Opportunities Across the Risk Spectrum
The hope at the beginning of the year was that a combination of interest rate hikes and natural resolution of pandemic-related imbalances would conspire to cool down consumer spending, labor markets and price increases. Even though there are some signs of progress, it hasn’t been convincing to central banks.
During most hiking cycles, weak links emerge. We are now starting to see more and more of them piling up. The U.S. housing market has been under pressure all year. Higher mortgage rates are meant to slow down activity, and they are working. Capital market activity is non-existent. The only worse year for IPOs in the last 25 was 2008. Fixed income and currency volatility are quickly becoming untenable. The global economy is under increasing pressure from the U.S. dollar, which is supported by higher interest rates and the relatively decent growth prospects in the United States. U.S. Treasury market volatility and illiquidity have only been worse during the height of the Covid crisis over the last decade.
Investment implications
Luxury of choice. During the last cycle, investors had no alternative to large-cap stocks. Investors are now able to generate compelling potential returns across the risk spectrum and capital structure.
Bonds. You can lend money to the U.S. government for three months and yield more than 3% for the first time since 2007. If you do think the Fed will have to cut rates eventually, you can lock in a close to 4% yield for the next five years. U.S. taxpayers can do even better lending money to states and municipalities. Two questions to ask are: Are you willing to hold bonds to maturity; and will the issuer pay you back? If the answer is yes to both, then you don’t have to worry as much about interest rate volatility and the potential mark-to-market impact.
Structured equity and credit. Investors can also fill the financing gap caused by closed capital markets. Companies still need access to debt and equity financing, and those with capital can potentially charge a higher premium to provide it.
‘The global economy is
under increasing pressure from the U.S. dollar.’
Mid-cap equities. Mid-cap equities are trading at a 30% discount to longer-term averages, and we feel this is proper compensation for the risk that earnings fall. We would suggest adding to a space that has a good chance of representing the leadership of the next cycle.
Rick Barragan is the Managing Director, Los Angeles Market Manager, for J.P. Morgan Private Bank.
[email protected] | (310) 860-3658
privatebank.jpmorgan.com/los-angeles
