17/05/2022 16:00
“The Federal Reserve promises to do whatever it takes to bring inflation down. There is no time limit, but on the other hand a specific goal is assigned. It is not a question of going down from 8 to 6 and then maybe 4% and then seeing what happens and if so, stop there. The Fed, says Powell as clearly as possible, intends to return to 2% and weed out the roots that inflation is placing in the expectations of economic subjects ”. Start like this Alessandro Fugnoli, Strategist of Kairos, in his monthly podcast “On the 4th floor”which bears the title of “In Purgatory. The price to pay for inflation to return to two percent “. Fugnoli explains in the podcast how set up investment portfolios in this transition phasewhere the action of Central Banks continues to be essential to bring down inflation by acting on demand, regulating it through interest rates and with the direct injection of liquidity or, on the contrary, destroying liquidity ”.
The strategist recalls that “central banks cannot act on supply, they cannot solve the problem of congested ports or Chinese factories closed due to Covid. They can’t blow out new oil or new gas to compensate for what we are losing as a result of investments in fossil energy canceled in recent years or due to sanctions against Russia. Central banks can only act on demand, regulating it through interest rates and through the direct injection of liquidity, or, on the contrary, destroying liquidity ”. Now, “in the past decade, when the risk was that of deflation, central banks tried to stimulate demand by bringing rates to zero or below zero and widening the monetary base through quantitative easing. Stock exchanges and the real estate market, considered instruments of monetary policy, were also used to stimulate demand. In fact, raising stock exchanges and house prices created a wealth effect which translated into greater willingness to spend. In this way it was thought that the wealth would be percolated from top to bottom and would also be distributed among those who did not own shares or houses ”.
Ma “this time there is no deflation to fight, but its opposite, inflation ”. Which implies that “the mechanism of the last decade must therefore work in reverse. It is then about deflate a part of the wealth that has been created, in particular that formed in the last two years following the enormous monetary and fiscal stimuli put in place to combat the economic effects of the pandemic. Beware, the Federal Reserve does not intend to lead to a recession that it hopes to be able to avoid. It is therefore not, especially on the real economy, that the effects of monetary normalization will be seen, as for financial and real assets “.
“The correction of the values of these assets – continues Alessandro Fugnoli – has already reached a good point as far as the bond and stock market is concerned, but it is only just beginning as regards the American real estate market. How long will this purgatory from the excesses of the past two years last? Although there will be phases of market recovery, one of which is expected to arrive at the end of this year, the pressure from central banks will not stop immediately, but will remain high for the rest of this year and for a good part of the year. next one”.
That said, “what should comfort investors is that this process does not happen in disorder, but is controlled, managed and wanted by central banks. Another element to consider is that, once this phase of strong correction is over, the markets will be able to restart, perhaps as early as the end of next year, with a solid and lasting bullish bias ”.
So what to do in “this transition phase”? Fugnoli replies:
“We must avoid falling into the temptation to buy the more speculative components of the bond and stock market too soon. Better to focus on low multiple sectors and financially sound companies. The correction will also affect commodities, but it will be cyclical, not structural. As for currencies, the dollar will remain strong until the upward movement in interest rates is over. The energetic cure the world is moving towards will come at a cost. If it is stopped halfway, the risk is that inflation, albeit a little lower than today, will remain on the scene for the whole decade. If the treatment is continued to the end, the global economy and financial markets will regain stability and growth capacity ”.