Investment committee: How has extreme central bank policy affected markets?


Laura Suter is editor at Fund Strategy

Central bankers have been throwing all they can at markets in an attempt to stimulate growth, stabilise markets and allay investor fears.

The European Central Bank has most recently expanded its QE programme, by an additional €20bn to €80bn a month. The latest move sees corporate bonds included in the bank’s bond buying programme, as it continually attempts to boost the eurozone’s economy and inflation.

However, many fear that moves such as negative interest rate policies are a sign that banks are running out of ammunition.

Both Japan and Europe have moved to negative interest rates. The concept is that negative interest rates will encourage portfolio shifts to other asset classes and will discourage savings, with savers effectively paying to hold money in bank accounts. You can argue that holding negative cash and bonds cannot even be termed investing, as it is guaranteeing losses.

So what’s on the horizon? There is increasing talk of “helicopter money”, whereby central banks attempt to inject money printed by circumventing the banking system and putting it directly into households and the private sector via tax cuts and public spending. Many see this as a logical next step by policymakers. However, it has been dubbed a desperate last resort by others.

Another option floated is more coordinated monetary policy between global central bank, but the level of coordination requires makes this a true last resort.

John Husselbee Liontrust HusslebeeJohn Husselbee is head of multi-asset at Liontrust Asset Management

Central bank policy around the world remains in deep unchartered waters, with the sea of public debt continuing to rise daily. Since the global financial crisis, central banks have been right, left and centre stage of investor sentiment, and it doesn’t look like they will be exiting any time soon.

Deflation has been and remains a significant challenge, not helped by the oil price halving twice in the past 18 months. This oil price decline has also clearly forced the hands of the major central banks once again to act. It is clear today that the world’s economy is not as in sync as it was believed to be in the past decade.

The US is further down the economic cycle than Europe and Japan, which in turn are ahead of some of the major emerging market economies such as Brazil or even Russia. However, the Federal Reserve has signalled a more dovish approach to future rate hikes, whereas Europe and Japan have moved to negative rates. In the short term this supports government bonds and extends the ongoing currency wars in a game of pass the parcel until the music stops.

Those countries or regions where there is easing will continue to be favoured, provided that this is supported by further currency devaluation. Longer term it remains to be seen how central banks navigate themselves without drowning in debt.

Cockerill-Tim-2014Tim Cockerill is investment director at Rowan Dartington

Ten years ago central banks never dreamt they would be where they are today, instead they thought we’d all be back to interest rates at 4 to 5 per cent – those days are gone and probably forever. The need for negative interest rates in Japan, Switzerland and Europe tell a worrying story – one in which the central banks have failed in their main objective to stimulate economic growth.

For investors any bond paying a coupon becomes more attractive as negative rates bite, even bonds with a zero coupon. It also forces investors into other asset classes like equities. It might seem a sensible move because the yields are far more attractive, but the risks are probably much higher than many of those investors want to take.

Bonds and equities have become expensive, but any set back in the markets has been quickly reversed as investors snap at the opportunity to grab a bit more yield and a perceived bargain. This is all happening against a backdrop of a slowing global economy, falling profits and massive global debt. But with central banks having flooded the world with cheap money it has to go somewhere. The knock-on here is likely to be permanently higher asset prices and more volatility.

As for sentiment, the deeper we go into unknown economic territory the more nervous investor sentiment becomes. They fear the black swan.

Lowman-PeterPeter Lowman is CIO of Investment Quorum

Since the collapse of Lehman Brothers and Bear Stearns in 2008, central bankers around the world have had to act to halt a total financial meltdown.

Rising unemployment levels, deteriorating economic growth, dwindling inflation rates, a collapse in commodity prices, a slowing Chinese economy and the Eurozone crisis have all subsequently followed, leaving central banks with very little option than to act aggressively.

At first, the US and UK authorities began to apply measures such as quantitative easing and cutting interest rates. Others such as Japan and the Eurozone soon followed adding additional monetary tools such as qualitative easing, and recently zero or negative interest rates.

Clearly, these central bank actions have stimulated the financial markets, leading to an eight-year bull market in equities. We have also seen government bond yields and interest rates fall to historical all-time lows and a period of “currency wars”, as loose monetary policies created a race to the bottom.

Clearly, we will soon need to normalise western interest rate policy, but the world still suffers from the threat of deflation, recession and lower GDP forecasts, which in turn is keeping central bank policy dovish, and is likely to do so for the foreseeable future.

