What Did We Learn This Week? (04/11/2023) - Foreboding Credit Data

Hedge Funds are more net-short of equities than at any time in the last ten years.  Unfortunately, that tells you absolutely nothing about the near-term direction of stocks. On average, hedge funds have been fighting the tape and underperforming all year. Sure, these portfolio managers are certainly smart and well trained, but they don’t always get it right and when they are all clustered with a singular view, often the smart bet is to go the other way. I happen to agree with the negative bets, but being part of a deeply consensus bearish trade that isn’t working is a deeply uncomfortable feeling.  

The reason so many of the hedge funds are playing for a bearish move is because the credit data has rapidly become consistently foreboding. Credit is contracting at a historic pace. Fewer loans and loans resetting at much higher rates beget the credit cycle and, in-turn, the recession. Substack and FinTwit are abuzz with “FUD”, Fear. Uncertainty. and Doubt.

On Monday, Apollo’s Chief Economist Torsten Slok wrote this cryptic comment regarding the Fed’s most recent H.8 data (a weekly bank survey conducted post Silicon Valley and Signature’s collapse) which was released over the weekend, “The largest 2-week cutback in bank lending in US history - The largest 2-week cutback in bank lending to corporates in US history - Largest decline in lending to real estate on record - Largest decline in lending to multifamily construction on record.”

Credit was already tightening ahead of the regional bank crisis, but it has accelerated sharply since then. We won’t see another Senior Loan Officer Survey until May 8th, but we have seen other data that confirms the sharp tightening that showed up in the H.8 survey. The National Federation of Independent Businesses just reported that companies are having a harder time accessing credit and experiencing some “sticker shock” at available rates. The Dallas Fed surveyed businesses in that region who reported a sharp contraction in credit availability from both Commercial Real Estate as well as for Commercial & Industrial.

In case you are wondering if the economy can fight through a credit crunch, I would point you to the chart below from Ian Harnett from Absolute Strategy Research:

The chart clearly shows the very high correlation to tightening credit conditions and employment. As the cost of capital rises and its attainability dwindles, companies struggle to grow and margins come under pressure. As night follows day, tougher credit conditions mean fewer jobs.

As the chart below from the NY Fed illustrates, the lending standards issue is not contained to businesses but also to the consumer.

As of this writing, Fed Funds futures are pricing in one more hike to come in May followed by a series of cuts in the second half of the year. The Fed will see quite a bit of data between now and May 3rd when the next FOMC is scheduled that might just change their mind.

The question then becomes: Is bad economic data good for the stock market because it means the Fed is finally closer to the long awaited pivot? I don’t know the answer of course, but I doubt it. We have a credit cycle to go through and I would be shocked if equity market bottom was put in well before the credit cycle begins. The Fed is loathe to cut too early especially as wage growth is still running north of 6%. If we see the Fed cutting rates in 2023, it will only be because the economy is contracting rapidly.

Tim Pierotti is WealthVest’s Chief Investment Officer. 

Tim has over 25 years of experience in various aspects of the equities business. Prior to joining WealthVest, Mr. Pierotti spent seven years in Equity Research management roles at Deutsche Bank and most recently at BMO where he was a Managing Director and Head of US Product Management. Tim has 11 years of investment experience most notably as Head of Consumer Research and Portfolio Manager at The Galleon Group, a former NY based $8Bln Long/Short hedge fund. Tim is a graduate of Boston College and lives in Summit NJ.

WealthVest makes no representation or warranty, expressed or implied, with respect to the accuracy, reasonableness, or completeness of any of the statements made in this material, including, but not limited to, statements obtained from third parties. Opinions, estimates and projections constitute the current judgment of Tim as of the date indicated. They do not necessarily reflect the views and opinions of WealthVest and are subject to change at any time without notice. WealthVest does not have any responsibility to update this material to account for such changes. There can be no assurance that any trends discussed during this material will continue.

Statements made in this material are not intended to provide, and should not be relied upon for, accounting, legal or tax advice and do not constitute an investment recommendation or investment advice. Investors should make an independent investigation of the information discussed in this material, including consulting their tax, legal, accounting or other advisors about such information. WealthVest does not act for you and is not responsible for providing you with the protections afforded to its clients. This material does not constitute an offer to sell, or the solicitation of an offer to buy, any security, product or service, including interest in any investment product or fund or account managed or advised by WealthVest.

Certain statements made in this material may be “forward-looking” in nature. Due to various risks and uncertainties, actual events or results may differ materially from those reflected or contemplated in such forward-looking information. As such, undue reliance should not be placed on such statements. Forward-looking statements may be identified by the use of terminology including, but not limited to, “may”, “will”, “should”, “expect”, “anticipate”, “target”, “project”, “estimate”, “intend”, “continue” or “believe” or the negatives thereof or other variations thereon or comparable terminology.

The S&P 500® is a trademark of Standard & Poor’s Financial Services, LLC and its affiliates and for certain fixed index annuity contracts is licensed for use by the insurance company producer, and the related products are not sponsored, endorsed, sold or promoted by S&P Dow Jones Indices LLC or their affiliates, none of which make any representation regarding the advisability of purchasing such a product. WealthVest is not affiliated with, nor does it have a direct business relationship with Standard & Poors Financial Services, LLC.