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Stocks are driven by stories. Stories such as AI, weight-loss medication, or CRE being a headwind for regional banks.
The bond market, on the other hand, is different. Bonds and credit are contracts. Contracts are formal and legally binding agreements about delivering future cash flows to investors.
The most remarkable difference between stocks and bonds is how unquantifiable stories are, how stories come and go, and how stories involve selecting certain facts and ignoring other facts.
At the moment, stocks are focusing on the rapid decline in inflation. But stocks could also have chosen to focus on rising delinquency rates on credit cards and auto loans, the rise in HY default rates, or the rapid decline in bank lending, see charts below. But these facts are complicated. So, for now, the stock market is holding on to the simple story that inflation is falling. Without the nuance that a rapid decline in inflation would often be driven by a rapid decline in the economy.
With Fed hikes every day biting harder and harder on consumers, firms, and banks, and rates staying high at least until the middle of 2024, the risks are rising that we over the next six months will get a soft landing in inflation and a hard landing in the labor market.
Source: FRB, Haver Analytics, Apollo Chief Economist 
Source: New York Fed Consumer Credit Panel / Equifax, Apollo Chief Economist 
Source: FRBNY Consumer Credit Panel, Equifax, Haver Analytics, Apollo Chief Economist 
Source: Moody’s Analytics, Apollo Chief Economist See important disclaimers at the bottom of the page.
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During recessions, the share of unprofitable firms rises. This is not surprising.
But even before the economy has entered a recession, the share of companies in the Russell 2000 with no earnings is at 40%, see chart below.
The bottom line is that if the economy enters a recession, a lot of middle-market companies will be vulnerable to the combination of high rates and slowing growth.
Source: Bloomberg, Apollo Chief Economist See important disclaimers at the bottom of the page.
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Housing construction as a share of GDP is near all-time low levels, see chart below.
Combined with a very low inventory of homes for sale, the implication for investors is that the downside risks to the economy from housing are limited despite high mortgage rates.
In other words, there is a limit to how much a decline in housing construction can subtract from GDP growth when the level of residential investment is already low.
Source: BEA, Haver Analytics, Apollo Chief Economist See important disclaimers at the bottom of the page.
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Japan continues to face significant headwinds from demographics, see chart below.
Source: Bloomberg, Apollo Chief Economist See important disclaimers at the bottom of the page.
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Before the pandemic, the sub-components of CMBS traded as one asset class where delinquency rates would move up and down in sync with the business cycle.
Since the pandemic and after the Fed started raising rates, there has been significant differentiation between different types of commercial real estate, with delinquency rates for office and regional malls rising, delinquency rates for hotels first going up and then down, and the delinquency rate for retail settling at a permanently higher level, see chart below.
The bottom line is that after the pandemic, active credit selection has become key for investors in CMBS and CRE more broadly.
Source: Moody’s Analytics, Apollo Chief Economist See important disclaimers at the bottom of the page.
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Since the Fed started raising rates in March 2022, S&P500 companies have on earnings calls talked more and more about weak demand, see chart below.
This is what the textbook would have predicted. Higher interest rates increase borrowing costs for consumers and corporates—which slows down demand.
Source: Bloomberg, Apollo Chief Economist. Note: “weak demand” includes consumer demand, consumption demand, deteriorate, decelerate, demand side, end market, erode, market demand, sluggish, soften, softer, softening, weaken, weakening, and worsen. See important disclaimers at the bottom of the page.
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The Conference Board’s consumer confidence survey asks households if they plan to travel to a foreign country, and the chart below shows that a record-high share of US consumers are planning to go on vacation to a foreign country within the next six months.
The continued strong demand for consumer services is the reason why it is difficult for the Fed to get supercore inflation under control. US households want to travel on airplanes, stay at hotels, eat at restaurants, go to sporting events, amusement parks, and concerts, and that is why inflation in the non-housing service sector continues to be so high.
The bottom line is that rates will stay higher for longer because the Fed is still trying to get non-housing service sector inflation under control.
Source: The Conference Board, Haver Analytics, Apollo Chief Economist See important disclaimers at the bottom of the page.
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The average price of a concert ticket has increased from $90 in 2018 to $120 in 2023, see chart below.
Source: Pollstar, Apollo Chief Economist. Note: The top 100 North American concert tours rank artists by average box office gross per city and include the average ticket price for shows across North America. See important disclaimers at the bottom of the page.
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The German construction industry faces significant headwinds because of higher borrowing costs for homebuyers and homebuilders, higher costs of production, and substantial red tape in the construction sector—including bureaucratic building permit requirements, a rent break, and burdensome regulation.
Source: Ifo, Bloomberg, Apollo Chief Economist See important disclaimers at the bottom of the page.
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Since the Fed started raising rates in March 2022, job growth has slowed steadily, see chart below.
This is what the textbook would have predicted. When the Fed raises rates, firms slow down their hiring.
Looking ahead, the consensus expects job growth to grind to a halt over the coming six months, see the consensus forecast in the chart below.
The key question for markets is if we can get a soft landing in both inflation and in the labor market, i.e., in both parts of the Fed’s dual mandate.
With inflation slowing and the labor market softening, the risks are rising that both inflation and employment are weakening faster than markets currently expect.
Weaker inflation is good. But a weaker labor market is not good.
Put differently, markets will soon turn their focus away from weaker inflation to a weaker labor market.
In short, everyone who is bullish on equities and lower-rated credit should ask themselves where they think the labor market will be in three months, with the Fed on hold and not showing any signs of cutting anytime soon.
Source: BLS, Haver Analytics, Apollo Chief Economist See important disclaimers at the bottom of the page.
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