Juggling Dynamite

David Rosenberg, founder and president of Rosenberg Research, joins BNN Bloomberg for his reaction to Canada’s latest rate hike decision. Rosenberg adds investors should be focusing on what the BoC will say 6 months from now as the jobs market will be completely different. Here is a direct video link.

Recessions are a regularly recurring part of the business cycle and typically open up once-in-a-decade investment opportunities for those who can capitalize on the clearance sale prices they bring. It’s important to reiterate, however, that the largest equity drawdowns occur during recessions (blue bars below), not in the year before; #not there yet.

As mortgage rates have more than doubled year-over-year, defaults are spreading through the commercial property space, from offices to shopping centers and rental apartments.

A record $151.8 billion backed by US rental apartment buildings is up for renewal this year, and $940.1 billion over the next five years (Trepp data). The good news for tenants is that rents are starting to fall while mean-reverting prices suggest upcoming opportunities for future buyers and investors. For current owners, investors and lenders, the trends are not their friend. See Houston Property Owner Loses 3200 Units to Foreclosure as multifamily feels the heat:

Turmoil in commercial property markets is starting to spread beyond urban offices and aging shopping malls to rental apartments. The multifamily sector has long been considered a relatively safe investment, especially when home prices rose so much during the pandemic and forced many home shoppers to keep renting,

Landlords have benefited from surging apartment rents and cheap debt in recent years, which pushed property values to record highs. Investors paid high prices for the buildings in part because they were betting on a continued rise in rents. They also considered apartments a safer bet during a recession because people always need a place to live.

Now, the recent increase in interest rates has cooled off the apartment sector. Investors who bought properties at the peak of the market in 2021 often financed those deals with floating-rate mortgages. Many of those loans have reset at higher rates.

Real-estate analytics firm Green Street estimates that apartment-building values are down more than 20% from their peak. Meanwhile, rent growth is slowing, meaning some buildings with sizable, floating-rate mortgages no longer generate enough profits to make debt payments.

A negative US 10-year minus 3-month yield spread has signalled every incoming recession of the last 60 years (grey bars below courtesy of Charlie Bilello). The current reading, at -1.67%, is the most negative ever recorded.

Still, bullish hopes spring eternal. While most economically-sensitive sectors have floundered for two years: small cap stocks (-27% from their highs), US banks (-39%), consumer discretionary (-31%), real estate (-28%), transports (-18%), a handful of rebounding tech names pulled broad markets higher year-to-date, and the percentage of bulls in the Investor Intelligence Survey in March jumped to 48.6%–the highest since February 2023. There can be no cycle bottom for risk markets until blind optimism has been crushed into a bearish consensus once more.

In the real world, global PC shipments were –29% year over year in the first quarter, and the average work week in March’s payroll report fell to 34.4 hours–the lowest since April 2020 when the economy was in COVID-19 lockdown. Not surprisingly, the IMF just lowered its global growth forecast for 2023 (to 2.9%) and 2024 (to 3%). Unemployment (a lagging indicator) is headed higher from here.

The likelihood of an incoming recession is today as sure as it gets. And for those hoping that equity losses in 2022 have already discounted for all of that, it’s essential to appreciate that the lion’s share of past cycle losses has come during recessions (blue bars below courtesy of ISABELNET.com), not in the year before.

Today, most central banks, led by the US Fed, remain in monetary tightening mode. As the economy and employment contract from here, central banks will pause and resume easing efforts. For those trying to look through that valley and see coming cuts as bullish for risk markets, it bears noting that the bulk of stock market losses (red bars below) have always come while the Fed is easing, not before.  Fact.