Coronavirus complications

Investment Policy, January 2022

Coronavirus complications

Coronavirus complications have increased recently, so far affecting Europe more than the US. At the same time, the US central bank (Fed) has announced that it will be scaling back its quantitative easing (QE) programme earlier than the European Central Bank (ECB). This has caused the euro to weaken against both the US dollar and the Swiss franc. However, the more infectious Omicron variant is soon likely to end up in the US too. As the winter season gets under way, the unpredictability of coronavirus developments is very apparent again. The more volatile times and the economic risks emanating from coronavirus favour Swiss equities. The equity allocation remains slightly lower than a few months ago.

An interesting divergence between America and Europe has come to the fore recently: while various economic data in the US have surpassed the market’s expectations, European countries such as Germany have unveiled weaker economic data. This is noteworthy because the reporting periods for these batches of data come before the latest coronavirus restrictions. Germany’s closely- watched Ifo business climate index not only turned out to be lower than expected, it also declined for the fifth month in succession, with the sub-index of company expectations even falling below the levels recorded in January. Even if the Christmas trading period should result in higher global sales, the coronavirus situation means that the world faces economic uncertainty as it heads into winter. The Omicron coronavirus mutation, which was recently discovered in South Africa and has now spread to other continents, poses a downside risk for the global economy. We are expecting economic growth in 2022 to prove weaker than in 2021. Similarly, growth in global corporate earnings should fall short of the 2021 equivalent.

Equities

Equity markets typically do not perform poorly between the final weeks of the old year and the first weeks of the new, although there are exceptions to this rule – as we saw in 2018. An obvious fly in the ointment this time around is the resurgence of the coronavirus threat. This is having an impact on Europe in particular the moment, but is bound to spread. The second global risk for equity markets – an economic slowdown, with China leading the way – is now no longer in the forefront of the market’s mind. However, investors would do well to remain wary: at a global level, inflationary developments remain unpleasant for governments, since the view that central banks (particularly the Fed) have lost control of “inflation management” could easily become more widespread. It is therefore possible that market interest rates could surge and have an impact on equity valuations as a consequence. Overall, we believe the logical approach now is to focus on the tried-and-tested Swiss equity market with its more defensive characteristics, rather than on the more cyclically sensitive countries. In a global comparison, we are now overweighting the former. Equities continue to be more highly weighted than bonds, but much less so than a few months ago.

At a global level, inflationary developments continue to represent an unwelcome disruptive factor for governments.

Gérard Piasko, Chief Investment Officer


Bonds

The trend of rising inflation that we have seen emerging over the last few months, particularly in the US, is an argument in favour of giving bonds a lower allocation than usual in the global portfolio mix. Higher inflation is also an argument for giving bonds a lower allocation than equities in absolute terms – as long as companies are in a position to pass on the higher costs of raw materials, supplier sub-components, and energy and transport costs to consumers in the form of price rises. This is likely to be the case as long as the demand for goods remains above average – particularly in the US, where government cheques have massively supported consumers over the last 18 months, thereby driving up both economic growth and inflation. This is also why the Fed can “taper” its use of the QE monetary instrument earlier than the ECB. In keeping with this backdrop, we remain underweight in government bonds compared to corporate bonds, and indeed compared to commodities and equities.

Currencies

After a few tranquil months, the euro has recently exhibited pronounced weakness against the US dollar. Three reasons for this phenomenon can be discerned: Firstly, in contrast to the US, recent economic data in Europe – and above all Germany – has been less strong than the market expected. Secondly, the difference between European market interest rates (i.e. bond yields) and those of the US has narrowed, putting eurozone bonds at a relative disadvantage from a return standpoint. And thirdly, Europe has so far been more strongly affected by coronavirus complications than in the US. As a result, the euro has fallen below 1.05 against the Swiss franc. Should its weakness be accentuated further, we would probably see the Swiss National Bank (SNB) intervene in the market. Where emerging market currencies are concerned, high inflation in many countries and a particularly challenging coronavirus situation are likely to mean above-average volatility risk from a historical standpoint.

Commodities

The commodity situation remains the same – a supply deficit on the one hand, and seasonally strong demand on the other. In the short term, oil has relinquished some of the advances made since the start of the year in the wake of the discovery of the Omicron variant at the end of December (which also triggered greater volatility and some profit-taking in the equity markets). The supply of oil could increase in the medium term, and the key will be whether demand falls back due to economic developments. Commodity prices typically rise in an inflationary environment, and therefore provide a useful buffer against inflation in a balanced portfolio.

Gérard Piasko

Gérard Piasko

Gérard Piasko is Chief Investment Officer and head of the investment committee of private bank Maerki Baumann & Co. AG. Before he was for many years Chief Investment Officer of Julius Baer, Sal. Oppenheim and Deutsche Bank.

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Editorial deadline: 9 December 2021

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