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Weekly investment update – Waiting for Godot in the Tartar Steppe*

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Nathalie Benatia
 

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Risky assets have continued to rise on the back of falling long-term bond yields, while improving economic prospects as the pandemic ebbs have provided further support. There is, however, one issue that is bedevilling investors and keeping their nerves from calming: Where is inflation going?

Covid – Welcome to a post-pandemic world!

We are almost there, or so it seems. The latest data on the pandemic has confirmed the downtrend in the number of infections and deaths, including in Asia where early May saw an alarming spike on both counts, in India as well as in other previously rather unaffected countries.

The authorities’ concern now focuses on the contagiousness of variants and the resulting increases in the virus reproduction rate. This has led the UK government to consider delaying the end of the lockdown in England, which had been scheduled for 21 June.

For now, studies have consistently found that full vaccination is effective against the delta variant that is well established in the UK and spreading in the US and continental Europe.

Vaccination record

The share of the total population that is fully vaccinated has become the key number to monitor. It is close to 60% in Israel, above 40% in the US and the UK, and around 20% in the main eurozone countries (data as of 7 June 2021).

Successful campaigns are creating new hurdles: Finding new or the remaining vaccination candidates is becoming harder, and the pace of vaccination is slowing, particularly in the US, where about 20% of the population has said it is not willing to have the jab.

For the authorities keen to achieve herd immunity, balancing incentives and coercion will be the challenge of the coming weeks.

Economy – Welcome to a post-pandemic world?

The latest US jobs report has caused more confusion than that it has provided answers. Non-farm payrolls growth disappointed in May, but less spectacularly so than in April, with 559 000 jobs created versus 675 000 expected.

In May, employment increased mostly in the hard-hit, but now reopening leisure and hospitality sectors (it has grown by nearly 300 000 in every month since March). The continued resumption of in-person learning and other school-related activities boosted public and private education employment by 144 000.

Despite this impressive progress, employment is still 7.6 million below its pre-pandemic level (but at this point, the pandemic-related jobs lost count stands well below the more than 20 million jobs shed in the first quarter of 2020).

What is the trend for wages?

Some observers have pointed to employees’ reluctance to accept a post for health (fear of being contaminated at work, people sick of Covid) or practical reasons (childcare issues, need to care for sick people in the family). Others have cited higher-than-usual unemployment benefits as a reason for people delaying their return to work.

As a result, a record high 48% of small business owners reported unfilled job openings in May. The number of job openings according to the Bureau of Labor Statistics’ Job Openings and Labor Turnover Survey hit a record 9.3 million in April.

Demand for labour is strong, yet supply seems to be less so. It is unclear whether this job market tightness will cause a sustained rise in wages. Recent data has been too volatile to draw conclusions. Average hourly earnings rose unexpectedly in May, but the Atlanta Fed’s Wage Growth Tracker has so far shown no significant acceleration (data up to April).

How long is ‘temporary’?

On inflation, the message from the main central banks has not changed. Higher-than-expected consumer prices since the start of the year could lead the ECB and the US Federal Reserve (Fed) to revise their 2021 inflation forecasts upwards. However, they are still expected to stick to their view that we are seeing a temporary acceleration.

The US consumer price index due to be published this Thursday is not expected to change that assessment. The consensus is for a further increase (from 4.2% in April to 4.7% in May for the year-on-year change in headline inflation). However, as before, any sharp increases should be limited to prices that had collapsed in the spring of 2020 following the lockdown.

Exhibit 1 - Different measures of US core inflation

So, the global economy is in transition

Eurozone activity, which fell by less than initially estimated in Q1 (a -0.3% contraction in GDP after an initial estimate of -0.6%), should accelerate clearly in the second half, while the very strong pace of US growth in the first half should normalise. Investors are right to wonder about the implications for the economy and markets of this rebalancing.

The ECB and the Fed can be expected to reaffirm their cautious approach to monetary policy despite the generally improved economic outlook.

In markets, inflation concerns are likely to ebb and flow until the data clearly confirms the temporary nature of the price increases. The assessment may then shift to one of a cyclical, and more synchronised upturn across the main geographical regions. For us, this is an environment that remains favourable for risky assets in the medium term.

For more on our views and portfolio positioning, read

ASSET ALLOCATION MONTHLY – THE NEXT REOPENING WAVE

*The Tartar Steppe is a novel by Italian author Dino Buzzati, published in 1940. It tells the story of a young officer, Giovanni Drogo, and his life spent guarding the Bastiani Fortress, an old, unmaintained border fortress waiting for a foreign invasion that never happens.


Any views expressed here are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may hold different views and may take different investment decisions for different clients. This document does not constitute investment advice.

The value of investments and the income they generate may go down as well as up and it is possible that investors will not recover their initial outlay. Past performance is no guarantee for future returns.

Investing in emerging markets, or specialised or restricted sectors is likely to be subject to a higher-than-average volatility due to a high degree of concentration, greater uncertainty because less information is available, there is less liquidity or due to greater sensitivity to changes in market conditions (social, political and economic conditions).Some emerging markets offer less security than the majority of international developed markets. For this reason, services for portfolio transactions, liquidation and conservation on behalf of funds invested in emerging markets may carry greater risk.

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