LONDON, Nov. 10 (Reuters) – If an investor tells you they are sure what will happen next in macro markets, they are likely to be lying.
Such is the confusion in political and investment circles right now about inflation, output, employment, financial prices, and central bank policy that it is probably impossible to predict. with conviction the next 3 to 6 months.
Ironically, there seems to be a lot less uncertainty over the long-term horizon – where risk premiums have traditionally been much higher because more can happen overnight over extended periods of time.
But it may be easier for forecasters to look past the unprecedented pandemic bottlenecks and labor market distortions than to navigate a Nordic winter of still largely skewed economic statistics and political nervousness.
After the dizzying swings in short-term interest rates over the past two weeks – due in part to the misconduct of the world’s major central banks – market conviction regarding the coming months is understandably low.
Again this week there was what ING’s Rob Carnell called a “cacophony” of central bank rhetoric that fail to clarify the big picture for “messy and directionless” markets and do much more to encourage thoughts of divergence and volatility.
Adding to the complexity, Federal Reserve Chairman Jerome Powell adopted a conciliatory tone, pointing out that the Fed is looking closely at disparities in the labor market rather than just numbers to assess maximum employment.
But his colleagues still sing from very different hymn sheets. On Monday alone, Fed Vice President Richard Clarida said the conditions for the interest rate hike could be in place by the end of 2022; St Louis Fed chief James Bullard has agreed with markets that there will be two rate hikes by then; but Chicago Fed boss Charles Evans doesn’t expect any until 2023.
It even assumes that investors can judge the Fed’s mood from those in the hot seat right now. They still don’t know if Powell will be re-elected as President when his term expires in February. And this week’s decision by top banking supervisor Randal Quarles to step down next month leaves at least two vacant board seats before the end of the year.
Despite facing similar inflation and employment challenges, the Fed’s foreign peers appear to be on equally difficult paths.
European Central Bank officials pushed back market prices for a small ECB rate hike next year, and chief economist Philip Lane again led the charge this week by insisting that higher rates next year could be counterproductive.
And yet, Isabel Schnabel, a member of the ECB’s board of directors, said the bank cannot ignore soaring house prices, while banking supervisor Andrea Enria has pointed out that low interest rates are hurting more to bank margins than they increase lending volumes.
Faith in Bank of England chief Andrew Bailey’s speech was dug below the waterline last week after spending a month tricking markets into thinking a UK rate hike was possible, then voted against one at last Thursday’s meeting. While still pointing to higher rates, he also insists that a credit crunch does nothing to resolve supply-distorted inflation spikes.
A SET OF PARTS
The return to fundamental models of where interest rates should end at the end of the cycle – the so-called terminal rates – provides some anchor for bond and currency markets.
But even that presupposes that this center-mandated global recession and rebound of the past 18 months is like any other cycle we’ve seen.
And for many, there’s just no consensus now on how we’re going from here to there.
A JPMorgan survey of its customers this week asked whether the markets or central banks were right in their interest rate expectations for the coming year. The answer was split 50-50 – just like so many other questions she asked about the positioning of stocks or bonds.
And it’s not just a matter of clarity.
Few people envy the central bank conundrum. Walk too early and they risk interrupting the recovery before it matures; jump the gun on other countries and you risk a rising currency amplifying the blow; or simply do nothing and risk entrenching inflation.
Mark Nash of Jupiter’s Fixed Income Alternatives thinks the Fed is an “unenviable position” and “must choose between economic price stability and stock price stability.”
Added to this dilemma are the financial stability arms of central banks which once again this week warned that easy and persistent money threatens to explode bubbles in everything from stocks to crypto tokens and even stocks.
What Should Investors Do? Many just seem to be staying long on stocks, buying inflation-protected bonds, and crossing their fingers.
The seemingly endless fall in inflation-protected government bond yields to ever-lower records below zero reflects exactly that. Inflation-linked bond yields are now below -1.1% in the United States, below -2.0% in Germany and below -3.2% in Great Britain.
Sonal Desai, director of fixed income IT at Franklin Templeton, believes it will depend on how the post-pandemic labor supply ends and how quickly returning job seekers can prevent them. temporary inflation spikes to start a wage-price spiral. But she admits it could take a lot longer to assess than the markets have patience for.
“For now, however, investors would do better to prepare for sluggish labor supply, persistent inflation and mounting financial volatility.”
by Mike Dolan, Twitter: @reutersMikeD Editing by Mark Potter
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