The mini-banking crisis in the United States and the Credit Suisse bailout certainly made room for the major impetus for monetary policy adjustments. Regulators are in no hurry to act, though, ensuring the timing is right. Markets, meanwhile, are already discounting the great U-turn.
In anticipation of the Fed cutting interest rates during the second half of 2023, all four major U.S. indexes (S&P 500, Nasdaq, Russell 2000, and the Dow Jones Industrial Average) turned green across the board. Precious metals also did not stand aside – resuming an uptrend.
For instance, in the spring gold reached $2,000 an ounce. Although it was followed by a correction, the growth since the beginning of the year has been 11%. Silver, on the other hand, surged over 8.3% over the same period.
So, is it a risk-on or a risk-off?
Most likely something in between. Following a series of bankruptcies in the banking sector, investors expect a notable shift in the Federal Reserve's rhetoric and actions, allowing for a soft landing. This, on the other hand, gives a further boost to risky assets. Optimism could vanish at the hint that inflation does not subside.
In this context, it is worth mentioning that even though U.S. consumer price increases eased from January to March, "victory" over the "monster" is too early to declare. The fact that the world's leading economy is losing momentum does not exactly inspire optimism either.
Judging by the drop in the headline general business activity index of the Federal Reserve Bank of Dallas' Texas Manufacturing to -23.4 in April from -15.7 in March, the country is on the verge of falling into stagflation. Let"s hope the Reagan days don't come back…
The worst-case scenario?
Unless regulators find a way to solve the root of the problem, everyone will be "punished". The business sector, in this regard, has already had to tighten its belt, starting (as always) with job cuts. It is estimated that since October 1, more than 500,000 jobs have been cut worldwide.
But the story doesn't end there. Most recently, the leader of the global entertainment industry, the Walt Disney Company, has also joined the cause. As part of the restructuring, its CEO, Bob Iger, announced that nearly 7,000 employees will be leaving the company in the coming months.
In the financial sector, hedge funds are not optimistic either. According to a Bank of America survey, almost 90% of fund managers fear a repeat of the history of the 1970s, when the oil crisis led to rising prices and the dreaded stagflation.
What is next?
The situation is contradictory, which is why one should not relax and be prepared for possible shocks. In this sense, some investors already opted to liquidate a large part of their positions, while others shifted their focus to European and Emerging Markets (EM) markets, or simply switched to defensive instruments.
As for the latter, gold (XAUUSD) and blue chips are worth bearing in mind. If the data suggests that inflation continues to move in the right direction or the Fed decides to "go positive", both assets could benefit. In the opposite case, they could serve as so-called "safe havens".
The best thing an investor can do in this kind of situation – is focusing on maximizing their diversification approach. If Michael Wilson of Morgan Stanley is right and the earnings forecasts look "too optimistic" to reflect the real situation, markets could have yet another reason to worry.