The Big Conversation
Episode 111: Beat inflation by staying invested?
This week, LSEG’s Garett Lim talks to Steve Brice, CIO of Standard Chartered Bank Wealth Management, about US interest rate expectations, the outlook for Chinese stocks and the impact of oil on Asia’s economies. Inflation is expected to peak soon but remain elevated throughout the year. Gold has been struggling but it still has a key role to play in portfolio diversification. When inflation is high, investors need to be active in order to beat the drag that higher prices can have on savings.
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Garett [00:00:00] Welcome to this week's episode of The Big Conversation from Singapore. The recent FOMC meeting has been one of the most anticipated events in the last few years, as market participants look for clues on how aggressive the monetary tightening could be for 2022, to tackle the stubbornly high inflation numbers seen in the last six months. This potential change in the Fed's stance has resulted in an increase in volatility in all financial assets, as investors ask questions about how to protect their portfolios for 2022. The S&P 500 has retracted by 5 per cent and the Nasdaq by 9 per cent in just over a month. Could this be the year where Asia and emerging markets outperforms? Brazil has seen a near 12 per cent rise year to date, with Hong Kong and South Africa also a beneficiary of some positive flows, with an increase of 5 per cent year to date. With me this week to make sense of all the recent volatility, I ask Steve Brice, the Chief Investment Officer at Standard Chartered Wealth Division, for his thoughts on the markets. We also look at how emerging markets and Asia in particular deal with the inflationary headwinds and whether the current valuations are attractive enough to sustain a period of outperformance for the rest of the year.
Garett [00:01:18] Steve, thank you very much for coming onto the Big Conversation, we're hosting this one in Asia. Thanks very much. So last time we spoke a lot of changes since then, we talked about the reflation trade, but as you know, the FOMC meeting last week really has changed a lot. So just very very interested to see what your views are, house views in terms of number of interest rates and how you see that trajectory of, of interest rate changes going head?
Steve [00:01:41] So I think from our perspective, we still think the market is over pricing the scale of interest rates obviously you know interest rate hikes we're looking, the markets looking at over five now for the course of the year, so over a hundred and twenty five basis points. We think we're going to get 75 basis points, which is obviously quite an out of consensus call at the moment. But the main reason for that is, yes, we've got clearly strong pressures at the moment building for higher interest rates. So inflation is still very high, we're like to see even higher this week. The labour market is still tight. We do believe that we're going to see more and more people coming back into the labour market. Actually, the latest employment report suggested that's coming already, and that will lead to lower inflationary pressures from the labour market, supply-side constraints will ease as well. So growth will slow, inflation will slow, as we go through this year. So yes, if you straight line from where we are today, they're going to hike a lot. But given those variables, we think they're actually going to back off at some point later in the year. So 25 in March and then another 50 over the course of the year.
Garett [00:02:40] That's interesting, could we just zone in a little bit in Asia? I mean, we're also seeing inflationary pressures here as well. I mean, how do you see the central banks, perhaps in Asia dealing with this or they dancing to the tune of the Fed?
Steve [00:02:52] Well, it really depends, depends on which countries you're looking at. I think obviously the most important for us would be would be China, and they're dancing to a very different tune, right? So firstly, their currency has been under appreciation pressures, so we're seeing that coming through. So they're easing monetary policy as the rest of the world is thinking about tightening. So from that perspective, you know, we're not seeing too much pressure. Look for the rest of the region probably what's going to be very important is what happens to the dollar. So if the dollar continues to appreciate, which obviously it has seen over the last 3-5 months, if that was to continue, that would put pressure on other countries, particularly the more with, with higher external debt levels, to increase interest rates to sort of just protect their currencies somewhat. But we actually think that dollar is probably in some form of peaking here. So we think those are probably going to be very short-lived. So later in the year, that's probably going to allow countries to focus more on, on the domestic economy. I suppose the exception to that would be India, where we do expect rate hikes to come through.
Garett [00:03:46] Talking about a domestic economy, maybe we can touch on China a little bit. I mean, there has been some talk that the PBOC cutting rates is a sign that the economy is in trouble. Or are you feeling that perhaps it's just giving it a little bit more of a nudge to to keep growth going? Certainly, China's underperformed immensely, as you know, especially the last couple of years. Is this the time to look at China right now?
