KUALA LUMPUR, Jan 10 — The 2018 outlook is expecting the reversal of quantitative easing (QE), rate hikes, and rising inflation pressures in the US to be amongst the most impactful factors for global financial markets in the upcoming year, said Templeton Global Macro Executive Vice President and Chief Investment Officer (CIO) Michael Hasenstab.
He said for nearly a decade, financial markets have surfed a wave of low-cost money in the US, courtesy of the US Federal Reserve’s (Fed’s) massive QE programs that were launched after the global financial crisis (GFC) of 2007 to 2009.
“QE has driven down yields and pushed up asset prices, steering many investors toward riskier assets whilst keeping the costs of capital artificially suppressed. This has distorted valuations in bonds and in equities.
“In short, the era of QE has created a seemingly complacent market that views persistently low yields as a permanent condition. However, these conditions are neither normal nor permanent, and we expect the reversal of QE by the Fed to meaningfully impact financial markets in 2018 and beyond,” said Hasenstab in a statement.
In addition, investors who are not prepared for the shift from the recovery era of monetary accommodation to the expansionary post-QE era may be exposed to significant risks. Markets could see sharp corrections to US Treasury (UST) yields in upcoming quarters, like the magnitude and speed of adjustments that occurred during the fourth-quarter of 2016, he added.
Hasenstab in the statement said the challenge for investor in 2018 will be that the traditional diversifying relationship between bonds and risk assets may not hold true in the new cycle of UST declines. It is likely possible to see risk assets also decline as the risk-free rate that yield on USTs ratchets higher.
“Additionally, as monetary accommodation unwinds, those positive correlations could continue but with the opposite effect — simultaneous declines across bonds, equities and global risk assets as we exit an unprecedented era of financial market distortions. These are the types of correlations and risks we are aiming to avoid in 2018,” stated the Templeton Global CIO.
However, the impact of Fed policy tightening on emerging markets should vary from country to country in the upcoming year, as there are still attractive valuations in specific countries, but not all emerging markets will fare well as rates rise.
“Countries that are more domestically driven and less reliant on global trade often have those idiosyncratic qualities along with inherent resiliencies to global shocks. A select few have already demonstrated that resilience in recent years, notably Indonesia.
“For others, economic risks are related to the reforms underway within their country, rather than what happens externally, such as in Brazil or Argentina,” said Hasenstab.
Source: The Malay Mail Online