Inflation is not abating
The rise in consumer prices, mainly energy and commodities, continued in the last quarter of the year. In terms of asset prices, 60% of OECD countries have house price inflation above 10%. In response, 46 central banks in emerging countries have already raised their key rates since the beginning of the year due to rising prices, compared with 17 in industrialized countries.
Key interest rates of major central banks remain virtually unchanged
Virtually no influential central banks, on the other hand, have dared to make the move:
- Despite expectations, concerns about inflation did not prompt the major central banks to raise their key interest rates in the last quarter of the year, with the notable exception of the Bank of England. This move would have signaled the end of the state of emergency of the monetary policy of the major central banks, which began 14 years ago with the financial crisis and extended until today by the pandemic. At Guide Finances we would like to congratulate this venerable institution for its courage in taking the risks of a just economic decision while others are delaying for political reasons;
- The FED has not yet uttered the word “rate hike”. However, in the U.S. market as well, bets are that there will be a turn of the interest rate screw before the end of 2023.
- Unlike the U.S. Federal Reserve, the ECB is not yet preparing a change in monetary policy. Despite the sharp rise in inflation in Europe, Christine Lagarde has explicitly warned against premature rate hikes. The SNB, in her wake, is still a long way off, and a rate hike in Switzerland may happen at the earliest in 2023 or even 2024 at the earliest.
Strengthening of the Swiss franc
The Swiss franc is still unaffected by the crisis of confidence and has continued to appreciate against the euro this quarter to just below 1.05, meaning that the SNB’s hard line of defense has been reached. This is despite the fact that the SNB has already intervened significantly in the first half of the year. While the SNB has so far tried to prevent the euro-Swiss franc rate from falling below 1.05, it is quite possible that it will only intervene in a determined manner below this threshold in the future. The SNB indicated this in November 2021, referring to the growing inflation differential with other countries (which is a positive effect of the strong franc that mitigates the effect of imported inflation).
However, there are not many obvious reasons for the strengthening of the Swiss franc at the end of this year. Indeed, we are not in a crisis, whereas the franc traditionally appreciates in times of crisis and stagnation.
The main reason could be that the Swiss franc is apparently better able to secure its purchasing power compared to other currencies (used for massive asset purchases). Thus, the lower inflation in Switzerland causes the “equilibrium” exchange rate to move successively downwards. The strength of the franc is therefore primarily a weakness of the single European currency, which does not inspire confidence and is losing value against the dollar.
Concerns in Turkey
The Turkish lira has already devalued by about 45 per cent against the Swiss franc this year, with very sharp movements at the end of the year. But this time the lira crisis is not only affecting Turkish financial institutions, as the Turkish financial system is now much more internationalized than it was during the Turkish currency crisis of 2001. Spanish, Italian, French and Dutch banks are involved in Turkey, but the impact should be small for the well-diversified investor since Turkey represents no more than one percent of the FTSE Emerging Markets Index. However, the strength of the Swiss franc and other currencies against the Turkish lira should not encourage you to engage in massive speculation. For an equity investment and although it is an attractive entry point, the 0.74% Total Expense Ratio of the iShares MSCI Turkey ETF is certainly already a deterrent. In particular, avoid “do-it-yourself” active management in emerging markets and prefer more diversified investment options.
Outlook for 2022
Over the past ten years, investors have done very well if they have ridden the wave of liquidity. However, those who have used valuation as the sole basis for their decisions are not looking so good today. This will not continue forever, as the liquidity party will eventually end.
If interest rates rise in the US in 2023 and in Europe in 2024, a stock market correction (but not a crash), or at least a sharp decline in equity returns, is likely in the medium term for developed countries and US large caps. As such, you should look for ETFs of markets with a margin of safety (similar to Warren Buffett’s approach to individual stocks) and avoid markets with a P/E above 35 (and some instruments covering the global market). A single investment in a global large cap index was a nice idea to allow everyone to participate in the stock market, but the huge flood of liquidity by central banks into the equity markets has distorted this direct royal road to wealth and a closer look has become necessary for any investor looking for long-term value. It is difficult to see through the clientelistic and politicized actions of some central banks (ECB in the lead), but some avenues are considered in previous articles, including the search for value in European or emerging indices.
Source: Der Franken ist stark - aber nicht wegen seiner Rolle als «sicherer Hafen», Neue Zürcher Zeitung, 10.11.2021 Das ist das Ende der Nullzins-Ära, Aargauer Zeitung Gesamt Regio, 03.11.2021 «Diese Inflation ist struktureller Natur», Finanz und Wirtschaft, 03.11.2021 Wenn die Zinswelt flacher wird, Finanz und Wirtschaft, 03.11.2021 Währungsabsturz in der Türkei beunruhigt Banken, Aargauer Zeitung Gesamt Regio, 30.11.2021