http://blog.en.erste-am.com/wp-content/uploads/sites/13/2017/05/2017_05_02_iStock_EZB_Bank_000035028616_XXXLarge-890x390.jpg

Monetary policy of central banks is tightening up

(c) iStock

Volatility has increased on the markets. The main reason for this has not occurred often in the past years: statements by the central bankers according to which the extremely expansive monetary policy will be reeled in. Are we going through a trend reversal?

Trend reversal

Actually, a change had occurred already in October 2014: back then, the US central bank (Fed) had completed the third bond purchase programme. About a year later, i.e. in December 2015 to be precise, the Fed funds rate was raised for the first time in a while. Other central banks such as the European Central Bank (ECB), on the other hand, continued to loosen their monetary policies. The last expansionary step so far has been taken by the Bank of England, when it cut the key-lending rate in August 2016. Subsequently, however, signs were accumulating that suggested that no further stimulus measures would be taken in the developed economies anymore and that the very supportive monetary stance would be reversed slowly but surely. For example, the Fed raised its Fed fund rates in December, March, and June, while the ECB reduced its bond purchase programme in April.

Teaching points

What are the teaching points from this rundown? A change of the monetary policy from loosening to tightening does not necessarily have to come with negative implications for the capital market, as exemplified by the fact that the performance of many asset classes since 2014 has been a very solid one.

Accompanying the economic recovery

Move forward to today – in the past weeks, some important central banks have tightened their forward guidance, i.e. the guidance of expectations regarding the future monetary policy. ECB President Mario Draghi has probably held the most important speech in this context. His core statement was that the economic recovery needed only lower levels of monetary support than currently in place. The ECB is optimistic about its monetary policy working and its ability to achieve its inflation target of slightly below 2% in the medium term. But since the rise in inflation from -0.6% at the beginning of 2015 to most recently +1.4% is neither self-supporting nor sustainable, the monetary policy necessarily has to remain very expansive (i.e. low key-lending rates). Monetary parameters have to be adjusted very cautiously.

Forward Guidance

We are currently experiencing the implementation of said cautious adjustment: prior to taking steps to tighten the policy, the ECB warns the market participants so as to be able to assess the effects (forward guidance). The ECB now deems the economic risk (i.e. the risk bias) as balanced and has abandoned its proclivity towards further interest rate cuts (easing bias). According to the minutes of the recent ECB meeting that was published on 6 July, the absence of the proclivity towards the expansion of the bond purchase programme had been discussed too. In short, the ECB is preparing the market participants for the announcement of a reduction of the bond purchase programme. As a result, the yields of Eurozone government bonds have increased. For example, the benchmark yield, i.e. the yield of the German 10Y government bond increased from 0.23% around the middle of June to 0.58% on 7 July.

Conclusion

As long as the central bank policies are “only” accompanying the economic upswing (less dovish) but not stifling it (hawkish), the environment remains generally favourable for risky asset classes. However, transitional periods might see a rise in volatility.

 

Did you like this article?

4.00 Average Rating (85% Result) - 1 Votes
Legal disclaimer

This document is an advertisement. All data is sourced from ERSTE-SPARINVEST Kapitalanlagegesellschaft m.b.H., Erste Asset Management GmbH and ERSTE Immobilien Kapitalanlagegesellschaft m.b.H. unless indicated otherwise. Our languages of communication are German and English.

The prospectus for UCITS (including any amendments) is published in Amtsblatt zur Wiener Zeitung in accordance with the provisions of the InvFG 2011 in the currently amended version. The simplified prospectus is prepared by ERSTE Immobilien Kapitalanlagegesellschaft m.b.H. and published in Amtsblatt zur Wiener Zeitung in accordance with the provisions of the ImmoInvFG 2003 as amended. Information for Investors pursuant to § 21 AIFMG is prepared for the alternative investment funds (AIF) administered by ERSTE-SPARINVEST Kapitalanlagegesellschaft m.b.H., Erste Asset Management GmbH and for ERSTE Immobilien Kapitalanlagegesellschaft m.b.H. pursuant to the provisions of the AIFMG in connection with the InvFG 2011.

The fund prospectus, Information for Investors pursuant to § 21 AIFMG, the simplified prospectus, and the key investor document/KID can be viewed in their latest versions at the web site www.erste-am.com or www.ersteimmobilien.at or obtained in their latest versions free of charge from the domicile of the management company and the domicile of the custodian bank. The exact date of the most recent publication of the fund prospectus or simplified prospectus, the languages in which the key investor document/KID is available, and any additional locations where the documents can be obtained can be viewed on the web site www.erste-am.com or www.ersteimmobilien.at.

This document serves as additional information for our investors and is based on the knowledge of the staff responsible for preparing it at the time of preparation. Our analyses and conclusions are general in nature and do not take into account the individual needs of our investors in terms of earnings, taxation and risk appetite. Past performance is not a reliable indicator of the future performance of a fund.

Gerhard Winzer

Gerhard Winzer has worked at Erste Asset Management since March 2008. Up until March 2009, he was Senior Fund Manager in Fixed Income Asset Allocation; he has been Head Economist since April 2009.

He holds a degree from a polytechnical college and studied economics and business at Vienna ...

More

Add a comment

Subscribe to Blog by E-Mail