As I've remarked repeatedly over the years, this recovery has been dominated by risk aversion, and that's one reason it has been the weakest recovery ever. The world suffered a profound shock in 2008, and it's taken a long time for the effects to wear off. One of the clearest signs of risk aversion has been the rather spectacular growth of bank savings deposits, despite the extraordinarily low rate of interest they have paid. Safety, not yield, was of paramount concern for most folks. There are now emerging signs that this is changing, and that is happening because confidence is slowing returning-investors are becoming less risk averse.
The return of confidence-should it continue-has profound implications for the price of risk assets and for the future course of monetary policy. On the margin, investors are now more likely to prefer the higher yields available on corporate bonds and equities than they are the safety of bank deposits. The shift into riskier assets could become a stampede unless the Fed raises short-term interest rates by enough to make savings accounts attractive on a risk-adjusted basis with other assets.
Bank savings deposits started to surge right around the end of 2008, when global financial markets teetered on the verge of collapse. Savings deposits at U.S. banks totaled $4 trillion at the time, and now, just five years later, they stand at $7.1 trillion. That works out to a 12% annualized growth rate.
The chart above shows the year over year growth rate of savings deposits. It has now dropped to 6.4%, but savings deposits have only grown at a 3.2% annualized rate over the past six months, and not at all over the past three months. Something is happening here that bears watching, and I think it is the return of confidence. This is very big news.
As the chart above shows, consumer confidence has been slowly rising in recent years, but it remains relatively low from a long-term historical perspective. The return of confidence is still in its early stages.
The same pattern can be seen in the PE ratio of the S&P 500, if you consider that PE ratios are a proxy for investors' confidence in the outlook for corporate profits. PE ratios have been rising since September 2011, as the market absorbed the shock of the onset of the Eurozone sovereign debt crisis, which peaked in late 2011. However, PE ratios are still only "average" as the chart shows. There is no sign yet of the wild-eyed optimism that we saw in late 1999 and early 2000.
The chart above shows two more ways of looking at confidence: the price of gold and the yield on 5-yr TIPS (shown inverted, so that yields become a proxy for the price of TIPS). At the same time that bank deposits were surging, investors were piling into gold and TIPS, since both offer unique protections: gold is a classic refuge from all kinds of uncertainty, and TIPS are default-free and provide government-guaranteed protection from inflation. Demand for gold and TIPS was very strong up until about a year ago, but both have suffered from a substantial decline in price since. Just as the growth rate of savings deposits has declined over the past year, the price of gold and TIPS has declined as well. The demand for safe assets is down as confidence slowly returns. If confidence continues to increase, we should see the prices of gold and TIPS decline further.