Smart Treasury Moves to Manage Liquidity
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The economic outlook remains complicated. On the one hand, the U.S. and Canadian economies have exhibited remarkable resilience. On the other hand, inflation remains stubbornly high despite central banks’ best efforts, and that’s delaying the start of expected interest rate cuts. In such a fluid situation, what are corporate treasury departments to do?
We recently held an event where I moderated a discussion with Jennifer Lee, Senior Economist at BMO, and Peter Moirano, BMO’s Director of Liquidity Solutions. They discussed the current macroeconomic climate and how finance teams can navigate these turbulent waters to maximize liquidity and improve their treasury management efficiency.
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Following is a summary of their conversation.
U.S. and Canada show resilience, but...
BMO forecasts U.S. GDP growth of 2.4% in 2024 before slowing moderately to 1.8% in 2025. Lee noted that a strong job market and robust consumer spending have been keeping the economy humming despite 525 basis points in rate hikes.
“Savings and the labor market have been the biggest reasons behind the strength,” Lee said. “Consumers are definitely forces to be reckoned with.”
One potential warning sign for the U.S. is an upcoming demographic shift. “We’re going to see a record 4.1 million American boomers reach that magic age of 65 this year,” Lee said. “Eventually, we’re going to start seeing a smaller labour force.”
That’s on top of several industries that have already been facing labor shortages, such as trucking, healthcare and education. Then there’s the ripple effects of such shortages. Fewer construction workers, for example, negatively impacts the housing market.
The Canadian economy, Lee said, has been a nice upside surprise. The country has benefited from being the U.S.’ largest trading partner and a population boom. But Canadian consumers are more sensitive to rate hikes than their U.S. counterparts.
We have shorter term mortgages, and when there’s a number of mortgages that are renewing, that’s probably going to hit GDP growth soon
-- Jennifer Lee, Senior Economist, BMO --
Inflation heats up
After key inflation indicators showed improvement in 2023, the U.S. Consumer Price Index has crept upward in the first three months of 2024. That’s complicated the Fed’s efforts to bring inflation down to its 2% target, which has delayed the start of its round of rate cuts. Lee noted that BMO has trimmed its rate cut forecast from three to two this year, with the first cut coming in July and the second after the November presidential election.
Nobody wants to look silly by pulling the trigger too soon. They need to be very confident that inflation is headed back to 2% on a sustained basis. They don’t want to give up all these hard-earned gains of getting inflation down. I believe it’s just a matter of time before all the major central banks start to ease more readily. We just have to be patient.
-- Jennifer Lee, Senior Economist, BMO --
Treasurers: Adjust for the yield opportunities
As Moirano pointed out, we’re operating in one of the most aggressive interest rate cycles in decades. In the US, rates went from near zero to 525 basis points in just 16 months. With interest rates sitting at a 24-year high, this is uncharted territory for many finance teams.
“There’s not a lot of experience with this type of cycle, and our clients have needed to make thoughtful pivots during this event to take advantage of the opportunities that have presented themselves,” Moirano said.
When operating in such a dynamic environment, financial chiefs need to be nimble. In 2022, Moirano said, the message to CFOs was to “float like a butterfly.”
“Post-pandemic, the signals were clear that central banks needed to get back to work and lean into a rate cycle,” Moirano said. “They were clearly signaling when liftoff was going to come.”
Expectations that inflation would be transitory, however, turned out to be unfounded. When the Federal Reserve responded with a round of aggressive rate hikes, the message in 2023 transitioned to “sting like a bee.”
Certain inflection points started to leak into the market and created opportunities for our clients to take advantage of. Between December 2022 and May 2023, there was a significant opportunity to capture yield in the three-month CD market. Between June 2023 and October 2023, there was significant opportunity to capture yield with the six-month CD or the six-month Treasury. The situation has been dynamic. However, companies that were in a position to take advantage of these things did, and fortune favored them during that period.
-- Peter Moirano, Director of Liquidity Solutions, BMO --
Focus on cash flow forecasting, efficiency
The uncertain interest rate environment has left many CFOs trying to determine how to respond. When it comes to offering corporate treasury departments guidance, Moirano quoted Louis Pasteur: “Chance favors only the prepared mind.” That is, the financial chiefs who stick to core cash management fundamentals are the ones who will thrive, not just survive.
“The organizations that have the most confidence in their ability to forecast their cash flows have been the ones thriving throughout this environment,” he said. “Good forecasting on cash flows leads to the ability to plan the segmentation of your capital. If you can thoroughly understand what your core operating cash, your reserve cash, and your strategic cash is, it allows you to create buffers in between those tiers and employ different tactics on top of those buffers to capture additional yield opportunities.”
The problem, Moirano said, is that after nearly a decade of near-zero interest rates, many financial professionals have not had to rely as heavily on those fundamentals. But understanding the cyclicality of your business and how the macroeconomic environment affects the way you operate will allow you to deploy the right tactics when economic conditions change.
“Even when rates are low, the companies that focus on their financial infrastructure are the ones that tend to do well,” Moirano said.
Among the companies that have been prepared, Moirano said they’ve been deploying their liquidity to pay down debt and pursue strategic acquisitions. They’ve also been focused on optimizing their treasury management functions to improve efficiency and enable better forecasting.
We’ve seen a lot of automation on the back end—integrations with their banking providers to get the data that enables treasury departments to become more efficient and feed their cash flows themselves. We’ve seen clients migrate toward technology to support that journey on the treasury side. Reconciliation is one of those elements that technology is enabling to create more efficient back ends.
-- Peter Moirano, Director of Liquidity Solutions, BMO --
We covered so much more in our discussion, including trends in China and Europe, the impact of last year’s regional bank failures, and global currency markets.
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Oscar Johnson:
Welcome. Our aim is to deliver great content and ideas on topics that are timely and relevant. My name is Oscar Johnson. I am the Head of BMO's U.S. Treasury Sales team. Every day our coverage teams have thoughtful conversations with large and small commercial clients. Having a finger on the pulse, we often hear the challenges and triumphs that exist in the markets. Many companies are merely surviving in times of reasonable uncertainty. At the same time, many are thriving, navigating and opposing the trend of business cycles. That's why we're here today. What category do you fit in? Instinct says many on this call fit in both. Thriving some months and surviving others. Our guests today are Jennifer Lee, Senior Economist at BMO and Peter Moirano. Peter leads our liquidity optimization team within the commercial bank. Peter's team is unique in our business, and I'm glad he's joining to add perspective. Peter, please take a minute to tell us about your team.
