INFLATION, politics and war makes for a challenging environment for investors.
About the only sure thing is that interest rates will rise, though by how much remains unknown.
By lifting the official interest rate last week and laying out a timetable of rate increases for the rest of the year, the US Federal Reserve joined a host of other central bank in a tightening cycle.
“There was already a political inflation issue in the US and the crisis in Europe has exacerbated the inflation pressure in the United States,” says Nudgem Richyal (pictured below), co-manager of Pendal Global Select Fund. “The US Federal Reserve Fed had little room.
“It shows that the stock market, which was up 29 per cent last year in the US, is not the Fed’s priority at the moment.
“Its priority is to try and tame inflation — and there’s political pressure to do so because President Joe Biden is on the record saying the inflation is something the Fed fixes.”
Add to that mid-term elections later this year where control of the House of Representatives is up for grabs, and inflation is clearly the number one public policy issue for the Fed.
“Many Americans live on low incomes and feel inflation acutely,” Richyal says. “People who are living pay check to pay check really care about gas prices and food prices and rent payments.”
Pendal Global Select Fund
Something very different in global equities
Another complication is that sharp, upward moves in crude oil often precedes a recession.
“The Fed could find itself raising rates to curtail demand to try and get inflation under control. But the energy price is itself curtailing demand.
“So, you have this non-negligible risk of the Fed raising rates into a slowdown.
“The Fed may even be raising rates into what we realise, ex-poste, is a recession. That’s when you get stagflation.”
“If equities and bonds fall together, then that’s a market proxy for inflation, so we have to look at what tends to work in that environment.
“Historically the sectors that do best, in a relative sense, include consumer staples and healthcare,” Richyal says.
“They are sectors where businesses have pricing power and can pass on the cost of goods — where goods have limited substitute products.
“Relative earnings in those sectors will start to look better. The tend to have a more stable earnings profile. They will be crimped to some extent but will do relatively better.”
But there are still plenty of unknowns in the quarters ahead, cautions Richyal.
“If the Fed capitulates and goes back to printing money, you’d get asset inflation and that would be great for markets.
“But it wouldn’t be good for society and the people living hand to mouth. That’s not going to happen because inflation is politically unpalatable.
“If there’s a commodity price induced recession while the Fed is raising interest rates, then that will do some of the central bank’s job for it, and they may not lift rates as much.
“If the whole issue of supply chain disruptions resolves itself, and the war is over quickly and supply chains improve, it’s possible that economies could move back into structural disinflation.
That would be great for the person in the street and might be good for market participants as well.
“But that seems a bit of a long shot right now.”
Nudgem Richyal co-manages Pendal Global Select Fund with Chris Lees. The pair have been working together in global equities investing for more than 20 years.
Nudgem has 22 years of industry experience, joining J O Hambro Capital Management (a wholly owned subsidiary of Pendal Group) with Chris in 2008. He was previously an investment director with the Global Equity Group of Baring Asset Management, where he worked closely with Chris since 2001.
Pendal Global Select Fund is a global equities portfolio with a distinctive, yet proven approach and a 17-year track record of outperformance. Since its inception, the underlying strategy (JOHCM Global Select Fund) has delivered top-decile performance in Lipper and 2nd decile in Morningstar.*
Pendal is an independent, global investment management business focused on delivering superior investment returns for our clients through active management. Pendal Group includes Pendal Australia, J O Hambro Capital Management, Regnan and Thompson, Siegel and Walmsley (TSW).
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