In these turbulent times of crisis, instability and low growth, when central banks are exhausting their monetary ammunition can, investors still be confident about what markets have in store?
Gone are the days when the European economy was neither too hot nor too cold, but just right. The ‘Goldilocks Environment’ of moderate inflation and steady growth has come to an end, shifting our economy towards the Japanese model – a combination of low growth and low inflation. Due to recent factors, including the ongoing political and trade tensions (US-China, but also US-EU) and the COVID-19 outbreak, such an unstable, unexciting scenario becomes even more critical – driving governments and central banks to take sudden, significant measures. So, what do markets look like right now, and where should we seek solutions?
A TOUGH SCENARIO
The expected GDP growth in developed markets is historically low overall. Due to Coronavirus, significant blows are being registered worldwide, not just in China, and stock markets have adjusted substantially (US stocks recently saw the worst percentage drop since 1987). Commentators refer to ‘relatively’ low inflation because it’s now on the rise in the Eurozone, making it even harder for investors to get real returns and for the banking sector to loan money profitably. The unfortunate combination of both the sides of supply and demand being in a state of shock is making an already unstable global economic system even more precarious.
In times like these, the world’s attention is on the monetary policies pursued by governments and central banks – who, seem to be adopting a whatever-it-takes mentality to tackle the economic cost of COVID-19. The Fed tends to favour the interest rate tool, but it’s hard to rely on it when there’s not much room for more cuts – while in the Eurozone the rates are already at their lowest. Quantitative easing tactics, on the other hand, remain a favourite of European Central Bank, even though they are diminishing returns, to say the very least.
The prospect of a market crash, one that central banks can’t prevent with any more monetary tactics, seems very realistic. As governments might try harder to influence interest rates and gain consensus, we might also see central bank independence increase – we’ve already seen indications of this in the US. Governments will probably be driven to leave monetary policies aside, as well as the fiscal ones, and stimulate growth through tax and employment policies instead. To help their economies face today’s crisis, governments worldwide will need to issue an unprecedented number of bonds. Balancing such high levels of borrowing and expenditure with a low growth scenario on the verge of long, global recession will be a significant challenge.
READJUSTING TO A ‘NEW NORMALITY’
So, where does this leave investors? Everyone operating in the current investing world needs to look at such a low base rate environment as the new normal. It will be harder, but possible, to find good opportunities. Embracing higher-risk strategies can be a way to make money work harder, provided that attractive return prospects are not matched by an unacceptable level of volatility. If consistently low rates make markets more unstable, we need to find a new idea of stability.
As a result of both the current crisis and the monetary policies adopted to tackle it, the differences between markets may be deeper than ever. Europe-based investors will be likely to be attracted by overseas Equity and Bonds, featuring higher interest rates and higher growth compared to the European ones.
The bond market will be strongly influenced by Coronavirus. As countries face the outbreak, government bonds will be largely available, offering a certain safety and yields that barely match inflation. Corporate bonds on the other hand, which are riskier and offer more promising yield prospects, will be more attractive for many investors and consequently get pricier.
Private debt will be the source of many opportunities too. Investing in unlisted companies and infrastructure will be less affected by politics and policies, and will allow investors to finance the growth of the real economy while seeking positive returns.
In an unstable economic world with a low yield environment and uncertain prospects, there is still plenty of upside.
AT BNP Paribas Asset Management, we look at investment from all different angles. This is why we truly believe that instability produces opportunity. What might seem stifling from one point of view could also be seen as a real opportunity for growth. It’s why we investigate before we invest, and look beyond the headlines to explore the good, the bad and the ugly of the investment world.
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