Peter Moirano:
Thank you, Oscar. Good afternoon. The liquidity optimization team is very unique in the commercial franchise in the U.S. We started back in 2019 right in the middle of the last rate cycle. The idea for the team was to provide additional value and advisory to our customers along the topic of liquidity and liquidity management. We specialize in best practices when it comes to helping you manage your liquidity. We focus in in three key areas. So number one, the infrastructure of liquidity management. This has to do with your investment policy, how you forecast your cash flow, and how you segment your cash once you understand your forecasting. The second is the environment. How are the market conditions impacting your ability to effectively manage your liquidity? And third, we specialize in tactics. This is layering in the appropriate accounts and solutions to your business to help you take advantage of the situations and opportunities when they present themselves.
Oscar Johnson:
That's great, Peter. What's been one key theme your team has been discussing with clients?
Peter Moirano:
So, Oscar, it's really been all about the macro environment. We -- 2023, the path for rates became finally clear. You have to remember that we've been operating under one of the most aggressive interest rate cycles in history. The current cycle began in March of 2022 and ended -- the height cycle ended in July of 2023. That's 16 months where rates have gone from effectively zero to 500-plus basis points. We're at a 24-year high in rates, and you have to go back to 2000 to operate in an environment like this. So for our clients, operating in this type of environment with this type of velocity and rate change has been challenging. There's not a lot of experience with this type of cycle. And our clients have needed to make thoughtful pivots during this event in order to take advantage of the opportunities that have presented themselves. Late last year, you know, it became clear that the height cycle was coming to an end, and that impacted markets and impacted equity markets and impacted bond markets and created a couple of thoughts of opportunities for our clients to take advantage of.
Oscar Johnson:
Got it. And, Peter, given that this environment has been more certain, have clients been able to capitalize on this?
Peter Moirano:
Yeah, absolutely. I'm going to try to do my high school Latin teacher proud here. (Speaking Latin). Fortune favors the bowl. Like I said earlier, this very aggressive height cycle, something we haven't seen in a very, very long time. And back in 2022, it was relatively easy to manage through that period. You know, we were advising our clients to float like a butterfly, right? The signals were clear post-pandemic that central banks needed to kind of get back to work and lean into rate cycles. They were clearly signaling when liftoff was going to come. However, there was a bit of misdiagnosis about inflation. It was claimed to be transitory, but then as we saw, you know, in the summer of 2022, the central bank started to get super aggressive, so aggressive that we haven't seen that type of velocity since the early '80s. Something our clients and ourselves have not had to deal with or manage through. 2023, the story was a little different. We were telling our customers, sting like a bee. When rate path became clear and things started to settle down in the beginning of last year and throughout this summer, certain inflection points started to leak into the market and created opportunities for our clients to take advantage of. So I'll give you an example. Between December 2022 and May 2023, there was a significant opportunity to capture yield in the three-month CD or term market. Between 2023, June 2023 and October 2023, there was significant opportunity to capture yield with a six-month CD, with a six-month treasury. From November till now, things have remained flat. All of this to say the situation has been dynamic. However, clients that were able and in a position to take advantage of these things did, and fortune definitely favored them during that period.
Oscar Johnson:
Got it. Thanks, Peter. You know, if it's too soon to tell, we need to bring in someone with perspective on the market and the macro drivers that seem to be driving those opportunities. Jennifer, what are your thoughts?
Jennifer Lee:
Well, first of all, like I said, I normally have some sort of a fancy title for my slideshow, and my latest one is called "It's Complicated," and it's not really paying homage to Avril Lavigne. Of course, I'm dating myself at this point, nor is it my status on social media, but it's, of course, how I kind of see the landscape before us, both the economic and especially the political one. So let's just look at growth, for example, like global growth right now. We are so far looking at global economic growth that so far looks fairly resilient. We have about 2.9% pencilled in for this year, about 3% pencilled in for next year, and that's definitely not what we would classify as a recession. It's sort of hard to describe exactly or to pinpoint exactly what a global recession looks like or what numerically it is. But for us in BMO economics, we estimate it to be something in the low 2s. So obviously 2.9 and 3 is not exactly recession territory. And overall let's not -- it's pretty darn good, actually, just considering everything that the world has been through in terms of, you know, tighter monetary policy as Peter was talking about and of course we've gone through a number of wars. Now, this week we have the IMF and the world bank, their spring meetings are kicking off in D.C. Right now it seems like the IMF is going to tone down their description of what the global economy before their client resilient. I think they're a little bit more cautious now because what we were looking at in terms of persistent inflation. But overall, as interesting as that is, it's still early in the year. And there are a lot of influencers that are out there. I'm not talking about Dua Lipa, I’m not talking about Taylor Swift, but at the same time I think Swift does have impact on the U.S. economy. Of course, I'm thinking about places like China. Three things that are no longer working off of, you know, they don't have a massive trade surplus anymore. They no longer have a massive or a big labor force, you know, to push things along with. And they are no longer looking at breakneck growth. So now they are struggling with a very difficult property market. And by the way, the property market accounts for the largest share of household balance sheets. So when households are seeing this big asset declining in value and that's going to hurt their confidence, that's going to impact their need or their want to start spending, and they're not, at least they've tailored back a little bit. And, of course, that's going to hurt profits that's going to push China into deflation territory, which is sort of what they're at now. So they are dealing with a struggling property market. They're also dealing with very weak demographics. Here are a couple somewhat depressing factoids for you. The birth rate is at a record low in China and the death rate is at the highest level since 1974 or during the Cultural Revolution. And by the way, for the last two years in a row, China's population has actually declined. So that's something that they're also continuing to grapple with. At the same time, now we're looking at something like global protectionism. Even though there are countries still trading with China, they have become very wary of their policies. Basically, their really tight grip on green technology. Now, so far from the data that we've seen, you know, it's about a pretty decent start to 2024. Now, whether or not they're going to meet that about 5% growth target, and I use my air quotes because that's what their official target is, I think it's a bit too soon to tell, but I am encouraged that we have seen a decent start to the year. So China, that's one influencer. Europe is another one. And I'd be the first to admit, I am very surprised that they didn't go into a deeper recession over the past few years. We can give things to mother nature. She definitely had a role in this, had a couple of very warm winters. And that helped Europe build up their big storage of natural gas. Actually, at this point right now in the year, they're at their highest level on record, I believe. And it certainly doesn't help Europe that they are basically surrounded by wars and conflicts, a lot of strikes, by the way, and the temperature on the war, obviously, just rose over the course of this weekend. So that's not exactly confidence building. So therefore we have weaker consumer spending. We have weaker business investment. And by the way, I'm jumping all over the map here, but I should also mention that Europe also happened to -- helped Europe build up their natural gas storage because they also -- not only because they secured contracts elsewhere, but because they use less. And this is why they also have slower GDP growth. So on top of all the physical conflicts, there are also trade conflicts in particular with China who's basically eating Germany's lunch when it comes to the auto sector. So all that aside, if you're looking for a growth leader, you know, you don't have to look much further than our backyard at the U.S. to basically lead the way this year for global growth, 2.4% is our estimate for GDP, and it's slowing only moderately next year to about 1.8%.
