expected to strike in the coming months forcing imports from Europe to dock at West Coast ports, requiring more time at sea.

So far, the macro impact from these attacks has been modest, partially because the early months of the year are seasonally slow for global shipping. If, however, this tumult continues, it may complicate a bit the global outlook. The economy might be safely docking but watch for disruption at sea.

“I heard through the grapevine”

Our structured credit colleagues tell us that container firms are benefiting, and they have heard that container firms’ utilization rates are essentially full, pushing rental rates up and prompting new container ship orders. We believe this will inevitably mean more demand for containers as well and therefore anticipate a new capex cycle for container issuers and more container ABS issuance later this year to finance it.