Global Macro Thoughts
Abu Dhabi, 10 January 2018
Setting Out Our Stall
Global financial markets are facing a potentially more challenging environment in 2018/2019 as central banks begin to pare back monetary and fiscal stimulus and embark on the (hopefully gradual) process of balance sheet normalization
The global economic recovery post the financial crisis, fueled and emboldened by quantitative easing, will now be put to the real test. Economic growth must prove itself sustainable as the central bank life-support system is turned down
Longer dated core global yields are edging higher as the Bank of Japan becomes the latest central bank to announce a reduction in bond purchases
ECB held >EU130bn of corporate bonds (EU2.29tn total asset purchase program holdings) as of January 5.
The prospect of a higher yield structure over the coming months could be catalyst for risk asset price weakness and spread widening as investors adjust their asset allocation strategies, able to achieve a given yield bogey in more defensive assets
With inflationary pressures now expected to grow as the full effect of quantitative easing and persistently low interest rates is felt around the globe – with the result of pushing underlying yields higher – one clear implication for investors will be the need to hedge the interest rate risk in their portfolios.
But there is no imminent need for investors to be overly concerned. The withdrawal of central bank stimulus and balance sheet normalization seems to be gradual at best for the time being; the more bearish macro forecasts would paint a sustainable return to higher interest rates as aspirational.
Post-GFC economic growth has been fueled by central bank CB stimulus, which has seen most advanced and developing economies close the output gap between actual and potential economic growth; as such it may now be difficult to extend gains, even if stimulus remains constant, in the absence of structural reforms and new capital investment drives.
Moreover, the economic growth outlook will be constrained by approaching full employment (especially in the U.S.) and the implied rise in inflationary pressures; this will add weight to the case for monetary tightening (further stimulus withdrawal), which in turn will dampen the growth outlook
Bottom line: Macro uncertainties continue to support the case for the aforementioned ‘dovish tightening strategies’, although the path of least resistance for global yields through 2018 seems to remain higher.
Simon Ballard - Macro Strategist, Market Insights & Strategy
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