Oscar Johnson:
Great. Something positive.
Jennifer Lee:
Yes. Yes and no. So this is where I'm going to be my one hand on the other hand routine. You know, this is good and bad. Obviously, the U.S. has been very resilient. Sometimes I think am I using the "R" word too often? I'd rather use resilience rather than recession. But overall, the U.S. economy seems to surprise even after 525 basis points of rate hikes. And we can basically give thanks to a number of factors, but for sure it's all the pandemic savings that consumers held on to when everyone was locked up at home and unable to go anywhere. Still having a job, of course -- or still working. A number of Americans continued to work. So we had a lot of pandemic savings built up. A lot of those savings have been run down, but you're still getting a lot of incomes from working. So they're sort of filling up that savings bucket somewhat. The latest payrolls report for March was incredibly strong at 340,000. The latest February wages of salaries increase of .8%, which was actually quite surprisingly strong. So that's certainly helping the consumer. Consumers are also a lot less impacted by a lot of these rate hikes in terms of their mortgages, by the way, just because mortgages in the U.S. are of 30 years in duration. And by the way, speaking of U.S. consumer resilience, did everyone see the retail sales report? Surprisingly strong almost across the board and with upside upward revisions to the prior month. So that's also starting Q1 on a very strong note. So the consumers are definitely forces to be reckoned with, I think, at this point. Of course, Uncle Sam helped out a lot of fiscal stimulus, the inflation product action, the IRA, sciences and CHIPS Act, a few examples that have come up over the last couple weeks with Taiwan's semiconductor securing another contract from the CHIPS Act. Intel as well has also benefited, and Samsung is the latest one that secured another contract to build a fabricated plant or a fab, I think that's what they're called now, in Texas. So all these -- by the way, all these new construction buildings of new fabs, new fabricated plants, all that is good news for the future, but it doesn't kick in right away. It takes time to get through all the red tape. It takes time to stop all of these facilities. But this is good for the longer term. So we know that we're going to have a longer-term support. And the U.S. is also getting a little bit of cushion from all the volatility in the energy markets because the U.S. is now a net oil exporter. So that's the U.S. In terms of Canada, we have actually happened to surprise a little bit on the upside as well in terms of the economy. We had a couple of very strong GDP numbers for both January and February, and February is just an estimation, but so far that's a decent start to Q1, even though in Canada we continue to struggle under the weight of very high rates. And we can thank trade for that. We’ve got – we’re benefiting from a very big exposure to the U.S. The U.S. is our largest trading partner. So in terms of exports, the U.S. is doing well, Canada does well as well. Trade exposure to the economy and we've also seen our population boom, which is helping GDP growth. But consumers in Canada are a lot more rate sensitive than those in the U.S. because households are struggling under higher debt than the U.S. counterparts. And they have shorter-term mortgages up here when there's a low number of mortgages that are renewing, that's going to probably hit GDP growth soon. We also have a lot less fiscal support, which is probably not a bad thing, just considering that it could have been more inflationary than what we're already seeing. So overall, still plenty of risks out there for both Canada and the U.S., but, hey, all things considered, not too shabby.
Oscar Johnson:
So I'm thinking about reflecting on a conversation I had last week with a client. And I heard you use the word "resilience." And I had to ask, and of course I will, what's the biggest factor behind this resilience?
