George Lagarias, chief economist at Mazars, on three lessons for investors going into the Autumn.
“Markets are entering September on a positive note. Despite a positive economic message, Fed Chair Jay Powell winked at traders signalling that the world’s liquidity purveyor would continue to support risk assets. As expected, equity indices continued to push towards new highs early this week.
“As time passes, we feel that the Fed looks more trapped in its own market-positive narrative, which is why we, and markets, tend to ignore a lot of it. Weaning markets from a decade-plus of QE is as dangerous as tampering with a highly sensitive and traumatised consumer cohort who want to feel that the recovery has started. So, Mr Powell decided to do neither.
“But despite the positive tone in the economy, it is hard to miss the increasing strains on supply chains and the concomitant Covid-induced economic arrhythmia. Just last week, German engineering and tech heavyweight Bosch said that semiconductor supply chains in the car industry no longer work. The advance of the Delta variant in emerging economies, where vaccination rates are still way below par, can only make things worse, especially as schools reopen and we enter the flu season. And while Mr Powell claims that the US economy is heading towards full employment, it is hard to ignore a meagre labour participation rate that exacerbates inflation pressures and prevents many parents from contributing to the household income. And while an argument can be made that this behaviour is merely transitory, history suggests that those departing from the workforce after every significant economic crisis in the last twenty years tend to stay away even after things improve. In the UK, where Brexit has contributed to the repatriation of many European workers, the situation is still worse.
“The Fed did not acknowledge that raising rates now could jeopardise the fragile consumer confidence build-up without actually helping supply chains (i.e. admit that monetary policy can’t fight supply-side inflation). Instead, it focused on the more positive aspects of the recovery, leaving out the growing risks but still sticking to monetary accommodation appropriate for a worse economy than the one it is supposed to adapt to.
“So, what are the lessons for investors going into the Autumn?
- History suggests that there’s still room for optimism for equities. Tapering asset purchases means a paced reduction under a dovish Fed. It does not imply an immediate halt or tightening.
- The Fed speaks of an improving economy but acts as if the economic recovery is at risk. Investors should pay more attention to action than to justification.
- Mind the labour participation rate and don’t assume automatic mean reversion. One or two percentage points might seem small, but the economic impact on inflation and growth can be sizeable.”