JPMorgan bond chief Bob Michele worries about 2008-like market quiet. After a series of bank collapses and quick interest rate hikes, one market veteran has only one word to say about the stock market’s recovery: Beware.
In an interview at the bank’s New York headquarters, Bob Michele, chief investment officer for JPMorgan Chase’s huge asset management department, compared the current moment to a “deceptive lull” during the 2008 financial crisis.
Michele cited numerous similarities between the current situation and March through June 2008.
Investors back then, as they do now, worried about the health of American financial institutions. Both times, Michele’s company eased tensions by buying out a rival with financial difficulties. JPMorgan Chase & Co. (NYSE: JPM) acquired the failing First Republic Bank (NASDAQ: FRTB) last month and Bear Stearns (NYSE: BSC) in March 2008.
“The markets viewed it as a crisis, there was a policy response, and the crisis is solved,” he explained. The stock market then rose steadily for three months.
Both investors and market watchers are frustrated by the end of a nearly 15-year period of low-interest rates and cheap money worldwide. Michele’s boss, Jamie Dimon, and other top Wall Street executives have been sounding the alarm about the economy for over a year. Dimon and others have warned of the dangerous convergence of rising interest rates, the end of the Federal Reserve’s bond-buying programs, and international conflict.
The American economy has shown remarkable resilience, with May payroll data surging more than predicted and rising stocks leading some to declare the start of a new bull market. Investors can be roughly broken down into two groups, with one expecting a soft landing for the world’s largest economy and the other expecting something much worse due to the currents.
Quiet before the storm
A career veteran, Michele can see that the next several months are only a lull before the storm. Michele is the global head of fixed income for JPMorgan’s asset management division and is responsible for more than $700 billion in assets.
He noted that historically, going back to 1980, recessions have begun on average 13 months after the Fed has raised rates for the final time in a given cycle. The most recent action by the central bank was in May.
“you’re not in a recession; it looks like a soft landing” since the economy is still expanding in the nebulous time after the Fed has completed hiking rates, as Michele put it.
He said it would be a miracle if this concluded without a recession.
Michele predicts the economy will enter a recession by the end of the year. Although the onset of the downturn may be delayed due to the continued influence of Covid stimulus funding, he insisted that the final destination was obvious.
To paraphrase, “I’m highly confident that we’re going to be in recession a year from now,” he remarked.
Other market analysts do not share Michele’s assessment.
As reported by the Wall Street Journal last month, Rick Rieder, the head of bonds at BlackRock, believes the economy is in “much better shape” than widely accepted. Recession within the next year is now only 25% likely, according to Goldman Sachs economist Jan Hatzius. Few people expect the next economic crisis to be as bad as 2008, even among those who predict it.
Michele begins his prediction of an economic downturn by noting that the Federal Reserve’s rate hikes since March 2022 are the most aggressive in four decades. This reoccurring pattern aligns with the Federal Reserve’s efforts to reduce market liquidity through quantitative tightening. The Federal Reserve plans to reduce its monthly balance sheet by up to $95 billion by allowing its bonds to mature without reinvesting the proceeds.
He said we’ve seen a “rate shock” of about 500 basis points over the past year, and that’s just the beginning. “We’re seeing things that you only see in recession or where you wind up in recession,” he added.
Loan officer surveys show a tightening credit market. Michele points out an increase in jobless claims, a decrease in vendor delivery times, an inverted yield curve, and a decline in commodity prices as other indicators of an impending economic slump.
Suffering for Gain
He predicts the economy will impact regional banks, commercial real estate, and junk-rated corporate debtors the most. Michele thinks they will both have to face the music eventually.
He pointed out that regional banks still face challenges due to investment losses caused by increased interest rates and that these institutions often rely on government programs to help them deal with deposit withdrawals.
He assessed that the situation had been stabilized thanks to government aid but was far from resolved.
He remarked that the central business districts of many cities are “almost a wasteland” of empty office space. Some property owners have already defaulted on their loans rather than face the prospect of refinancing at much higher interest rates. Portfolios of regional banks and REITs will be affected by these failures, he said.
Overvalued real estate was one of “many things that resonate with 2008,” he said. To paraphrase, “Yet until it happened, it was largely dismissed.”
Finally, he warned that the funding climate had changed dramatically for companies with credit ratings below investment grade; organizations that need to refinance floating-rate loans may run into trouble.
He warned that many businesses were sitting on “very low-cost funding,” which would lead to a “doubling or tripling” of interest rates if they tried to refinance. This would force many businesses to “go through some sort of restructuring or default.”
Michele claims he is conservative with his money and only invests in high-quality corporate credit and mortgage-backed securities because of his ideology.
As a result, “everything we own in our portfolios is under stress for a couple of quarters of -3% to -5% real GDP,” he explained.
That’s in contrast to other market participants, such as his counterpart Rieder of BlackRock, the largest asset manager in the world.
In contrast to us, “some of our competitors feel more comfortable with credit,” he explained, so they are more likely to take on lower-rate debts in the hope that all will work out in the event of a soft landing.
Michele noted that he and Rieder were “very friendly” despite being competitors. They had known each other for three decades, from when Michele worked at BlackRock and Rieder at Lehman Brothers. Michele added that Rieder recently criticized a JPMorgan policy requiring executives to be in the office five days a week.
One of the bond giants may emerge as the more intelligent investor, depending on the economy’s direction.