The force and speed of monetary tightening may have been a shock but with the conditions for inflation easing, we are close to a peak in the interest rate cycle. As yields rise, the outlook for bonds will improve, while the peak in rates will also be good news for the equity market.
Central bankers who might be seeking credibility by raising rates more aggressively to fight inflation mustn’t lose sight of the macroeconomic picture. While a soft landing for the world economy is unlikely, central bankers can help avoid a deep recession by easing off policy tightening soon.
The end of quantitative easing could turn out to be a good thing for bond investors as low or negative yields could be a thing of the past. With higher yields, there is more chance that bonds will perform positively when riskier assets such as equities are falling in price.
We may be near the end of the interest rate cycle after the Fed’s aggressive ‘front-loading’ of rises. As imbalances created by the pandemic and disruptions caused by the war in Ukraine recede, lower inflation can be expected.
The US is feeling the worst effects of the global market downturn, with debate now turning to how bad a recession may be. Earnings growth in the Asia-Pacific is more stable than in the US, and expectations for 2023 are positive.
A strong US dollar is driving inflation and slowing growth in emerging market economies as trade becomes more expensive. Only when Fed hawkishness affects US growth expectations will dollar demand begin to ease, but the peak may still be a way off.
Asia faces higher energy prices like the rest of the world, but in the long run this will accelerate its transition to green energy. Falling prices for renewable energy projects combined with firm climate commitments will drive more power generation from renewable sources.
History suggests that if investors take a long view, returns will be positive through the tightening cycle. Furthermore, inflation is likely to peak in the next few months, and the medium-term outlook for equity returns should be healthy.
With the Omicron wave likely to peak soon, life might be returning to normal, albeit with adjustments. Most importantly, social restrictions including those on travel will gradually be lifted, with massive positive knock-on effects on economies.
The prospect of increased interest rates to combat rising global inflation may have caused a jump in short-term bond yields, but the longer outcome is more bleak. The reality is that yields have been below inflation for some time and that is not likely to change soon.
As carbon pricing becomes more widespread, global collaboration is needed to avoid carbon dumping and tackle broader economic implications such as inflation.
Energy demand is rising more quickly than the availability of renewable alternatives, emphasising the need for greater investment. The trend towards net-zero carbon will touch all parts of the economy, as shown in areas such as electric cars and ‘green steel’.
What happens to Treasury yields will signal how the environment is changing and what will happen to global interest rates, credit markets and more. If the Fed waits longer before it starts to taper its asset purchases, yields could quickly move lower.
Although Asia has underperformed the US and Europe since the first quarter of this year, current valuations are supportive of Asia’s stock markets. On the whole, Asia is well placed to deal with the virus and maintain strong economic growth.
The restricted use and security risks of bitcoin and other cryptocurrencies make them a poor alternative to traditional currencies, even if they could overcome widespread official disapproval. Central bank digital currencies, on the other hand, can help speed up transactions, reduce costs and improve security.
Global summits and national targets to reduce carbon emissions are gathering momentum with the mobilisation of capital in support. Investors have the techniques and data to make the right call when it comes to having a climate-aware portfolio.
After a year of restricted economic activity, pent-up demand is huge as people, firms and governments have cash to spend. High nominal GDP growth and low interest rates cannot coexist forever, but they will be a short-term boon to equity markets.
Central banks will not withdraw monetary policy support until inflation rises above 2 per cent for a sustained period. While a modest increase is to be expected, it is unlikely to be enough to push interest rates higher for some years to come.