Trends We’re Tracking: U.S. Housing Market, Bond Markets, and the Bear Market
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Worsening situation in developing countries
The situation in Sri Lanka continues to deteriorate as the Prime Minister recently announced that their economy faces a complete collapse. Last month, Sri Lanka defaulted for the first time in its history and is seeking financial assistance from the International Monetary Fund (IMF). The country is running low on foreign reserves and is struggling to import needed foodstuffs and energy. Within the country, food inflation increased by 57.4 percent last month and there is a fuel shortage, as mile long lines of people wait for days to get gas.1 In addition to Sri Lanka, many African countries are experiencing difficulties as food insecurity increases. According to the United Nation’s Food & Agriculture Organization, 40 million people could go hungry across sub-Saharan Africa. Many of the countries rely on Russia and Ukraine for a sizable share of their wheat import, while other countries such as Kenya, Somalia, and Ethiopia are experiencing the worst drought in over four decades. Many worry that the heavy burden on these countries may lead to elevated protest and violence.2
The U.S. housing market is cooling
The U.S. housing market is showing signs of cooling. After several interest rate increases from the Federal Reserve, mortgage rates have climbed quickly and are now the highest level since 2008. Sellers are now having to drop the price of homes to make them more attractive. According to Redfin in recent months, 41 percent of sellers in Boise, ID dropped their listing prices. 2021 saw an estimated 18 percent increase in home prices, but Freddie Mac forecasts a modest 10 percent increase in 2022 and five percent in 2023.3
Inflation and central banks turn up heat on transatlantic bond markets
According to Eurostat, June marked another month of record eurozone price increases as the European Central Bank prepares to raise its short-term policy rate this month. In the broader economy, the rising natural gas and food prices threaten an economic contraction just as central bankers remove monetary support and liquidity from their economies. Consequently, bond markets continued their struggle. High yield debt posted strikingly poor results as option-adjusted spreads on both sides of the Atlantic widened due to outflows from the asset class and the expectation of rising defaults due to a deteriorating economic situation.4,5,6 For the month of June, the Bloomberg Pan-European High Yield Index fell 9.06 percent in U.S. dollar terms, while the Bloomberg U.S. High Yield Corporate Index fell 6.73 percent, with both indexes notching their worst monthly total returns since March 2020. It is impossible to say how long the rout will last, but one implication of the global junk bond selloff is that investors in the asset class are better compensated for the risks they assume. In the U.S., that compensation in the form of yield is nearly twice what it was at the beginning of 2022. In Europe, yields on risky debt are up 2.6x in 2022.7,8
Accessing the current bear market – cyclical or structural?
Based mostly on duration and damage, Goldman Sachs Research issued a report dividing stock bear markets into three groups – event-driven, cyclical, and structural. Triggered by some exogenous events like war or pandemic, event-driven bear markets are the shortest in duration among the three and thus cause the least damage. For example, the COVID bear market is a quintessential event-driven bear market, which lasted just a month from February 2020 to March 2020. The peak to trough loss of the S&P 500 Index was a relatively mild 34 percent. On the other end of the spectrum, the GFC (Great Financial Crisis) bear market is a textbook structural bear market, caused by the structural deficiency of excessive speculation and inadequate capital in the banking system then. That bear market lasted 17 months and its peak to trough loss was a whopping 57 percent, wiping out all the gains of the previous bull market. Cyclical bear markets fall somewhere in between these two and are driven by normal business cycles.9
How does this current bear market measure up? Starting from early January, it has lasted a little over six months so far with the peak to trough loss currently at 23 percent. Goldman Sachs Research currently categorizes it as the cyclical bear market. However, as the current bear market is still unfolding, you can only draw a definitive conclusion afterwards when the bear market is all over.
Click to read our assessment of the current bear market.
1. Philip Wen, Sri Lanka’s Prime Minister Says Economy Faces ‘Complete Collapse’,” The Wall Street Journal, June 22, 2022, https://www.wsj.com/articles/sri-lankas-prime-minister-says-economy-faces-complete-collapse-11655899756
2. Andres Schipani and Emiko Terazono, “’People are hungary’: food crisis starts to bite across Africa,” Financial Times, June 23, 2022, https://www.ft.com/content/c3336e46-b852-4f10-9716-e0f9645767c4
3. Enda Curran, “The World’s Bubbliest Housing Markets Are Flashing Warning Signs,” Bloomberg, June 21, 2022, https://www.bloomberg.com/news/features/2022-06-21/cooling-real-estate-markets-in-us-uk-risk-deeper-global-economic-slump
4. Andrew Langley, “Euro-Zone Inflation Hits Record, Boosting Case for Big Hikes,” Bloomberg, July 1, 2022, https://www.bloomberg.com/news/articles/2022-07-01/euro-zone-inflation-hits-record-boosting-calls-for-big-hikes
5. Elena Mazneva, “European Gas Extends Scorching Rally With Supply Fears Mounting,” Bloomberg, July 7, 2022, https://www.bloomberg.com/news/articles/2022-07-07/european-gas-extends-rally-as-supply-crunch-haunts-market
6. Abhinav Ramnarayan, “Europe Is Now in Its Worst Corporate-Bond Selloff in Decades,” Bloomberg, June 24, 2022, https://www.bloomberg.com/news/articles/2022-06-24/europe-is-now-in-its-worst-corporate-bond-selloff-in-decades?srnd=fixed-income
7. “ICE BofA Euro High Yield Index Effective Yield,” FRED Economic Data, https://fred.stlouisfed.org/series/BAMLHE00EHYIEY
8. “ICE BofA US High Yield Index Effective Yield,” FRED Economic Data, https://fred.stlouisfed.org/series/BAMLH0A0HYM2EY
9. “Global Macroscope: A Bear Market Transition to the Post Modern Cycle,” Goldman Sachs Portfolio Strategy Research, June 21, 2022
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