1 December 2021
“If opportunity doesn’t knock, build a door?” – Milton Berle
It seems COVID is the virus that keeps on giving. With the latest strain named Omicron, the world has once again been put on notice. It’s no surprise people have developed a certain amount of PTSD to the news of any new variant with fears of further lockdowns setting the cat amongst the pigeons when it comes to potential economic impacts. At the same time, there is a certain amount of resilience building across countries, and it appears the impact of the latest may be somewhat contained. That said, financial markets have nonetheless been significantly more volatile than usual as this latest spanner in the works takes its toll.
The volatility of late in the equity markets has served to highlight once again the safety of bonds and fixed income. On the back of aggressive corrections in US equity markets, we saw bond markets rally as investors implemented risk-off strategies which is why we continue to advocate the importance of having a decent weighting to bonds in any balanced portfolio.
Perhaps the most significant piece of data released recently suggests the FOMC may now be looking to accelerate its tapering measures on the back of growing inflation fears in the US. Investors should keep a close eye on the FOMC’s December 14-15 meeting which is expected to mention a change in outlook suggesting rate hikes may be brought forward. This policy approach will be the result of a careful assessment of the spectrum of risks that the US economy faces.
In terms of employment in the US, ironically the risk now is that labour demand runs too far ahead of labour supply in coming months as participation remains impaired, leading to unsustainable gains in wages and additional support for already-elevated inflation expectations. The situation in Australia is essentially mirroring the US, with the market approaching full employment, inflationary expectations are increasing and will be a key factor in determining the outlook for interest rates.
Rightly or wrongly, until we see an actual move by some of these central banks anything is possible, and these projections are subject to so many variables lining up that the ball is still in the air when it comes to monetary policy.
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In summary, the outlook for markets remains in flux. Central banks are still in a holding pattern but ready to pull the trigger on tighter monetary policy. There are still a lot of variables that need to line up before we see a marked change to interest rates. In the meantime, and considering the recent volatility in equity markets, it further strengthens the case for increasing the allocation to fixed income across any portfolio.
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