The Near-Far Problem

Current Funding Environment

Healthcare 2023 issuance is down 60% versus the same time frame in 2022. What few offerings have come have been generally well received, but the depth of the demand side is unclear, and the supply side is likely to remain light until credit positions stabilize or external capital access becomes critical. Healthcare organizations have certainly raised lots of capital in rate environments that are higher than what we confront today, so prevailing light issuance seems grounded more in uncertainty around the sector’s credit and investment thesis.

SIFMA reset this week at 2.21%, which is approximately 46% of 1-Month LIBOR and represents a -121 basis point adjustment versus the February 22, 2023, reset.

Mixed Signals

As an homage to that great weatherman Phil Connors, I’m guessing that Fed Chairman Jerome Powell’s ringtone is Sonny and Cher’s “I Got You Babe.” Powell’s latest episode of Groundhog Day was last Tuesday in front of Congress when he reiterated that the journey back to the Fed’s 2.00% target inflation rate “has a long way to go and is likely to be bumpy.“ His quote of the week was that “the latest economic data have come in stronger than expected, which suggests that the ultimate level of interest rates is likely to be higher than previously anticipated.” He went on to reiterate his view that inflation is proving especially intractable in the services sector (where healthcare sits) and that the Fed is prepared to increase the pace and magnitude of rate hikes. Markets sold off sharply because maybe all this was news to investors?

One indicator that supposedly serves as a harbinger of recession is inversion between 10-year and 2-year Treasuries. After a long hiatus, this inversion appeared around August 2022 and has since increased to levels not seen since the early 1980s. On March 8, 2023, the 10-year versus 2-year spread reached minus 1.084%, which is still a long way from the minus 2.017% spread posted on March 1, 1980, but is the worst showing since late 1981 and much worse than the plus 0.3868% on March 1, 2022. Meanwhile, in rates land, the 10-year Treasury closed at a whopping 3.923% on March 8, 2023, which is 2.196% higher than March 1, 2022, but 8.799% lower than March 1, 1980, and 1.785% lower than the average from 1980 to present.

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This is a challenging set of data. If you look just through the spread lens, it seems like we are headed into dangerous recession territory that hasn’t been explored for over 40 years. But when you look just at the 10-year rate, the environment still seems accommodative relative to historical markers. I want the Fed to succeed in taming inflation, but I keep thinking that our economy is broad and deep enough to avoid the kind of slowdown the Fed wants to engineer so long as benchmark capital funding rates remain below long-term averages. It’s an unsettling paradox.

During the early stages of COVID dislocation we offered a “Now, Near, and Far” construct for how organizations should gauge our individual and collective passage through the pandemic:

• Now: the shortest horizon and the transition from the chaos of crisis and dislocation into the first hints of stabilization.
• Near: the intermediate horizon and the migration through all the volatility that might characterize stabilization onto the firmer footing of early normalization.
• Far: moving all the way into a “new normal” that brings with it the ability to shift fully into return optimization within a stable business model.

This is still a very useful construct, but it seems we are now stuck in a situation where the scale and magnitude of Now-Near possibilities are overwhelming everything. In communication systems there is a phenomenon referred to as the “Near-Far problem,” which is when a signal from a nearer (stronger) source interferes with a receiver’s ability to hear the signal from a farther (weaker) source. The result is a breakdown in the effectiveness of the system.

This Near-Far problem is an interesting analogy for today’s healthcare challenge: we start with a Now in which every part of the system’s credit and capital formation equation is broken; and then we add a Near that is so dissonant that it is signaling not just volatility but potentially profoundly different structural outcomes; all of which leaves the weakest signal—the Far—effectively jammed and inaccessible.

The Near-Far problem gets solved through some combination of three initiatives:

1. Using directional antennas to better isolate on the Far signal source (for healthcare, this might mean better or more targeted operating, financing, and investing initiatives)
2. Using filters to minimize every undesirable signal flooding the system (revisiting what is “core” and maintaining a strong balance sheet as a buffer against operating dislocation)
3. Installing systems to help boost the first two strategies (developing and implementing integrated resource-allocation-oriented frameworks)

Every Far healthcare scenario is grounded in operations and rebalancing the volume-revenue-expense equation. The path to the Far—whatever that turns out to be—is going to be long and bumpy and the exact look and feel of the destination is masked by a broken Now and the haze of a wildly multi-variable Near. Your balance sheet is the only buffer or bridge, but it has its own Near-Far problems that are complicating its role and reliability. All this means that energy and attention must be focused on properly positioning balance sheet resources: do you have the tools to define and implement the right liquidity strategy, both amount and composition? Do you need (versus want) to maintain a rating position and how does that priority compare to accessing external capital or liquidity? Do you have the right investment platform and strategy given what you are confronting or trying to achieve across operations and financing?

It turns out, I’ve got a lot of Phil Connors in me too: balance sheet is the foundation on which operations and strategy sit, and integrated resource allocation offers more solid footing than transactional resource allocation.