One Man’s Opinion: Should Investors Prepare For A Higher-Rate Environment Next Year?

Ulli Market Review Contact

92835431Black-Friday might be an interesting event to measure consumer confidence in the US and increasingly in Europe, but it’s the central banks that investors really need to watch, said Niall Quinn, managing director at Eaton Vance Management.

The strong consumer confidence in the US shows the US economy is improving, despite the Federal Reserve moving toward normalization of interest rates. Higher sales of durable goods in the US during the holidays show consumers are witnessing a genuine recovery, and the US economy is set for strong growth next year, he noted.

Asked if lower gas prices are good for the US economy, because consumers get to spend more on other items, Quinn answered in affirmative. However, with inflation weakening across Europe and in Japan, lower energy prices may not be a relief for the European Central Bank or the Bank of Japan. So, while it’s good for US consumers and good for the global economy overall, it’s a mixed picture out there, he explained.

Asked what could the ECB do to stave-off deflation, Niall said at the moment there’s a battle going on between ECB President Mario Draghi & his colleagues and the German Bundesbank. The ECB has clearly stated they want to increase the size of their balance-sheet through asset purchases quickly though that didn’t materialize. However, the economy is really approaching the juncture where the “bazooka” has to really come out. Markets have been patient so far and were convinced by Draghi’s dialogues, but now investors want to see some action, he argued.

Asked if investors need to wait till the New Year for the “bazooka” to come out, Niall said investors probably have to wait. There are other factors such as global growth and weakening oil prices.

The People’s Bank of China announced interest rate cuts this week, which shows the Chinese are taking their responsibilities seriously to prompt growth in the world’s second largest economy.

Also in Japan, if Prime Minister Shinzo Abe manages to get a reasonable majority that backs further reforms – which essentially is the third arrow of the so-called Abenomics, then those events will allow the ECB to buy time till the New Year, he noted.

In parts of Europe, yields on sovereign bonds are not very different from those in Japan although there’s a huge difference between the actions of the ECB and the BoJ. Asked how low European yields can go if the ECB eventually follows up its talks with action, Niall said European yields can clearly go down further although mathematically there’s a limit to that decline.

Japan endured poor economic growth for 20 long years despite initiating quantitative easing on an earlier occasion. The Japanese authorities have re-arrived at the current point after a very long journey. Many investors expect the Europeans to learn from what the Japanese authorities have done as they are at the extreme end of monetary experimentation. Though many people are apprehensive of a rising interest rate environment, it has been proven to be something that is difficult to engineer, he observed.

Asked to explain his investment strategy in a rising interest-rate environment, Niall said rising interest rates should be on the agenda for sterling and dollar-based investors next year. They need to find an instrument that doesn’t decline in capital value with rising rates.

Investors should consider leveraged-loans because they are floating-rates in nature and typically they trade at a spread over LIBOR, resetting over a 45-day or 60-day calendar. Leveraged loans are one of few instruments that benefit in a rising interest rate environment. Slow growth and low interest rates are broadly good for credit, with the US being top choice due to stronger growth, he concluded.

You can watch the video here.

Contact Ulli

Leave a Reply