Get Think Tanked Distilled with George Goncalves

The Fed is still on schedule to cut interest rates this year, but the labor market might be weaker than many think and oil prices could soon wreak havoc on consumers. Those are just some of the thoughts of George Goncalves, a bond market veteran and strategist who’s spent more than two decades analyzing the global macroeconomic landscape. He joins the ETF Think Tank to offer his thoughts and where conditions might be headed next.

The conversation starts with a discussion of the quality of the data that the markets are considering right now, particularly on the labor market side. Goncalves says that when you look at the private sector data and the government data, there are a lot of inconsistencies. There could be different counting methodologies at play, but he notes that the wedges we’re seeing right now in the data typically only happen after a recession has occurred, not before. He’s particularly bothered by the non-farm payroll reports where you can get monster numbers one month only for them to be quietly revised lower in subsequent months. His overall view is that if you strip out the travel & leisure sectors, there’s been little job growth over the past several months.

Goncalves admits that he has one of the more dovish stances on the street in terms of what he thinks the Fed will do. He sees the possibility of 100 basis points of cuts yet this year and 200 basis points by the time all is said and done sometime in 2025. If you’re the Fed, you probably don’t want to wait until inflation hits 2% because then it’s probably too late. Easing starting this summer should be appropriate and people forget that the Fed can adjust policy very aggressively if needed. He believes that the unemployment rate will be important. The Fed will likely need to see cracks at the surface, such as the unemployment rate rising above 4% and NFP drifting towards 100K instead of 200K.

Goncalves also says that the housing market is also signaling a stalemate between buyers and sellers. Interest rates have caused that and it’s also damaged the mobility of home buyers and owners. Housing affordability is at one of its worst levels in history and that could mean an extended period where it’s actually cheaper to rent than own. Incomes required to buy a home have become too high and something needs to change, probably a housing price correction. The home is still the largest asset for most Americans and a 15-20% hit to home prices would be much more impactful than a stock market decline.

Overall, Goncalves believes that the current environment argues for a yield steepener. Long-term rates could rise, but he doesn’t believe that it would be much. Short-term rates are what will rally lower because of the Fed. He also believes that the yield curve “disinversion” should happen by this fall. Historically, it tends to happen about 18 months in and we’re nearly there now. If the 10-year gets to 4.60% to 4.70%, that should impact stocks. He’s also a little concerned about oil, especially in the current geopolitical environment. A lack of supply could be one of the final straws for the consumer if oil shoots up to $100+. If oil stays high into the 3rd or 4th quarter, that could be trouble for consumers. Then the Fed might be forced to cut in an inflationary environment and that’s what you don’t want.

Other key takeaways:

  • Another of Goncalves’ observations on the labor market is that initial jobless claims are low, but continuing claims are high. It’s a cycle that’s had a very uneven run.
  • If you’re looking for more important labor market data, look at hours worked and full-time vs. part-time employment. Managers tend to trim hours instead of laying off and that could be an early sign of a trend developing.
  • Consumers are becoming severely overleveraged. Personal loans, credit cards, auto loans, small business loan interest expenses are really ramping up. We’re approaching the very unusual point where these interest expenses are starting to become larger than mortgage interest expenses.
  • With so many uncertainties, is this one big case for index investing? If the data and the Fed aren’t reliable, why not just own the market? Goncalves thinks that there’s some merit in that idea. At the same time, there are mile markers for excess. Look at who’s being impacted most and how that will affect the outlook.
  • What matters more than the huge Fed balance sheet is bank reserves and bank liquidity. If the Fed slows down from an $80 billion taper to $40 billion, the financial system should be able to handle that.


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