Insights
Fed’s Hawkish Turn: Inflation No Longer “Transitory”
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December 10, 2021
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Fed’s Hawkish Turn: Inflation No Longer “Transitory”
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December 10, 2021
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Fed’s Hawkish Turn: Inflation No Longer “Transitory”
Fed’s Hawkish Turn: Inflation No Longer “Transitory” |
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Global markets fell sharply as Omicron, a new mutation of COVID emerged. Prior to the volatility on 26 November, markets had been up on the month, although having less momentum than previous rebounds. The S&P 500 and MSCI Europe Index subsequently closed the month down -0.7% (USD) and -2.5% (EUR) respectively 1. The MSCI Japan Index was down over the month at -2.9% (JPY)1. The MSCI Emerging Markets Index was hit harder, down -4.1% (USD).1
There was trouble for this year’s star sector, as energy became this month’s worst performing sector, with the MSCI ACWI Energy (TR) Index down -6.9% (USD)1. After a period of relatively low volatility, the VIX spiked to 28.62 on the day Omicron came to light, remaining elevated through to month end. It is still unclear how severe the new variant is and whether vaccines will provide enough defence. However, the uncertainty was enough of a catalyst for a selloff.
US interest rates likely to rise, but only moderately
Federal Reserve Chairman Jerome Powell’s Senate testimony as November drew to a close, was surprisingly hawkish, despite acknowledging the risk of Omicron. Chairman Powell’s indication that it is time to stop using the term “transitory” to describe inflation, accordingly triggered a negative market reaction. Indeed, if there are further port closures and supply issues as a result of this new variant of COVID, this is likely to exacerbate inflation. We expect US interest rates to rise, but only moderately because we expect the Fed to aim to minimise the impact on markets. However, in this higher risk environment, a path of normalisation for rates, which does not upset markets, but which effectively counters inflationary pressures, is getting increasingly difficult to achieve.
Global shipping disruptions – are we there yet?
With global supply chain disruptions having been with us for much of 2021, due to a combination of demand induced by the pandemic and supply bottlenecks – many are asking when this will finally be alleviated. Industry surveys indicate that 50% of respondents expect to wait until 1H22 and 33% until 2H22 for normalisation3
Investment Implications
On a forward-looking basis, the rising uncertainty about how much the Fed may taper, suggests maintaining a cautious risk exposure. Having trimmed our overweight to value in September, we have trimmed our underweight to growth in November. We also reduced our position in energy and added to Chinese internet equities from a tactical standpoint:
Global Energy
We have been overweight global energy since January 2021. We implemented this as part of our rotation to cyclicals and value. At the time, US and European energy were trading at a discount to the broader market, but fundamentals were improving. Since then, energy has soared and despite recent struggles, it is still the best performing sector year-to-date, with the MSCI ACWI Energy returning 32.2% (USD)4. With the US government taking action to curb the increase in oil prices – a trend which could cap the upside in the short term, we have trimmed to take profits.
Chinese Internet Equities
We implemented a modest overweight to Chinese internet equities in September 2021, given strong fundamentals, stablising regulatory headwinds and attractive valuations since the more than 50% decline since February 2021’s peak 5. We added to this position, given we should be closer to the bottom of the regulatory cycle and valuations remain attractive.
Tactical positioning
We have provided our tactical views below:
Source: MSIM GBaR team, as of 30 November 2021. For informational purposes and does not constitute an offer or a recommendation to buy or sell any particular security or to adopt any specific investment strategy. The tactical views expressed above are a broad reflection of our team’s views and implementations, expressed for client communication purposes. The information herein does not contend to address the financial objectives, situation, or specific needs of any individual investor.
Source: MSIM GBaR team, as of 30 November 2021. For informational purposes and does not constitute an offer or a recommendation to buy or sell any particular security or to adopt any specific investment strategy. The tactical views expressed above are a broad reflection of our team’s views and implementations, expressed for client communication purposes. The information herein does not contend to address the financial objectives, situation, or specific needs of any individual investor.
RISK CONSIDERATIONS
There is no assurance that the Strategy will achieve its investment objective. Portfolios are subject to market risk, which is the possibility that the market values of securities owned by the portfolio will decline and that the value of portfolio shares may therefore be less than what you paid for them. Market values can change daily due to economic and other events (e.g. natural disasters, health crises, terrorism, conflicts and social unrest) that affect markets, countries, companies or governments. It is difficult to predict the timing, duration, and potential adverse effects (e.g. portfolio liquidity) of events. Accordingly, you can lose money investing in this portfolio. Please be aware that this strategy may be subject to certain additional risks. There is the risk that the Adviser’s asset allocation methodology and assumptions regarding the Underlying Portfolios may be incorrect in light of actual market conditions and the Portfolio may not achieve its investment objective. Share prices also tend to be volatile and there is a significant possibility of loss. The portfolio’s investments in commodity-linked notes involve substantial risks, including risk of loss of a significant portion of their principal value. In addition to commodity risk, they may be subject to additional special risks, such as risk of loss of interest and principal, lack of secondary market and risk of greater volatility, that do not affect traditional equity and debt securities. Currency fluctuations could erase investment gains or add to investment losses. Fixed-income securities are subject to the ability of an issuer to make timely principal and interest payments (credit risk), changes in interest rates (interest-rate risk), the creditworthiness of the issuer and general market liquidity (market risk). In a rising interest-rate environment, bond prices may fall and may result in periods of volatility and increased portfolio redemptions. In a declining interest-rate environment, the portfolio may generate less income. Longer-term securities may be more sensitive to interest rate changes. Equity and foreign securities are generally more volatile than fixed income securities and are subject to currency, political, economic and market risks. Equity values fluctuate in response to activities specific to a company. Stocks of small-capitalization companies carry special risks, such as limited product lines, markets and financial resources, and greater market volatility than securities of larger, more established companies. The risks of investing in emerging market countries are greater than risks associated with investments in foreign developed markets. Exchange traded funds (ETFs) shares have many of the same risks as direct investments in common stocks or bonds and their market value will fluctuate as the value of the underlying index does. By investing in exchange traded funds ETFs and other Investment Funds, the portfolio absorbs both its own expenses and those of the ETFs and Investment Funds it invests in. Supply and demand for ETFs and Investment Funds may not be correlated to that of the underlying securities. Derivative instruments can be illiquid, may disproportionately increase losses and may have a potentially large negative impact on the portfolio’s performance. A currency forward is a hedging tool that does not involve any upfront payment. The use of leverage may increase volatility in the Portfolio.
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Managing Director
Global Balanced Risk Control Team
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Managing Director
Global Balanced Risk Control Team
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