Davis-Jonathan-JonathanDavis-2013Jonathan Davis is managing director of Jonathan Davis Wealth Management

Isn’t it interesting that with the greatest central bank stimuli ever, the global economy is slowing down? Multiple tranches of QE, tried in Japan and failed, are yet being tried again – and failing.

Buying by central banks of anything that moves is not raising prices. Meanwhile, Help To Buy in the UK is seeing the effects wearing off, rapidly. Zero interest rate policy, or indeed negative interest rate policy are obviously deflationary, as folk will hoard cash rather than spend it.

How is it possible that all this could result in no sustained improvement in the UK and global economy? The answer is extremely simple. We are a global society racked with enormous debt and no amount of stimulus can unburden that. Ask the Japanese. They tried it from the 90s to recently and they got no growth and no inflation for 20 years, and an 80 per cent fall in their stock prices and a 65 per cent fall in house prices.

The next time we have a recession central banks will do vastly more QE, “for the people”, and move to more negative interest rates and they still won’t help. Invest accordingly.

Deverell-Mike-2010Mike Deverell is investment manager at Equilibrium Asset Management

Central bank policy continues to move markets. Despite the Fed’s recent rate increase the global trend is actually for lower rates with moves into negative territory in Japan and Europe. In the UK, markets had expected that rates would increase in 2016 but now it is pricing in no increase until at least 2020.

This has had a big impact on the bond market with long-term yields falling to record low levels, which in turn has had a knock-on effect on banks.

Banks make money from borrowing over the short term and lending out for the long term at a higher rate. As long-term rates come down this margin is squeezed, hurting profits.

For example, the rate on HSBC’s standard unsecured person loan is 3.3 per cent a year. Three years ago that rate was 6.5 per cent. Base rates haven’t changed, remaining at 0.5 per cent, but the rate HSBC charges on loans has virtually halved.

I find it hard to see how HSBC makes a decent profit on that rate or even how it is compensated for default risk. During the credit crunch, the delinquency rate on US loans reached more than 7 per cent.

As always, the unintended consequences of policy actions can have a big impact.

Calder-James-2012James Calder is head of research at City Asset Management

The success or failure of QE will be judged by future economic historians, but those of us living through the economic experiment have little choice but to accept it. I doubt that the architects of the policy would have envisaged the results thus far, but would suggest that they would not be too unhappy with them given the starting point.

Variations of QE, in my view, are down to the timeliness of its implementation, or lack thereof. The US and the UK were first out of the traps and have benefitted most, without having to overreach further into unorthodox policy. It looks as if those that waited longer to implement it have had to reach further for less results, namely Europe and Japan and their moves to a negative interest rate policy, whereas the US and UK early adopters look to be at the end of the policy.

The positive impact has been asset price inflation but we have only recently seen signs that the average person on the street is seeing any improvement (I judge this on wage inflation). So where does this leave us? QE should still be beneficial for the Japanese and European markets but the impact of each successive move will diminish.

With respect to UK rate expectations, these have been consistently pushed out, however one would hope that this trend reverses. I would suggest that the next stimulative in the UK should be fiscal, but I believe the current chancellor is too fixated on one part of the equation, ignoring the other.

Independent view:

Hatheway-Larry-2016Larry Hatheway is group chief economist and head of multi-asset portfolio solutions at GAM.

Extraordinary monetary policies, which given their widespread adoption are increasingly ‘ordinary’, are supposed to promote growth and lift inflation via several channels. First, low or negative interest rates should promote borrowing and spending. , Second, they also should discourage savings and lift consumption and third, they encourage purchases of risky assets, such as corporate debt and equities. That, in turn, should boost business spending and, via wealth effects, household expenditures.

Yet like all things in economics, monetary policy is subject to diminishing returns. Borrowing rates have already fallen and asset prices have already appreciated. Incremental moves from here won’t deliver as much growth or lift markets as much as earlier steps did.

Moreover, the benefits are small compared to the audacity of the policies. As Keynes long ago observed, faced with uncertainty firms won’t lift investment even if the cost of capital falls. Instead, businesses will squirrel away the savings or pass them along to shareholders via dividends and buybacks. Perversely, negative interest rates may increase the need to save for those reliant on interest income. Bank earnings also suffer, potentially stunting credit growth.

Those are a few reasons why investors have not warmed to the advent of negative interest rates in Japan and the Eurozone this year. It is also why an increasing number of economists and even a few former central bankers are pondering the need for ‘helicopter money’, namely central bank financing of fiscal expansion.

In short, monetary policy is no longer as effective as it was, either at lifting growth or asset prices. Investors and policy makers alike would be wise to search for new courses of action.