Here we go. It seems that the US central bank, The Federal Reserve (FED), is serious about regaining its credibility after a rather slow start to taming high inflation. At the FED meeting this week Jerome Powell, the FED Chairman, declared “We won’t declare victory until we see a series of consecutive, sharp declines in the monthly rate of inflation”. He put across a tough stance on dealing with inflation and increased interest rates by 0.75%, the highest rate increase since 1994, to tackle the highest inflation figure in 40 years. He later struck a softer conciliatory tone saying 0.75% rate rises would not be the norm, which markets briefly took as good news, before falling again whilst pondering yesterday’s announcement from the Bank of England that they expect inflation to be at 11% by October. Remember after the FED meeting in May, Powell stated that a rate rise in June of 0.75% was not under consideration! So much for forward guidance. Then, we also have Switzerland joining the party with a 0.5% rate rise, the first rise in 14 years and higher than most economists predicted.
The simple maths here is that by increasing interest rates, and thus the cost of debt, the central banks are trying to slow demand. Higher rates mean it costs more to borrow so companies and consumers spend less, therefore demand falls to a level where it no longer exceeds supply, and inflation starts to fall. Some of the inflationary pressures, however, are evidently out of their control. Powell cited the Russian invasion of the Ukraine as adding to inflationary pressures, along with COVID lockdowns as a result of China’s zero COVID policy had all worsened supply chain disruption and driven prices higher.
More importantly for markets gains in 2022, is the question “Is the FED’s new aggressive approach priced into the markets”? Thus, should policy become softer over the summer either if month on month inflation stabilises or recessionary forces start to build, can risk assets rally strongly if the FED and other major central banks step back from further aggressive rate rises? This makes the current pull back an attractive investment opportunity. Ultimately, we do not build client portfolios with purely mainstream market indices. We incorporate important diversifiers like physical gold, natural resources and energy storage companies to see us through periods of enhanced volatility, whilst waiting to pull the trigger on more growth orientated assets once the current storm passes. It is a time to remain patient and let us be vigilant for opportunities on your behalf. History has told us that these will come. Markets tend to run too strong on the upside and then too far on the downside for the news in front of us, therefore we remain confident that opportunities will arise over the summer for sensible longer-term investors. Market volatility is nothing new and we are managing it with a sensible approach as you would expect.
Do have a lovely weekend, as always, should you have any questions, please do not hesitate to be in touch.
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