Steve [00:04:10] So, so from a macro perspective, obviously, you know, we already know the economy slowed dramatically, so it was the first out of COVID. But now that there's zero tolerance for COVID is really hurting them in terms of a growth perspective, and that's obviously global potential for problems from a supply chain perspective as well. So, so the easing in policy that we're seeing is likely to be just to try and moderate that slowdown. I don't think they're really looking for a V-shape economic recovery, but they are obviously looking to mitigate some of the short term challenges faced, by the by the economy, so by injecting liquidity. In terms of equity markets, we know you have a core holding or neutral view on China, so we expect it to perform broadly in line with global equities, we're bullish on global equities, so that's not necessarily a bad thing. But we don't think everything's in place yet to seek or lead to outperformance of the China stock market. So I think we'd need to see significant more in terms of policy easing, both on the, on the monetary front and the fiscal front, and a bottoming of growth expectations for that to come through. So we're not, we don't believe we're at that point yet, but obviously we're watching it very closely.
Garett [00:05:19] I'm certain the narrative is still pretty negative with the whole common prosperity theme very much rife in China. We've had some big moves, as you know, cracked, so-called crack-down on technology companies, property companies, especially. Are these signs that perhaps we are beginning to see a recovery in the markets, it's a little bit more balanced now, I would say, I mean, is that a good sign?
Steve [00:05:42] And certainly, if you look at investor positioning, actually people still underweight Chinese equities, I mean, they have been pretty much all the way through right, so, especially international investors. So we've seen a significant shakeout in the market and that could lead to some people sort of saying, OK, actually maybe the the environment's going to get better. We certainly think we've seen sort of peak regulatory, regulatory pressures, et cetera, coming through on different sectors; such as the tech sector, education sector as well, well it's difficult to get more more severe than the education sector, of course. But you know, I think we do see that we see that having peaked, so ultimately, I think the authorities are getting more sensitive to the markets outlook. Again that's probably allowing us to form a bottom, but it doesn't mean that we will outperform, it just means that maybe we'll just trundle along in line with what's happening elsewhere in the world.
Garett [00:06:29] Property bonds, high yield bonds especially, very very popular here in Asia, among the private banks, you're in the heart of it as it were, I mean, what would you be telling your clients now? I mean, you're looking at yields sometimes 10, 11, 12 percent. Is that a scary thing? Or is this an absolute bargain? So just interested to get Standard Chartered's views right now.
Steve [00:06:48] As an asset class level, Asian high yield, or China high yield, or property high yield, is extremely attractive. So we see it as a huge opportunity for investors. Obviously, you need to be selective, right? So you know, you can argue what selective means, does that mean bonds that are already pricing in pretty much full-blown default and therefore trying to predict what recovery rates are going to be? That would obviously be at the more speculative end, but we would be saying yes, this asset class that the yields are on offer, in a still yield-starved world, obviously, global yields have gone up, but nowhere near the rates we're talking in Asian high yield. So we do believe that's a, probably one of the 'safest' inverted commas, options out there for a long term investor. As always, the path to those returns being realised, as we've learnt over the last three months is likely to be non, non-linear. So we're going to see quite a bit of volatility through the process.
Garett [00:07:42] Let me just take a step back for 2022 reallocation of assets, perhaps out of developing, developed countries and developing countries. You know a lot of people are looking for homes for big chunks of money, when we're looking at Asia, is this something you're seeing? Does Asia actually provide a platform for people to reallocate money? Or is India really the one where perhaps we're going to see a lot more money coming through because it can actually absorb quite a bit of liquidity?
Steve [00:08:13] I think the key thing here is what happens to the dollar. So if we see the dollar peak out, then that leads to a virtuous circle of central banks easing policies, so stronger local growth, exports doing well as well from the global environment. So everything sort of fits into the narrative of emerging markets generally outperforming relative to the developed markets. We're just not there yet. So we've had a big move. So I mean, if you look at the, we obviously believe in peak Fed, right? In terms of the markets over-pricing, we haven't had the European angle coming in. We're starting to see signs that might be coming into play. So we see the dollar breaking below 94.50 on the dollar index or the euro level is around 115-125. I think that could be a really important signal that the dollar is peaking, and has peaked, and that could be very good for emerging markets. In terms of different areas that we like; we generally still like tech in the developed world. So US we've obviously in big sell-off in the Nasdaq, which is not, people think Nasdaq is tech, it's actually not one for one of course, you've got many consumer discretionary and communication services names in there, that a lot of people have focussed on recently. But we do, we do still like tech in both the US and in Europe, very different profile, Europe, US. Europe, sorry, is more hard tech semiconductors and the like. So so that's really where we're placing a bet. Also we like financials in Europe, so that's another place obviously based on the change in the European Central Bank stance with regard to policy rate hikes, that should support the banks, and we're already seeing that coming through, of course.
