Chart Room was there to capture the best (and worst) of what 2023 had to offer. Our favourite charts of the past 12 months show the limited reach of tightening monetary policy, China’s underwhelming recovery, and the reflation of the Japanese economy.
Hold me tight
Where else to begin our look back at the year than with the Fidelity Labour Market Tightness Indicator (FLMTI)? The FLMTI had been running on red since the end of the pandemic, as this chart from March showed. Labour markets came into 2023 tight, and seemed set to stay that way.
It became increasingly clear as the year went on that central bank rate hikes were struggling to feed through to the real economy, encouraging policymakers to plough on with rate rises.
Yet by March, the collapses of Silicon Valley Bank (SVB) and Credit Suisse suggested serious fragilities lurked beneath the surface. “In a sense, SVB’s demise is evidence that the US Federal Reserve’s year-long campaign of raising interest rates is indeed starting to produce the desired tightening of financial conditions.
Bank failures are an unintended by-product of this tightening,” said global macro strategist Max Stainton. “But in another sense, the rate hikes still haven’t hit the mark, as seen in the latest inflation and jobs market data.” How to take the heat out of labour markets while keeping growth intact was the macroeconomic dilemma of 2023.
High hopes
Investors in China began the year with high hopes. Severe lockdowns had resulted in large consumer savings pots and pent-up demand, which fuelled a boom in spending when restrictions were lifted late in 2022. But structural frailties undermined the Chinese rebound from the start.
This chart from April shows one: China’s youth unemployment rate was approaching a record high (a record it would surpass two months later).
Asia economist Peiqian Liu recognised the damage this could inflict: “The rising pressure on the labour market may continue to weigh on China’s consumption-led economic recovery.
Young people who aren’t able to find jobs will curtail spending; so will their parents, who may feel the need to hoard cash to support their kids.” Youth unemployment would continue to rise while the country’s rebound steadily lost steam.
Big in Japan
No such trouble in Japan. This chart from May captured an early sign that the country was finally exiting the quagmire of flat costs and low growth that reaches back two decades.
One driver behind Japan’s ‘lowflation’ problem had been a lack of faith in the economy’s potential for growth. This chart suggested a shift in consumer mentality. Seasonally adjusted retail sales in Japan had surged to a new record, following the removal of the country’s final Covid measures.
Price inflation caught on over the following months. Achieving these ‘healthy’ levels of inflation helped make Japanese equities one of the outstanding markets of 2023.
Under pressure
While fortunes diverged between China and Japan, tightening policy remained the primary concern in Europe and the US. By June, some companies were beginning to feel the strain.
This chart showed how rising rates were dragging down interest coverage ratios for leveraged European companies, with almost all sectors affected.
But this fell far short of a liquidity crisis. Broadly speaking, businesses were well-equipped to deal with the increased pressure on their balance sheets through the year.
“Companies still have a huge amount of flexibility around their cashflows and have barely drawn down their revolving credit facilities”, explained Craig Topp, a director in Fidelity’s private credit research team.
“There’s no looming maturity wall, and most companies will not be under pressure to refinance in this higher rate environment in the immediate future.”
I will survive
Rising rates changed the complexion of asset markets too. This chart from June showed how the income available on European high yield (EHY) bonds turned upward this year after a decade in the doldrums.
Higher yields, of course, did also imply higher risk. But over two-thirds of the EHY universe is made up of solid BB-rated issuers, most of which are able to swallow an increase on coupons. This was the year we could declare: “bonds are back”.
Stuck in the middle with you
Economic rumbles that never blew up into full-blown crises seemed to characterise 2023. The turbulence in the financial sector was contained; rising interest burdens put pressure on companies without causing widescale defaults.
All the while the US labour market stayed abnormally tight, and underlying inflation levels remained sticky. It was clear that monetary policy was not filtering through to the real economy as fast as expected.
The below chart from August showed one facet of that conundrum. Through 2023, net interest payments as a percentage of total debt for US corporate borrowers fell to near all-time lows, despite the US Federal Reserve pushing interest rates to decade highs.
Why?
Max Stainton explained: “One potential reason for the inversion is that corporates are feeding on a glut of cheap liquidity borrowed during the Covid pandemic at low fixed rates.
This has effectively gifted them a positive carry trade, earning a spread on interest-free cash leftover from the pandemic era, and interest income on today’s floating rate assets that can exceed 5 per cent.”
Our view was that the mechanism for transmitting monetary policy to the real economy was delayed rather than broken - that is, the Fed’s rate hikes would eventually feed through once companies had burned through their cheap Covid-era debt.
The corporate sector had yet to hit a maturity wall, meaning we could be facing a vastly different economic picture once bigger waves of refinancing kick in. Delays to the transmission mechanism are one reason why we think developed markets are heading for a ‘cyclical recession’ in 2024 - a moderate slowdown in growth that prompts further pivots from policymakers.
Hopefully it’ll make for a good chart.
