Our Head of Corporate Credit Research makes the case against the popular notion that solid economic data would be bad for markets, and instead offers a rationale for why now, more than ever, is the time for investors to root for positive economic developments.
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Welcome to Thoughts on the Market. I'm Andrew Sheets, Head of Corporate Credit Research at Morgan Stanley. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about why good data … is good.
It's Friday, June 28th at 2pm in London.
One of the bigger investor debates of 2024 is whether stronger or weaker economic data is the preferred outcome for the market. This isn’t a trick question.
Post-COVID, a large spike of inflation led to the fastest pace of interest rate hikes by central banks in over forty years. And so there’s been an idea that weaker economic data, which would reduce that inflationary pressure and make central banks more likely to cut interest rates, is actually the better outcome for the market. Those lower interest rates after all might be helpful for moving the market higher or tighter. And stronger economic data, in contrast, could lead to more inflationary pressure, and even more rate increases. And so by this logic, bad data is good … and good data, well, would be bad.
This “bad is good” mindset was prominent in the Autumn of 2022 and again in September of 2023, as markets weakened on stronger data and fears that it could drive further rate hikes. We saw the idea return this year, amidst higher-than-expected inflation readings in the first quarter.
But we currently think this logic is misplaced. For markets, and certainly for credit, we think those who are constructive, like ourselves, are very much rooting for solid economic data. For now, good is good.
Our first argument here is general. Over a long swath of available data, the worst returns for credit have consistently overlapped with the worst economic growth. Hoping for weaker data is, historically speaking, playing with fire, raising the odds that such weakness isn’t just a blip, and opens the door for much worse outcomes for both the economy and credit.
But our second reason is more specific to right now. Central to this idea that bad data would be better for the market is the assumption that central banks would look at any poor data, change their tune and come to the market’s aid by lowering interest rates quickly. I think recent events really challenge that sort of thinking.
While the European central bank did lower interest rates earlier this month, it struck a pretty cautious tone about any further easing. And the Federal Reserve actually raised its expected level of inflation and projected rate path on the same day that consumer price inflation in the US came in much lower than expected. Both increased the risk that these central banks are being more backward looking, and will be slow to react to weaker economic data if it materialises.
And so, we think, credit investors should be hoping for good data, which would avoid a scenario where backward-looking central banks are too slow to change their tune. I’d note that this is what Morgan Stanley’s economists are forecasting, with expectations that growth is a little over 2 percent this year in the US and a little over 1 percent in the Euro Area for this year. We expect the economic data to hold up, and for that to be the better scenario for credit. If the data turns down, we may need to change our tune.
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