Wealth Management: Strategy blog – Bravo, Mr Chairman
Strategy team - Kevin Gardiner and Victor Balfour (Wealth Management)
It has not exactly helped portfolios in the short-term, but in my opinion the Fed did the right thing in raising rates and trimming its forward guidance only marginally.
Firstly, and most importantly, the data does not yet show a more meaningful reduction in inflation risk in a fully-employed US economy. Stocks' sell-off, though painful for us as investors, may not be significantly deflationary in itself - and markets are not infallible forecasters.
Secondly, after Mr Trump's awkward interventions, if the Fed had been more accommodating, questions would have been raised about its independence. There are few things economists agree about, but the value of a politically untainted central bank is one of them.
I'd prefer an independent central bank that occasionally makes mistakes to one which uses lower interest rates to buy votes. And as noted, I don't think this is a mistake.
If the US economy today is materially affected by marginal changes to interest rates and the pace of balance sheet reduction (the Fed left its quantitative tightening programme on 'auto pilot'), then it's a lot more fragile than I think it is.
Those rates, in inflation-adjusted terms, are still below most notions of 'normal'. And the Fed's earlier quantitative easing seemed to me to be less an engine of growth, and more a crash barrier for the banking sector: take it away, and the US economy's wheels can keep turning nonetheless (provided it drives carefully…).
In the short-term, lots of people are asserting this is indeed a policy mistake, and that the last nine years' recovery and growth in corporate profits has been a house built on sand.
We can't prove that it isn't: only time will tell. But the idea that the world was a better place when currencies were pegged to gold - which is, at heart, what underpins the current obsession with debt and finance generally as a driver of economic growth - is surely mistaken. As someone said in another context, 'I wish I'd known they were the good old days at the time...'.
In the meantime, monetary credibility has been boosted, but markets - hoping for the sugar rush of lower rates for longer - haven't. And Santa is now leaving it rather late this year.
Most multi-asset portfolios - in most currencies - are lagging consumer prices and wages in 2018, for the first time since 2008 (real losses then were much larger, of course).
In the US, stocks, treasuries and credit are all down in price - as is gold. 2018 may also have put the 'crypt' into 'cryptocurrencies', though they were not really credible assets to begin with.
Looking back to the start of the year, we had been spoiled by 2017, when most assets rose, and indeed by most of the last decade, during which the returns to stocks in particular were boosted by the rebound from the Global Financial Crisis.
History reminds us - as we note in Market Perspective - that capital markets collectively have not always delivered the sort of inflation-beating returns we seek, at least when viewed from a top-down perspective. Sometimes, whole decades have passed without them doing so - usually when inflation itself has been relatively high, posing a difficult hurdle for bonds in particular.
As we face the New Year, investors' collective appetite for risk is low, and safe haven assets are better bid than stocks and credit.
But in Europe, the yields on most of those assets are already below inflation, and in the US they are barely ahead. The chances of government bonds leading multi-asset portfolios higher from here seem slim - particularly since the environment in which they are most likely to do so would be one in which stocks were not just marking time but falling further.
Put bluntly, stocks are the most important driver of investment performance, most of the time. They are the most volatile asset, represent the biggest portion of most long-term portfolios - and in our view offer the best chances of inflation-beating long-term returns.
Unfortunately, the investment case for stocks currently feels as if it is built on the absence of bad news, rather than a more positive outlook: a big US-led recession seems unlikely; corporate profits will slow sharply but not collapse; the tariff war need not resume; China's economy is not likely to slow more dramatically; the US president may not be impeached; the French president's reform programme may not go into reverse; a no-deal Brexit can be avoided. But in my experience, it often is.
'Bad stuff can be avoided' is perhaps not the most inspiring end-year strategy message. But if quite a bit of that bad stuff is priced-in, it might - eventually - be a profitable one.
Disclaimer
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