Mosaique Views - Staying constructive

Dr. Carlos Mejia, CIO, Rothschild & Co Bank AG and Kevin Gardiner, Global Investment Strategist

February - March 2022

Covid risk has faded, and growth is intact: inflation and interest rates are the focus now

Contagion has thankfully faded now, but even when Omicron was rife, Western governments did not react by locking down economies again: for now at least, Covid-19 does not drive the investment agenda in the way it once did. Instead, with the global economy retaining some momentum into the New Year, inflation risk and the likely interest rate response is uppermost in investors’ minds –as we thought it might be.

Central banks have allowed economies to “run hot”, but with inflation at multi-decade highs on both sides of the Atlantic, and looking less “transitory” than it did, they seem set to act more decisively in order to avoid a more harmful overheating and retain their monetary credibility. Policy rates may rise faster and further than money markets have been pricing in –even now, after the last month’s considerable adjustments, and despite the ongoing geopolitical tension around Ukraine.

With inflation so far above target, and unemployment low, there is no reason for interest rates to be at today’s “emergency” settings. Many smaller central banks were already starting to normalise interest rates in 2021 –as, at year-end, was the Bank of England. Now, the Federal Reserve seems poised to act next month, and even the European Central Bank is acknowledging the probability that higher eurozone rates may be needed before year end. If it acts, the SNB will not be far behind.  

There is much debate about exactly how many rate moves will be forthcoming from the Fed in particular. More important, we think, are the likely peaks for policy rates –and with money markets doubting that the Fed and ECB will push policy rates materially above inflation targets, we think the rethink on rates may not be over. Bonds are most directly affected by inflation risk and rising rates, but stocks –the most volatile mainstream asset at the best of times –could also be vulnerable for a while. For this reason, we trimmed our equity position in January. 

That said, we stay overweight. Stock valuations are on the high side, but not prohibitively so, and expectations for corporate profits continue to rise. They remain our favoured asset tactically as well as strategically and are the only one that we think can clear the higher inflation hurdle and help preserve the real value of our clients’ wealth.