August 2019 looks like October 2018. After reaching high levels, equity markets corrected sharply, driving volatility indices upwards (see chart 2). Similarly, investors are concerned about the ongoing trade war between the United States and China, as well as the lack of independence of the US Federal Reserve from the Trump administration. But on closer examination, this is as far as the similarities go because this time the fears come from an anticipation of a severe economic slowdown, or even a recession. Expectations of inflation are falling, pushing down government bond rates, while 10 months ago inflation fears were driving up 10-year yields (see chart 3). As proof, the latter point to 1.73% compared to 3.25% in October 2018.
The fall in global bond yields favours the appreciation of assets that offer zero or negative returns, such as gold and the Swiss franc. Thomas Jordan reiterated that “the SNB will remain active in the foreign exchange market as necessary” to keep the Swiss franc down. But on closer examination, they have already bought CHF 36 billion in the last six months.
In the last few days, the US Dollar gets a boost as investors scale back aggressive Fed rate cut bets. Indecision over the EU’s top jobs further weighs on the shared currency. Traders now eye Euro Area and US manufacturing PMIs for a fresh impetus.
“Don’t fight the Fed… nor the flow”
A month ago, we concluded our analysis with this sentence: “Without a recession, the Fed has no convincing reason to reduce
its key rates”. We were wrong. While the U.S. economy will not fall into recession, the Fed, like other major central banks,
has chosen to be much more proactive than in the past to address the current economic downturn. A statement
pronounced by Jerome Powell during his last question-and-answer session summarises the strategy of modern-day central bankers: “An ounce of prevention is worth more than a pound of care”.
The Bank of Japan held over $250 billion (28 trillion yen) in the Nation’s ETF funds, which represents 4.7% of the total market capitalisation. The Central Bank was among the top 10 for 49.7% of all Tokyo-listed enterprises. Should investors find this non-conventional monetary policy comforting?