Jennifer Lee:
So I'm going to -- if I had to point to one factor, I'm going to say it's the job market. Now, it's been balancing out, and I think that's a phrase that Fed Chair Powell continues to use. It's balancing out. But it's still a very tight labor market. Now, the pace has obviously slowed. But businesses out there are still hiring. Some months will be stronger than others, but overall the trend is still up. Now, when we talk about the job market, I sort of like to take a step back, sort of look back at what has happened over the last, you know, four years, going back to 2020. Millions of jobs were lost. And then four years later, we're all definitely older. Some of us are wiser. Some of us may not be. Overall, we've had the benefit of time, right? So we've had a number of people who are taking an early retirement. Sort of like a work-life balance. The pandemic has taught some people, you know, what is sometimes more important than other things. And do you need to be working, you know, I'm going to exaggerate here, do you still need to be working, like, a million hours a week. So we've seen a number of people taking early retirement. We're seeing normal retirement kick in. Again, because of warriors of past, a lot of people are now hitting for this year the magic age of 65. Now, this is also going to be a very interesting year, by the way, especially in the U.S. We're going to see a record 4.1 million American Boomers who are going to reach that magic age of 65 this year. There are a couple of names that have been thrown about that were calling this thing. They're calling it the Peak 65 or also the Silver Tsunami. So whatever the phrase is, a lot of people are going to be hitting 65 this year and over the next few years. But this is probably going to be one of the crucial years. So eventually we are going to start seeing a smaller labor force. Now, on top of that, you've already seen some industries who are facing a shortage. This is before, during, and even after the pandemic. And we're still seeing that, again, play out. Truck drivers, that was something that kicked in, like, way before the pandemic hit. And I remember reading about how all the truck drivers out there now are all older, and a lot of the younger people now are just not willing to spend, I don't know, two weeks out on the open road with their big rigs, spend time away from the family. It's a very difficult life, right? A lot of people are not willing to make that trade-off, I guess, to become a truck driver. So now we're seeing a lot of shortages still of truck drivers. The sectors that were hit the hardest, I think, or two of the sectors hit the hardest during the pandemic, educators or education sector and, of course, the health sector. So we saw a lot of doctors and nurses, teachers, you know, step away from their roles. So I think there are still some shortages there. Other shortages I've been reading about like lawyers and accountants, not sure what's up with that, but that's apparently short building as of those as well. And, of course, construction workers, and that's also hurting the housing sector. So I think because of still evidence of shortages and, of course, the memory of how hard it was to bring people back into the workforce to hire people, I think this is why we continue to see some hoarding out there, and we're also still seeing a lower participation rate than before the pandemic as well. So this is where immigration is going to kick in and have more of a bigger save, having more immigrants coming in to fill these roles. And by the way, I should add it's not just about getting older. There are other lifestyle changes. Some people just, you know, for example, you're hearing about people who do not want to work somewhere that does not offer remote work as an option. Some people have changed their lifestyle. You hear about women who are finding it hard to find more affordable child care. So all of these things, you know, or upgrading your skills, for example, to get back into the workforce. A lot of these factors are playing on the job market itself, and this is why I think the job market is going to remain tight for at least a while. And by the way, I should also mention just demographically, it's not going in the right way either. You've got the working-age population. This is, like, 25 to 54. Globally sort of been flattening out or declining somewhat. You've got China, for example, apparently, you know, I've been reading about how China's working-age population peaked back in 2011. Japan peaked way back in 1995. And on top of this, you've got global fertility rates that are on the decline. So the total fertility rate, on average, should be 2.1. And this is just to keep the population stable. So we're talking about average births per women. So that's been declining. So apparently by 2050, you're going to see, for example, instead of 2.1, in western Europe, you're going to have a number of about 1.4 for the fertility rate in western Europe, by the way. In China it's going to be 1.1. Right now it's 1.2. South Korea is quite interesting. We're looking for a total fertility rate of .82, which is incredibly low. And some companies, for example, have been throwing out all these financial incentives to have, you know, certain people in their company boost that birth rate, and they're giving -- they're offering $75,000 to have a baby. Maybe not the best reason to have a kid, but, hey. I guess it's, like, whatever works at this point. Overall, I still think the job market is balancing out right now, but I think longer term it's still going to be tight because of all of these factors.
Oscar Johnson:
Got it. (Indiscernible). So inflation is a hot topic. Last year we saw some better CPI numbers here in the U.S. Then January and February, they were higher. Where do you see inflation going? Are we ever going to get back down to the target?
Jennifer Lee:
Okay, this is when I get a little bit hot under the collar here. So, yes, right now we've had January, February, and now March of very hot or hotter-than-expected inflation numbers particularly in the U.S. So I think the short answer is, you know, yes at some point. I say that with a little bit of a question mark. Yes, we're probably going to hit that magic or maybe not magic, that goal of 2%. It's a question, of course, is how long it's going to take to get there. So, you know, again, taking a step back, we have come a long way. We are no longer at, like, 8%, 9% peak or multi-decade high inflation for both Canada and the U.S. We've come a long way. Canada is now about 3%. U.S. is still very sticky, around the 3.5% mark. So I would like to call this, you know, low-hanging fruit. And Fed Chair Powell also said the same thing. I can't remember who took it from who-but from highs down to where we are now is almost, like, the easy part, sort of. And now we are getting from, like, 3.5% down to 2%. It's definitely a much more challenging role. And by the way, it's not like the old days when all we cared about was headline and core. It's now we're looking at things like goods, and if everyone remembers during the pandemic when goods prices surged because of the shortage, that's come down a lot. So we are no longer worried about goods prices. Not as much, obviously. So now it's more about services. This is where things are very sticky. And it's not just a U.S./Canada phenomenon. This is globally. Other countries, too, like the UK and the Euro area are keeping a very close eye on services inflation. So this concern about a number of factors, what's pushing services higher. Wages, for one. And, again, I go back to that big 20% jump in U.S. wages and salaries for February. Things like that, you know, that's going to help feed more spending. More people are going to take -- you know, everyone's working, so everyone's making more of an income. So people are going to go out there and start traveling more. You know, start seeing concerts. You know, yours truly, for example, is going to go see Def Leppard in August. So I'm one of those ones that will perhaps be contributing to higher services CPI. But that's, you know, one factor that's going to be contributing to sticky services inflation. Higher commodity prices is another. That could add pressure for producers. We could get another shock, like another war or a deepening attack in the current regions. Let's look at this past weekend as an example. That could set off potentially inflation expectations, and that could by itself be inflationary. We could get something, you know, climate related like another surprise from mother nature. Or at the same time we could also get a premature rate cut. So I will think back to my long-winded answer of getting back to your question, by the way, I think that after, you know, again, 525 basis points from the Fed, 475 for the Bank of Canada, 450 from the ECB, inflation has come down well down from those highs. But I guess the hardest part now is getting from 3 to 2 because it's still very, very sticky, really really sticky, especially in the U.S., so it’s going to take some time, I think, before we hit 2% again.
Oscar Johnson:
Yet another magic word, surely near and dear to the hearts of our clients. What does this mean for rates?
