January Newsletter: ‘Over the cliff edge again? Look West this time?’

27 January 2023

You may have heard of the term Black Swan – coined a couple of decades ago by a guy called Nassim Taleb in a book of the same name. It is a good book to read, however, the term Black Swan has become overused.

The original meaning of the term was that sometimes something that you have no way of knowing would happen, happens. In this instance before European’s had reached Australia the existence of a black swan would have been impossible for them to predict. At the risk of mixing metaphors the Black Swan came ‘out of the blue’.

Many recent events have been called ‘Black Swans’ when in fact they were foreseeable. Covid and the Ukraine War fall into this category. Covid had been around for a few months before stock markets took fright in March 2020. The Chinese government had highlighted it as the biggest threat to economic growth in early February. Similarly, the Ukraine War was hardly a surprise. The Russian troops had been building on the border for months. But he wouldn’t be so stupid, would he? Again, markets did not react until the war started. These are not ‘Black Swan’ events, yet the market reacted as if they were. Why is this?

Pre Covid, pandemics had already been worried about for years. Remember Bird Flu or Ebola? Markets reacted swiftly to these outbreaks only for them to have very limited impact. The lack of market reaction to the initial Covid outbreak suggests that the markets guess of the impact of a current event is impacted by the most recent events bearing a similar resemblance. If that is the case, markets don’t predict as many think, but merely react!!

So, if we scan the horizon for potential problems, we think the negative surprise may come in 2023 from the West not the East. The USA is about to breach what is called ‘the debt ceiling’.

The debt ceiling is the limit that the US Congress imposes on how much national debt the federal government can carry at any given time. The amount is set by law and has been increased over the years to finance the government’s operations as US debt has grown and grown.  When the ceiling is reached, as it always is, the U.S. Treasury Department cannot issue any more Treasury bills, bonds, or notes until Congress increases the allowable debt levels.

With the US congress now in the hands of Republicans and Presidential elections a year away, expect fireworks. Some very extreme Republicans are holding the sway. Again, the markets will expect us to move away from the cliff edge. We’ve been here before on the debt ceiling, most notably in 2011. Each time before the bark has been worse than the bite. The ceiling has been raised. But expect headlines to get increasingly noisy in the months ahead. If the politicians fail to agree, the U.S. in the worst-case scenario, could default on its debt. That may make March 2020 look like a picnic. Of course, we aren’t predicting that…they wouldn’t be so stupid would they?