Looking ahead at the remainder of 2010
As an investment team, there is one question that we currently
ponder more than any other and that is will a globally coordinated
second round of quantitative easing deliver the desired effect? We
debate economic data releases, we review our forecasts and we
assess asset class performance and correlations, but this question
remains at the forefront of our minds. Recent market reaction
suggests investors are placing a great deal of faith in the Fed
delivering a further stimulus and that it will be successful in
engineering an economic reversal of fortune. Cynics argue this is a
far too optimistic assumption given the track record of the first
round of quantitative easing and the action and commentary
delivered by the Fed through 2010. After all, this is the same Fed
that was contemplating its exit strategy just a short six months
ago and believed it could start to shrink its balance sheet last
spring. Moreover, this is the same Fed that passively tightened
policy with a 25 basis point hike in the discount rate to 0.75%
back in February. These comments provide credence to the notion the
world's largest economy is undertaking a monetary policy
'experiment', the results of which are impossible to predict. This
makes for an unstable outlook and a further period of volatility,
whatever guise QE2 takes.
Perhaps more concerning for us is the view that a further round
of quantitative easing is, in fact, a move to precipitate a wave of
competitive currency devaluations, as developed market economies
strive to re-build competitiveness and arrest the shift of economic
prosperity to the developing world. This could create a very
destabilising environment for global trade and a period of mistrust
that could take years to correct. The imbalances that exist must be
addressed and it is naive to think correction can occur without
creating some disharmony, however, a collapse in trade and
confidence in trading partners would be very damaging. Some of the
inflammatory statements issued after the recent meeting of finance
ministers and the International Monetary Fund (IMF) provide cause
for concern.
An investment environment where bond yields are falling,
equities are rising and gold is posting new highs is very unusual
and one that cannot last. Mixed messages disseminate and the need
to distil this information and invest according to its
interpretation is the difficult challenge faced by wealth managers
today. There are two pieces of wisdom that provide some guidance to
assessing the issues we currently face. The first -'be careful what
you wish for' - is something all investors pining for QE2 need to
ponder. The long-term impact of printing money and the de-basing of
the world's reserve currency does not have a precedent. Reference
to Germany in the 1920s and the collapse of the Weimar Republic
offers a sobering insight into what hyperinflation can do to a
developed economy. The second - 'buy on rumour, sell on fact' has
generally proved prudent and we believe it will be important to be
nimble as the clock ticks down to the next Federal Open Market
Committee (FOMC) meeting timetabled for early November, tipped by
many as the meeting at which the committee will announce its next
move.
To conclude, we are faced with a near-term outlook which will
continue to unsettle markets and a longer-term outlook which will
be shaped by policy action the likes of which the world will not
have seen before. From our perspective this backdrop demands a
consistency of approach, a disciplined investment process and a
commitment to keep the interests of investors at the forefront of
our minds.