Jennifer Lee:
So rate cuts, I'm going to lean toward the rate cuts story. We are still expecting that to happen. The question is, of course, whether that story, that whole theme has changed a lot over the past, you know, in the past week, I guess, you know. You know, how I was mentioning the whole factor of a premature rate cut. And this is what all central bankers want to avoid. You know, nobody wants to look, you know, to use an eloquent term, no one wants to look stupid by moving too soon. They need to be very confident that inflation is headed back to 2% on a sustained basis. And these are words, by the way, that are used on a regular basis by all central bankers, the fact that they have to be confident and seeing all of this decline coming down on a sustained basis. So they need more data to prove that point, more than a few months, just to confirm that, you know, they don't want to give up all these hard-earned gains of getting inflation from down to 9% down to 3.5% that easily. So this is all getting back down to credibility, I think. Again, no one wants to look silly by moving too soon, pulling the trigger too soon. Now, the ECB, I believe, is the only central bank that actually publicly mentioned it. I was going through their January minutes, for example, and that was one of the factors that they were talking about, that they do want to move too quickly because their credibility will be at stake. So I think -- I believe it's just a matter of time before all the major central banks start to ease more readily, we just have to be very patient. You know, we've got both Canada and the U.S. economies still, again, more resilient than others, but they are slowing. So some relief will have to come. Rates are a little bit too high, do we really need it to be that high? They just need especially in the U.S. for inflation to cool. So right now as it stands, you know, for the Bank of Canada, we are looking for three rate cuts. Bank of Canada, three rate cuts this year. We're looking for rates to start falling in June. And then July, then in December. So three rate cuts to make this year. 25 basis points each to about 75 basis points in total. Now, the Fed we have been trimming our call. We are now looking for two cuts this year. Starting in July, that hasn’t change. We still look for that first cut to come in July. Then we're going to look for a little pause, and then we'll probably have them cut and then they'll probably cut again after the November election. So two cuts this year, 25 basis points each, 50 basis points in total. Now, the risk has always been fewer cuts are starting later. And this is what we're seeing play out. And especially from the Fed. A lot of the Fed speakers or almost all of the Fed speakers have been saying very similar things. You know, the Atlanta's Bostic says he sees one cut in Q4. He also said recently that he could even see maybe 2 or maybe 0. So he's sort of being very careful with what he says. Fed Chair Powell basically said we have time. And Governor Waller said, what's the rush? So all these basically hold true. So I think that's more so the case now, that, you know, there isn't a huge rush, especially given the data that we have seen of late.
Oscar Johnson:
Jennifer, what's been the story in terms of currency, and what's your outlook on currency?
Jennifer Lee:
On the currency market, I feel like it's been the bane of my existence. We look at currencies from a year-end standpoint. So, you know, my colleague Steven Gallo in the UK, our global FX strategist, he has to make the tough calls like the three to nine-month calls. Overall when looking at currencies especially the U.S. dollar, it's driven mainly by rate differentials. That's, like, the norm. But, you know, even though we expect the Fed to start cutting rates, and at that point I believe when the Fed starts cutting rates, you are going to start seeing the U.S. dollar weaken. Nowadays it's all sort of relative. If everyone's cutting, you know, which one's cutting faster? Or if all economies are slowing, which ones are slowing at a slower pace, if that makes sense? So if we are correct and we continue to see the U.S. economy being resilient, slowing from, you know, 2.4% this year to just under 2% next year, that's still pretty strong compared to what we could be seeing also around the world. So I still think we are going to see a weaker U.S. dollar but not as weak as it would be under normal circumstances, whatever normal is these days. And it certainly doesn't help -- you know, on the flip side when we've got the Yen hitting a 34-year low of 153 or so or 154, that doesn't help because you've got the Bank of Japan who tightened rates, you know, at the same time watered down their actions by saying that rates will remain accommodative for some time. And they were still buying JGBs. So that's not helping that I had so of the currency. So we look for the Yen to strengthen at least to maybe about the 150 mark by the end of this year. The Canadian dollar maybe about 133, 134. Euro, around 110. The pound around 128. The Yew Juan will probably over 7.1. And the peso, for example, at around 1675. So overall, still weaker U.S. dollar but not as weak as it could be.
Oscar Johnson:
Okay. Thanks, Jennifer. Let me go back to thriving or surviving. If the opportunity favors the bold but it's too soon to tell on rates, how are clients on this call supposed to circle the square?
Peter Moirano:
Yeah, Oscar, my parents are really going to get their money's worth out of my high school education on this call today. It was Louie Pasteur says chance favors the prepared mind. Those who are surviving the cycle versus those who are thriving during the cycle, it's definitely the clients who have been prepared to take advantage of those opportunities when they present themselves. So Jennifer's talking about a lot about the macro environment and how the shifting sentiment changes coming in different parts of the world and in different components. But at the core of liquidity management, the core tenets, have not changed, and the clients that are thriving have employed those core tenets in order to capture. So I talked earlier about the infrastructure. The infrastructure is the enabler of these opportunities, and the clients who have most confidence in their ability to forecast their cash flows have been the clients who have been thriving throughout this environment. The good -- good forecasting on cash flows leads to the ability to plan very well of the segmentation of your cash. So if you can understand thoroughly what is my core operating cash, what is my reserve cash, and then what is my strategic cash, it allows you to create buffers in between those tiers and take different tactics and employ different tactics on top of those buffers in order to capture additional yield opportunity. So the clients that have done the work to understand the cyclicality of their business, to understand how the macro environment has affected the way they operate have been the ones who have been able to deploy these tactics and capture yield. And, Oscar, you were a basketball player, so you know the adage. Practice makes progress. Shooting the free throws, doing the dribbling, drills enables you to be better on game day. And it's the same thing with liquidity management. You know, our clients have not had the opportunity to practice too much. If you think about it, since the Financial Crisis, rates were extraordinarily low for about eight or nine years. They started to crawl out, you know, in 2017 to get above 1%. They lasted that long till, you know, December of '18, and then the Fed went on pause again. That's not much practice for, you know, how to best manage your liquidity in these environments. So not a lot of opportunity for practice, but even when rates are low, companies that focus on their infrastructure are the ones that tend to thrive.
Oscar Johnson:
Talk to us about those clients that are prepared, who were prepared for this dynamic environment. Where have they been deploying (Indiscernible)?
Peter Moirano:
Yeah, so have rates have gone up, it's all about opportunity. How do I deploy this liquidity and capture the best opportunity? And quite honestly, most of the conversations we have, the first place clients look is in retiring debt. So it's a floating debt, you know, the cost of that debt is going up with the market. And, you know, there is a lot of liquidity in the system, and to be able to deploy excess liquidity to pay down that debt, that's been the number one place to go. The second has been M&A. Not large transformative acquisitions, but we're seeing a lot of activity, especially in the commercial market, with smaller tuck-in-type acquisitions. You know, the opportunity, there have been clients -- you know, there have been companies that have not necessarily been thriving in this environment, and they've barely been surviving. And we've seen stronger, more prepared clients take advantage of that and use it to their advantage and make these acquisitions. In terms of layering yield opportunities into, you know, cash management, you know, it's been employing different tactics. So taking advantage of, you know, tightening up those working capital buffers and deploying that cash flow forecasting has allowed clients to shift to make changes and layer in different strategies in the way they manage cash. So that's, you know, transitioning from, you know, checking accounts to savings accounts, savings accounts to term-type opportunities, looking at bond markets, corporate bonds, even equities sometimes. Some clients have been buying Taylor Swift tickets, too, because I heard that's a real performing asset in this environment, Oscar.
