EMR April 2022
In the Fokus
Die derzeitigen geopolitischen Umwälzungen verändern die wirtschaftlichen Aussichten und deuten, zusammen mit der durch Preisschocks verursachten Stagflation, auf eine weithin befürchtete Konjunkturabschwächung hin. Die Entwicklung der amerikanischen und europäischen Aktienindizes, der Anstieg des Goldpreises und die rasante Verteuerung von Rohöl und Gütern deuten darauf hin, dass die Preise nicht nur kurzfristig steigen werden.
The current geopolitical upheaval is changing the economic outlook and together with stagflation, caused by price shocks, points to a widely feared economic slowdown. The developments in the American and European stock indices, the increase in the price of gold and the rapid increase in the price of crude oil and goods indicate that prices will rise not only short-term.
What can we learn from history? If we look to the stock market indices from February 23 to April 1, 2022 the strongest negative impact on equities relates to the German, British and Swiss indices, while the price of gold increased by 4%. Worthwhile recalling are the past swings. Swiss inflation rose first in the early 1970`s, while US inflation peaked in the early 1980`s. So far in 2022 the rate of growth of the US CPI is once again quickly on the way up.
Over the short-to-medium term, further price shocks can be expected as a consequence of the Russian invasion in the Ukraine. Prices for commodities (e.g., oil and gas) and for food (e.g., wheat, corn, and soybeans) will continue to increase. For forecasters, it would indeed be rewarding to compare and analyze the assumed similar downward corrections of consumer prices of 1950-51, 1975 (following the oil crisis) and especially in the early 1980`s (following the energy crisis) and more recently (following the financial crisis of 2007-2009)! See chart on CPI Index.
The effects of the recent and still ongoing Covid-19 pandemic make it considerably more difficult to quantify the return of price advances to more normal levels. The impact of international trade and various economic policy measures on prices should not be neglected either. The current conflict on the EU’s border is unlikely to remain attractive to consumers in Western countries, especially as wage increases could be significantly delayed. Moreover, it is very difficult to quantify the whereabouts over time of supply chains.
International comparisons are currently further complicated by the split at the currency level, with the surprisingly rapid rush to the traditional safety currencies: the Swiss franc and the US dollar. The consequences of the inhumane tragedy cannot be underestimated. There will be repercussions on both sides of the Atlantic regarding inflation, economic growth and interest rates, and thus for monetary policy. It is worthwhile recalling that on March 16, 2022, the Fed decided to raise the federal funds rate by 0.25 basis point. Chairman Powell indicated that the Fed plans six more rate hikes in 2022. It can therefore be assumed that the European and Japanese monetary authorities will sooner or later follow the U.S. example.
International currency sanctions are causing tensions. The intention is to constrain the Russian economy and the immense wealth of the Russian oligarchs. However, it is clear that the measures will not only hit the aggressors, but also the investment policies of the Western world. The power of the financial world, hampered by the availability of hard data, clearly points to a financial blockade.
More and more politicians, central bankers, economists and the general public are pointing to rising inflation and inflationary pressures. At this stage, the chart of spot crude oil prices is instructive, as shown by the West Texas Intermediate (WTI) price. Will these developments lead to rising and sustained inflation? The chat indicates a renewed rapid rise in prices. The question that arises is: will the price of crude oil last as long as it did in the period after 2000?
At this stage, we are much more concerned about the trend reversal of globalization and its impact on businesses and government policies. Recall that the recent rise in inflation has been and will continue to be caused primarily by increasing commodity prices and bottlenecks in industrial supply chains at the global level.
We expect that it will take some time before the impact of the continuing Russian ag-gression can be clearly assessed. The longer it lasts, the more it will undoubtedly con-tribute to raising the prices of energy and all other consumer goods, and even more so of capital goods, especially in the area of international trade. It would then be assumed that the economic situation would have consequences for the free world. It would lead to the reversal of globalization. Consumers, entrepreneurs and governments would suffer, also depending on the length of the financial and economic embargoes. It is likely that it would be difficult and expensive to repatriate some of the production. A difficult ques-tion, in the context of rising inflation, concerns the ability to bear the corresponding costs of “repatriating” production without further fueling protectionism.
At this point, it is worth remembering that forecasters face a particularly difficult quantification exercise given specific implications for the supply and demand sides of the equation. One can be more pessimistic or more optimistic depending on the weight given to the supply or demand side. We prefer to focus on the interdependencies and remain somewhat more constructive than the most vocal forecasters. The fact is, that the invasion of the Ukraine and the resulting liquidity tightening will continue to support inflation for some time. The associated liquidity squeeze, combined with the rise in commodity prices, suggests a slowdown in economic activity and rising interest rates. In this circumstance we assume that the most deterministic assumption concerns the expected reversal toward significantly higher domestic output. If it actually occurs, this would imply higher production costs at least in the short-to-medium term, thus arguing for persistently higher inflation rates compared with earlier comparable periods. Countries with significantly higher domestic production stand to benefit.
The second deterministic assumption relates to the efficiency and international independence of the financial environment. The U.S., with its much stronger domestic orientation, should benefit compared to, for example, Europe and Japan. Switzerland could “benefit” from a higher Swiss franc and rather sustained liquidity compared to the EUR and the pound sterling.
The third deterministic assumption relates to the attractiveness of the respective currencies. A concrete example is the impact of the trade deficit on the YEN/USD exchange rate since the start of the Russian invasion of Ukraine on February 23, 2022. The depreciation on April 1, 2022 amounts to 6.14%. These developments have and will continue to have an impact on the country allocation process. In other words, in a phase of high and prolonged volatility, be it in relation to economic growth, inflationary trends and the flight of capital in search of safety, as well as specific difficulties at sector and/or company level, require focused attention to a much more selective approach than the one used in recent times.
Findings for Investors
Given the rather unpredictable prospects of an early end of the Russian invasion of the Ukraine, we tend to take the following investment approach:
For the Swiss franc investor, an above-average exposure to the domestic market and currency looks promising indeed. International diversification should focus on those economies that are able and willing to increase domestic production, especially of intermediate goods and services.
Given the higher cost of money and below-inflation bond yields, investors should continue to focus on equities rather than fixed-income securities. Our view remains influenced by the statement of Fed Chairman Powell, of March 16, 2022, regarding six possible further interest rate hikes.
Comments are welcome.