As we await further updates from the US Federal Reserve (Fed) on how they intend to counter high and persistent inflation and cool demand for goods, valuations in equity and bond markets are adjusting and we are experiencing a period of heightened market volatility. I wanted to write a little ahead of my usual weekly update to provide some reassurance.
As already commented on last week, market volatility and repositioning is focussed on this impending shift to a tighter monetary environment, the deteriorating growth/inflation trade-off and a rise in geo-political tensions. In terms of monetary policy expectations, markets appear to be expecting four rate hikes from the Fed for 2022 and an additional three priced in for 2023. To put this into context, the Fed is simply taking two years to reverse interest rate cuts it put in place in the space of less than two weeks in March 2020. If market pricing is correct, we will be back to where we were in terms of interest rate levels on the eve of the pandemic – no more than that.
The heightened tension between Russia and “The West” over the Ukraine border have added further complexities to market moves. The outcome is only binary at a very simplistic level (Russia invades or doesn’t), but even that begs the question of what markets should respond to. Russia does not want NATO on its doorstep, which would be the result of Ukraine joining the organisation. There is also a school of thought that a key driver of Russian political ambitions for many, many years has been to secure access to a warm-water port for its naval forces. Exerting more control over Ukraine would be a way of securing more access to the Black Sea. It is unfortunate timing that matters are reaching a head at such a sensitive time for investment markets.
Ultimately, all of the commentary above has now happened, and the market has reacted to it. It is not the time to act hastily or rashly. The investment team had positioned their portfolios with a more defensive tilt coming into 2022, and whilst this was a little painful at the start of year as markets kept grinding higher, this positioning is now starting to look very apt. We will continue to monitor developments and invest tactically as new information comes through, but, for now, please do not worry. Equity corrections are part and parcel of a long-term investment journey. We navigated successfully through them in 2001, 2008, 2011, 2016 and 2020 and will do so in 2022 for as long as this volatility lasts.
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