Oscar Johnson:
I've heard Taylor Swift, I've heard Def Leppard. It all relates. So, Jennifer, how should our guests think about things going forward?
Peter Moirano:
I'm going to take that one, Oscar. Going forward, you know, as we listen to Jennifer, it's all about kind of what's the macro environment going to give us? And we're kind of on a similar path that we've been, you know, since the late, you know, fall, winter of last year. You know, we're at an inflection point. Rates are going to change. However, as I talked about earlier, the opportunities to pounce on has come in short bursts. So what we've been doing -- and we love our clients. Nothing gives our team more joy than spending time with our clients and getting to their office and understanding what their needs and concerns are. So, you know, we recommend meeting with us as much as possible. Our clients that are managing the most liquidity right now, we're meeting with quarterly because things are changing quarterly. And they have to get a tremendous amount of information. They have to digest what has changed quarter over quarter in order to take advantage of those opportunities. And, you know, maybe I'll leave you with this, Oscar. One of the things that I've noticed over the past 18 to 24 months is that, you know, our clients will call us up on a quarterly basis and say, hey, what's BMO's latest forecast on the market? And every time I send them a forecast or show up in their office with a new forecast, I always have to caveat, hey, this forecast, even though we printed it last week, it's probably wrong, and it's extremely unreliable, and you can't count on it. Sorry, Jennifer, and all your colleagues. It's tough.
Oscar Johnson:
I'm glad you took that question because those sound like fighting words. Jennifer, how does that make you feel?
Jennifer Lee:
First of all, thanks a lot, Peter. Okay. So you know what? This is, again, like I said earlier, this is very complicated world now. The economic landscape is very complicated, but now we've got this added layer of complication coming from the political side of the world. Now, I know everyone's heard this factoid already, but 2024 is a huge year for voters, over 50% of the global population will be casting their vote in at least one election this year. So that's huge, obviously, right? So most recently, you know, in March, there was an election of Russia. Of course, we know how that turned out. Six more years, six more years! So they just elected a Euro-skeptic Prime Minister. So this is how things are going to make an added twist on the political front. But India's general elections are starting off this Friday and going until June 1. And we've got the EU parliamentary elections in June, and the UK might have an election into the fall. I'm going to say Europe is also very interesting right now because it sort of lacks strong leadership, and it sort of needs it now, especially with potentially strong forces coming into play in January of 2025. You know, there's no more Angela Merkel anymore. I don't know if you can rely on Schultz. Macron's time is limited. We'll look at Italy's Meloni. It's going to be interesting to watch. But I think of all the elections this year, I like to call it the bookends are the most politically charged, of course, Taiwan and the U.S. on November 5 and just focusing on the U.S. elections. It makes me, quite frankly, very worried about what's going to come up in November when we have, you know, Joe Biden versus Donald Trump. So we could see from an economic standpoint the potential return of more trade wars as both of them are trying to sort of out-protectionist each other. Both of them are protectionist, but they're trying to be more protectionist than the other, it seems. You know, you've got the self-proclaimed tariff man out there who's actually threatening to put a 10% tariff on all imports going into the U.S. And if they're imports from China, you're going to see a 60% tariff slapped on. That, obviously, would mean very much higher prices, which means higher inflation and lower profits and all that is not good news for the U.S. economy. Now, there's also a lot of policy uncertainty out there. We don't know what Mr. Trump's stance is, you know, on climate change, on energy. We don't know what his views are for how supportive he is for Ukraine or Taiwan. NATO. Of course, we're saying NATO. We know roughly what his views are. He did say let Russia do whatever the hell he wants if it isn't paying up to be in NATO. And, of course, we don't know what his stance or what he's going to do with the Federal Reserve, even though he did threaten to fire Fed Chair Powell. So all of this is going to be very interesting, but maybe not in a good way because it introduces a lot of policy uncertainty. Now, the common denominator for both candidates is basically China. In terms of bringing in trade from China and, of course, national security being a very key them in what, you know, both of them are going to be talking about. So I should also mention that while everyone in the world is focusing on, you know, this upcoming election, you know, I was reading about this thing called the anti-American axis, which is, like, China, Iran, and Russia. So almost -- so that group who is sort of waiting to act on a moment of weakness in the U.S. So all of this, you know, makes things forecasting especially very, very complicated.
Oscar Johnson:
How about all those supplies like what happened in Taiwan or in Baltimore most recently?
Jennifer Lee:
Yeah. So those are, you know, for sure, we can't -- those are things like earthquakes and collapsing bridges, that's something we can't predict or forecast, obviously. These, obviously, have a big influence as well on inflation and on the economy. I think it was 2021, that ship that kind of got jammed up in the Panama Canal that couldn't get out. That would cause, like, a two-week backup. But these sorts of things, you know, an earthquake recently in the tri-state area, all these things are not forecastable. So we sort of have to sort of, you know, put a little bit of buffer in there for things like this, I guess. But how much buffer can you possibly have? But even things like climate change. We also have things that we can't predict and that has caused a lot of volatility. In food prices. A couple things that come to mind. They were talking about recently Quebec's strategic reserves of maple syrup are at a record low. So everybody has to hold off on how much maple syrup you're going to put on your pancakes or waffles. Cocoa prices going through the roof. You know, those of us that love -- I love my chocolate, so I'm going to be paying a little bit more for that as well. So all these things are also due to climate change, which is also putting upward pressure on food inflation. And I want to mention one thing as well, strikes that we can't predict. There's a lot of strike activity going on, especially we noticed it a lot last year. But workers, again, going back to what I was talking about with the tight labor market. Workers have a lot more power these days. When you're hearing stories about hoarding and storage. That sort of empowers workers to make greater demands for more money, for fewer hours. And some of those demands are being met in Germany, for example, their train drivers recently got what they were asking for, which is fewer work hours. 35 hours instead of 40. Some upcoming strikes, the UK train drivers, they are going on a rotating three-day strike. Recently the UK equivalent of Stats Canada or the BLS, it's called the Office of National Statistics, the ONS. These statisticians in the UK are striking because they have been told to return to the office two days a week. They're not liking that, so they are going to go on strike, which is going to be basically messing up a lot of the data that the Bank of England needs to make their monetary policy decisions. And then also, lastly, France's public sector workers are threatening to strike during the Olympics in Paris this summer. So unless all of these shortages that we keep hearing about or talking about are met by things like AI or unless there's some sort of baby boom in the next few years which I don't think is going to happen, it basically means, again, that labor markets are going to remain tight. Not as tight as it once was, but still fairly tight. And that is going to, I fear, potentially mean higher wage costs and higher inflation.