Garett [00:09:46] I just want to touch a little bit on commodities and specifically oil, which has been very much the headline recently. In fact, Malaysia and Indonesia, I believe, are beneficiaries of strong oil price. Do you guys believe in that view as well? And is that going to trickle down, perhaps into much, much stronger position for Malaysia and Indonesia especially?
Steve [00:10:05] So obviously oil prices have been tracking higher. We expect them to continue to do so fairly gradually, so nothing like we've seen obviously what we saw in 2020 after the negative number we saw in an oil price and the recovery thereafter. But we do see oil prices growing modestly higher over time. That's supportive, obviously, of the oil producers; Indonesia is a big pros and cons of higher oil prices actually, it's not not as open, but but yeah, so that should provide some sort of support. But the challenge for these markets generally, I know you alluded to it before, if you look at it, you sort of go, OK, China's for quite a deep market, India's quite a deep market, outside of that, Korea's a big market, but fairly concentrated, then you get down past Taiwan and then you start again, quite small markets. So attracting huge amounts of inflows of capital that you know, small amounts can make a difference, but you're probably not going to get the huge wave that we get to other bigger markets. Yeah.
Garett [00:10:58] So the other sort of asset class which hasn't really performed that well has been gold. And certainly, I was reading some of your reports. You know, you as a house are quite bullish on gold. Could you give us an idea about that? Because you alluded that maybe inflation wouldn't be a big problem, but it can be seen as an inflation hedge, but can we unpack that a little bit?
[00:11:16] So I think I think on the short term obviously, inflation is still biased to the upsides and the risks are still there, right, so from that perspective and to the extent that we see equity market volatility coming through from that, that could that can be a hedge for you, so that's why we set up around a seven per cent allocation of gold in our assett allocation models at the moment. It's really say, look, there is this inflation risk and we have this volatility. We should expect equity market volatility to remain relatively high through to the end of the cycle, which we still think is probably two years away, at least. Over the longer term, as I say, if we do see that dollar crack, if we do see it's going below that 94 50 for the dollar index, then I think that should be a positive factor for gold as well. So yes, we think gold's going higher, but it's as much the portfolio diversifier aspects that we like it for.
Garett [00:12:07] So I suppose stay invested would be the message to, to to your clients?
Steve [00:12:13] Yes, so actually the way which we're positioning this, is that we believe the sell-off we've seen recently is a window of opportunity for investors. I know a lot of people are very worried about high inflation, higher interest rates, but as I said, we think most of that is already priced in and therefore there's probably going to be some good news going forward. And even if you believe as we do, that inflation is going to remain relatively elevated, yes, coming down, but we don't think it's going below 2 per cent this year. Right. So it's going to be in the 3 to 4 per cent bracket, probably by the end of the year. You know, you should be looking at assets that can generate that sort of return. And you know if you look at the long term 7 year capital market assumptions we have, you know, you really have to take equity exposure or exposure to private assets to generate a yield that's in excess of that inflation rate. So I think that's, that's the way of positioning, a lot of people are saying inflation makes me scared to invest, but actually, inflation makes it more imperative that you invest, it through the volatility.
Garett [00:13:08] And you know the other problem here has been you know sort of differences in COVID measures in different countries, and this is a big supply-side to supply part of of of the economy here. So perhaps maybe as COVID improves, we will see that the pressure coming off in terms of supply side. That obviously will improve inflationary measures. I mean, is that something you think that could happen?
Steve [00:13:30] Yes so, I think that's true for most of Asia, we feel it here in Singapore right. You can see that, you know, yes, we're seeing a spike coming through, but we, you can see we're still opening up, obviously very cautiously, but still still trying to open up. But, what matters to the supply chain is China. Right? So a lot of, one of the big questions actually for us to answer is, is China deflationary or is it inflationary? Obviously, slower growth is deflationary. But the zero COVID stance is inflationary, because it gets in the way of those supply chains. So how that evolves as we go through the year is going to be very important for the long term inflation, for the inflation picture across the world.
Garett [00:14:09] That's fantastic, Steve. Thank you. Thank you so much for your time. Lots of things to talk about, but let's hope for a much, much better 2022. Thank you.
Steve [00:14:22] Yeah absolutely.
Garett [00:14:22] Thank you.