12 Jan “Dealing with Divergence” Investment Outlook by Blackrock
Taking in all the news from around the globe this week, I was struck by seven stories which emerged at the beginning of 2015. These stories signal increased market volatility ahead and will shape the global and local financial markets for some time to come. The debate on the events is interesting, and always centres on a key word; risk. The key reference point I recommend for investment risk assessment is Blackrock’s latest investment outlook which takes an in-depth look at investment risk from around the world.
For now, back to what’s happening this week and I have picked seven events highlighting global risk affecting the world’s investment markets today:
- Oil has fallen below $50 a barrel for first time since 2008
- European Bonds’ further gains leading to record low yields
- Global Bonds’ further gains leads to record low yields
- Political and social issues: Greece about to exit Eurozone and Paris attack by terrorists
- Russian economy and Ruble facing collapse
- Euro against dollar is weakest it has been since 2006
- ECB Stimulus package for 2015 signalled
Oil prices have fallen by over 50% and have trended downwards for the last 7 weeks in a row, due mainly to a supply/demand imbalance. This is overall a good thing and from a consumer perspective, we should all benefit in time. Why? As transportation costs are one of the most significant direct costs in many retail products, this cost lowering will mean more gross profit for business, and hopefully lowering consumer prices. This is why many commentators refer to oil price cuts as being like a tax cut.
European bonds refer to the instruments enabling European governments borrow money. Taking Ireland as an example, Irish government issued a 10 year bond in 2008 after the bank bail out with a coupon of 14% approximately. Last week, the Irish government issued a shorter 7 year bond with a coupon of just 0.8%. It has never been so good for many governments in Europe to raise money at such little cost.
Similarly around the globe in US and Japan for example, each government is almost borrowing money for free. For the first time in history the combined average of the US and Japanese 10 year government bonds had dipped below 1% yield. This means, the respective governments are paying an average to investors of 1% each year on money borrowed for 10 years. These are the strongest signs of risk and uncertainty in the financial markets at present, in that government bonds are viewed as safe havens for investors and are still being favoured strongly amongst investors seeking long term stable returns.
The possible exit of Greece from Eurozone will be clearer after the general election there in late January 2015. More serious events unfolded in Paris this week with terrorist attacks on the ‘Charlie Hebdo’ French magazine and other locations resulting in the death of 17 civilians and 3 terrorists. This was following on from similar recent attack in a Sydney Café. Attacks of this nature can shake the stable foundations of society and create untold damage to global confidence.
The Russian situation is difficult to assess, in that the strong arm tactics used by Russia against Ukraine over the Crimean peninsula has resulted in a global front opposing their steps and effectively Russia’s isolation from the rest of the world. Almost overnight, the economy crashed and the Ruble with it. Probably good news for the Russian emigrants around the world earning strong Euro and dollar currencies with ambitions to return home to their motherland someday, they now see opportunities to buy assets in their home country for tiny fractions of market prices a year ago. Altogether bad news for Russia compounded by the oil price collapse.
On the currency front, aside from the Russian Ruble demise, the Euro versus dollar exchange rate has seen a big shift in recent months, with the dollar jumping to below $1.18 for a euro, the lowest exchange rate since 2006, a sign of the US recovery being ahead of the rest of the world.
On the contrary, Europe is facing a struggle against deflation. Draghi and the ECB are staring at negative growth pressure, and remain well shy of the target 2% inflation levels. We are currently experiencing the lowest ECB rate on record at 0.05%, good news if you have a tracker mortgage, but a sign of Europe’s struggle to recover. The ECB are reviewing options to stimulate the European region with virtually no room left with the ECB rate, indications suggest that the ECB will create a stimulus package which will involve up to €500 billion of a government bond and other asset buying program. This is what they refer to as quantitative easing, or another way of saying flood the region with liquidity/cash. This measure has more or less been completed successfully by both US and Japan in recent years, and has been instrumental in both global powers resurgence and recoveries. Europe is lagging in recovery terms.
So what does it all mean? It does look like low interest rates will persist for longer with expectations of rate rises in US by the Fed only a possibility toward the end of 2015. This will be the real signal that recession is behind the US, while we expect UK rates could rise in 2015 while Europe rates will persist at current levels to 2017 at least. For all that, it would appear that as a small open economy positioned between mainland Europe and US, we are possibly seeing that things are improving, have some way to go, but that the way global events are unfolding, it might not be bad news for Ireland! Equip yourself with the knowledge and read Blackrock’s outlook report for a top quality analysis on the subject.