Oscar Johnson:
I thought we were supposed to be telling our clients that everything is all rainbows. I guess that's not accurate.
Jennifer Lee:
No. Unfortunately not.
Oscar Johnson:
All right.
Peter Moirano:
Peter, I'm still in shock over this maple syrup thing. I don't know what to say. (Laughter) Is that real, Jennifer?
Jennifer Lee:
It is, it is. Record low. Strategic reserves.
Peter Moirano:
That's amazing. I wish I had more to add to that, Oscar. But when we think about the uncertainties and the changes in the market in the U.S., you know, you have to remember, like, it was a little over a year ago when we had two major banks fail in our market. Literally -- one of them literally overnight. The other one, you know, was a bit of a slower march towards closure. But, you know, shocking situation. And this is, you know, one of the things that we dealt with quite a bit last year, especially in the U.S. market, we were getting inbound phone calls from CFOs of our clients, their board of directors were up in arms. You know, one of the things our clients didn't have to think about, again, for 15, 16 years is thinking about and understanding the counterparty risk of their financial institutions that they do business with. You know, luckily, for our clients, our team was there to help walk them through what happened, how could this happen in this type of environment? What were the core drivers? But also help them -- and this, again, goes back to the infrastructure of liquidity management. It goes back to treasury and investment policy. We spend a lot of time with our clients rewriting their policies to factor in some of the elements that caused some of that uncertainty in the bank market. So whether that was, you know, adding different metrics, you know, in loan diversification or, you know, ratings or capital ratios and things like that, I mean, these are things that haven't had to be contemplated at all that needed to be layered in. So, again, corporate -- you know, finding ways to reduce their exposure to these unforeseen risks. Not a scene we saw last year and something we've been working with our clients on.
Oscar Johnson:
Okay. So this goes back to being prepared regardless of what type of environment we're in. I want to linger on the bank market in the U.S. a little bit. Have the concerns subsided, or is this something that our U.S. and Canadian clients are doing business in the U.S. still need to think about?
Peter Moirano:
So, yeah, that's a good question. For the most part, the concerns have subsided. You know, the winddown of Silicon Valley Bank. First Republic was taken over by JPMorgan, and since then things have calmed down, relatively. Now, earlier this year in the first quarter, there was another bank on the East Coast of the U.S. that got into a little bit of trouble, that was related to their exposure to the commercial real estate market. So one of the things still kind of hung over from COVID in the U.S. and Canada as well is getting folks back in the office. And this has a direct impact on the commercial real estate market. Occupancy rates are down. Our commercial real estate clients that are looking to refinance their assets, you know, have to kind of deal with that challenging environment. So there is a little bit of uncertainty that is remains, especially focused on that sector. So like Silicon Valley Bank, there is a lot of exposure to a specific industry. This bank out of New York earlier this year, same thing. A lot of exposure to a particular industry that's stumbling a little bit due to the rate environment. So, you know, look. I think for now things are calm. You know, if rates take their glide path that are expected, you know, I think it should work itself out. However, if there are surprises, you know, who knows? So, again, having -- understanding, you know, the risks that you may carry with your banking partners is important and something to make a factor when trying to navigate this environment. Thank goodness for us and you, BMO is as strong as it's ever been, diversified as it's ever been, so you're operating in a good place.
Oscar Johnson:
Think about all those challenges that you just described, what have businesses been doing to react?
Peter Moirano:
Yeah. So, you know, there has been a lot of bank rationalization going on, especially in the UK. The environment in Canada is relatively simple. In the U.S., it's much more complex. You have to recall, we have about 4,000 banks that are chartered with the Federal Reserve here in the States. Companies have been thinking about, you know, it's not uncommon for, especially larger companies, to have many, many bank relationships. Receivables here, payables there. You know, club debt transactions and things like that. There's been a lot of rationalization of those relationships as a result of that turmoil in the bank market. So companies have been chasing stronger balance sheets. So consolidating their debt, consolidating their cash management with the banks that have stronger balance sheets. And typically in the U.S., that focus is around the regulatory environment. So the way that the Fed regulates banks is in buckets, and the most stringent, most arduous regulatory requirements are placed on banks that are north of $250 billion in total asset size. So we've seen clients consolidate towards banks that fit in that bucket. Of course, BMO does. The other thing we've seen on the cash management side is optimization around treasury management. So it goes back to forecasting. To be able to run an efficient shop from a treasury perspective enables a clean and better forecasting which, you know, opens the door for segmentation and the investing we talked about earlier. So we've seen a lot of automation on the back end, so integration with banking providers, trying to get to the data that enables treasuries to become more efficient to feed their cash flows and so on. So automation on the back end, integration, and then also, you know, maybe finally, Oscar, we've seen clients migrate toward using technology to support that journey on the treasury side. You know, reconciliation becoming one of those -- one of those elements that technology is really enabling to create more efficient back end. So, you know, partnerships with our partner, modern treasury, the employment of virtual accounts have allowed clients to become more efficient reconciliation and, again, it creates that feedback loop back to ability to forecast, ability to segment, having a tight policy allows you to employ those tactics and take advantage of the yield environment that we're in today.
Oscar Johnson:
Yeah. Thanks, Peter. You know, I think back to the title of today's conversation, and it's "Thriving or Surviving." And there's a couple of key takeaways for me after listening to Peter and Jennifer, and that is number one, as described, fortune favors the prepared. So for those that are thriving, it's being prepared for sometimes uncertain times. And also, the importance of being nimble and adjusting to economic conditions to make sure that we can, like I said, adjust to accommodate what's going on in the environment. So I want to say thank you to Peter and also to Jennifer and for each of you that joined us today. We take views from our clients and the market to create content. In the next few days you'll hear or receive an e-mail from BMO with a link to a survey about the session and also a letter about CTP credits. We'll also provide a link to this recording. And we encourage you to share it with your network. Thank you so much for joining us today.
