Week of June 19, 2023
Dec Mullarkey, CFA, Managing Director, Investment Strategy and Asset Allocation
Investors understandably worry about liquidity. After all, who doesn’t prefer to be able to sell any security, for a fair price, as quickly as they need to?
One concern, now that the U.S. debt ceiling debate is behind us, is that the U.S. Department of the Treasury needs to rebuild its Treasury General Account (TGA). Effectively this is the department’s checking account, which had been run down close to zero before the debt ceiling agreement was inked. When Treasury Secretary Janet Yellen warned Congress that it was days away from running out of money, this was the account she was tracking.
Now Yellen’s team needs to rebuild the TGA balance to a normal level by raising cash through issuing Treasury bills. And some market watchers are concerned that the demand for these extra bills may quickly pull investors away from other asset classes and create liquidity disruptions.
History suggests this concern may be overstated. For perspective, the four largest TGA rebuilds over the last 20 years had little effect on markets. Most times, buyers were shifting from another cash-like instrument, leaving short-term liquidity unchanged. And because Treasury bills are of short maturity, there are minimal yield impacts further out the yield curve. Also, the U.S. Federal Reserve, after the bank failures of March, is well aware it needs to monitor financial institutions and assure any distortion in deposit flows doesn’t become a systematic threat.
Source: Bloomberg, Financial Times, 2023.
Linda Kong Ting, Senior Director and Credit Analyst, Asset Management
This week, we watched U.S. corporate investment grade spreads move back to levels that are on par with the tights of June 2022. It’s been quite a ride given that, in addition to the Fed’s unprecedented rate hiking cycle, markets have experienced risk-off fits like the U.K. liability driven investment crisis and the U.S. regional banking crisis, and yet have come out relatively unscathed.
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Low-rate era maxims like “buy the dip!” seem as prescient as ever, even as it applies to an ever-narrower group of artificial-intelligence proxy stocks. However, several of the few corporate defaults we have observed in 2023 were notably repeat distress situations – “zombie companies” that returned to the market again and again, thanks to low interest rates, despite structurally untenable business models.
While it’s not really a surprise that companies like Bed Bath & Beyond eventually succumbed, it begs the question of whether consumers may soon face the same fate. On the one hand, large swathes of the economy have benefited from consumers previously locking in rock-bottom 30-year mortgage rates. However, the Fed’s desired slowdown in the labor market is gradually coming to fruition as online job openings are more often mere mirages and student loan repayments are due to restart in the fall, which should impact discretionary spending. Will the structural tailwind of locked-in mortgages for the few be enough to sustain consumer spending without robust support from other consumers who may be burdened by both student loans and rents that have increased above pre-pandemic levels? We’re about to find out.
Source: Bloomberg, Wall Street Journal, 2023.
Market insights are based on individual portfolio manager opinions and market observations. These are observations only and are not intended to provide specific financial, tax, investment, insurance, legal or accounting advice and should not be relied upon and does not constitute a specific offer to buy and/or sell securities, insurance or investment services. Investors should consult with their professional advisors before acting upon any information posted here.
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