Oscar Johnson
U.S. Head of Commercial Sales for Treasury and Payment Solutions
Oscar is the U.S. Head of Commercial Sales for Treasury and Payment Solutions for BMO Commercial Bank. His group is responsible for providing cash management, …(..)
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Contents:
The economic outlook remains complicated. On the one hand, the U.S. and Canadian economies have exhibited remarkable resilience. On the other hand, inflation remains stubbornly high despite central banks’ best efforts, and that’s delaying the start of expected interest rate cuts. In such a fluid situation, what are corporate treasury departments to do?
We recently held an event where I moderated a discussion with Jennifer Lee, Senior Economist at BMO, and Peter Moirano, BMO’s Director of Liquidity Solutions. They discussed the current macroeconomic climate and how finance teams can navigate these turbulent waters to maximize liquidity and improve their treasury management efficiency.
Markets Plus is live on all major channels including Apple and Spotify.
Following is a summary of their conversation.
U.S. and Canada show resilience, but...
BMO forecasts U.S. GDP growth of 2.4% in 2024 before slowing moderately to 1.8% in 2025. Lee noted that a strong job market and robust consumer spending have been keeping the economy humming despite 525 basis points in rate hikes.
“Savings and the labor market have been the biggest reasons behind the strength,” Lee said. “Consumers are definitely forces to be reckoned with.”
One potential warning sign for the U.S. is an upcoming demographic shift. “We’re going to see a record 4.1 million American boomers reach that magic age of 65 this year,” Lee said. “Eventually, we’re going to start seeing a smaller labour force.”
That’s on top of several industries that have already been facing labor shortages, such as trucking, healthcare and education. Then there’s the ripple effects of such shortages. Fewer construction workers, for example, negatively impacts the housing market.
The Canadian economy, Lee said, has been a nice upside surprise. The country has benefited from being the U.S.’ largest trading partner and a population boom. But Canadian consumers are more sensitive to rate hikes than their U.S. counterparts.
We have shorter term mortgages, and when there’s a number of mortgages that are renewing, that’s probably going to hit GDP growth soon
-- Jennifer Lee, Senior Economist, BMO --
Inflation heats up
After key inflation indicators showed improvement in 2023, the U.S. Consumer Price Index has crept upward in the first three months of 2024. That’s complicated the Fed’s efforts to bring inflation down to its 2% target, which has delayed the start of its round of rate cuts. Lee noted that BMO has trimmed its rate cut forecast from three to two this year, with the first cut coming in July and the second after the November presidential election.
Nobody wants to look silly by pulling the trigger too soon. They need to be very confident that inflation is headed back to 2% on a sustained basis. They don’t want to give up all these hard-earned gains of getting inflation down. I believe it’s just a matter of time before all the major central banks start to ease more readily. We just have to be patient.
-- Jennifer Lee, Senior Economist, BMO --
Treasurers: Adjust for the yield opportunities
As Moirano pointed out, we’re operating in one of the most aggressive interest rate cycles in decades. In the US, rates went from near zero to 525 basis points in just 16 months. With interest rates sitting at a 24-year high, this is uncharted territory for many finance teams.
“There’s not a lot of experience with this type of cycle, and our clients have needed to make thoughtful pivots during this event to take advantage of the opportunities that have presented themselves,” Moirano said.
When operating in such a dynamic environment, financial chiefs need to be nimble. In 2022, Moirano said, the message to CFOs was to “float like a butterfly.”
“Post-pandemic, the signals were clear that central banks needed to get back to work and lean into a rate cycle,” Moirano said. “They were clearly signaling when liftoff was going to come.”
Expectations that inflation would be transitory, however, turned out to be unfounded. When the Federal Reserve responded with a round of aggressive rate hikes, the message in 2023 transitioned to “sting like a bee.”
Certain inflection points started to leak into the market and created opportunities for our clients to take advantage of. Between December 2022 and May 2023, there was a significant opportunity to capture yield in the three-month CD market. Between June 2023 and October 2023, there was significant opportunity to capture yield with the six-month CD or the six-month Treasury. The situation has been dynamic. However, companies that were in a position to take advantage of these things did, and fortune favored them during that period.
-- Peter Moirano, Director of Liquidity Solutions, BMO --
Focus on cash flow forecasting, efficiency
The uncertain interest rate environment has left many CFOs trying to determine how to respond. When it comes to offering corporate treasury departments guidance, Moirano quoted Louis Pasteur: “Chance favors only the prepared mind.” That is, the financial chiefs who stick to core cash management fundamentals are the ones who will thrive, not just survive.
“The organizations that have the most confidence in their ability to forecast their cash flows have been the ones thriving throughout this environment,” he said. “Good forecasting on cash flows leads to the ability to plan the segmentation of your capital. If you can thoroughly understand what your core operating cash, your reserve cash, and your strategic cash is, it allows you to create buffers in between those tiers and employ different tactics on top of those buffers to capture additional yield opportunities.”
The problem, Moirano said, is that after nearly a decade of near-zero interest rates, many financial professionals have not had to rely as heavily on those fundamentals. But understanding the cyclicality of your business and how the macroeconomic environment affects the way you operate will allow you to deploy the right tactics when economic conditions change.
“Even when rates are low, the companies that focus on their financial infrastructure are the ones that tend to do well,” Moirano said.
Among the companies that have been prepared, Moirano said they’ve been deploying their liquidity to pay down debt and pursue strategic acquisitions. They’ve also been focused on optimizing their treasury management functions to improve efficiency and enable better forecasting.
We’ve seen a lot of automation on the back end—integrations with their banking providers to get the data that enables treasury departments to become more efficient and feed their cash flows themselves. We’ve seen clients migrate toward technology to support that journey on the treasury side. Reconciliation is one of those elements that technology is enabling to create more efficient back ends.
-- Peter Moirano, Director of Liquidity Solutions, BMO --
We covered so much more in our discussion, including trends in China and Europe, the impact of last year’s regional bank failures, and global currency markets.
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