Erste Asset Management

10 theses for 2022

10 theses for 2022
10 theses for 2022
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1. Significance of the pandemic decreases

Waves of infection will continue to influence economic activity and markets. The negative correlation between new infections and mobility tends to diminish, because immunization (vaccination, diseases) increases and the severity of diseases decreases.

However, immunization remains too low, new variants may thaw, the effectiveness of vaccine protection may decline, and the duration of vaccine protection is unclear. Service sector subsectors in particular will be affected. There is considerable uncertainty about supply-side disruption (supply shortages).

Above all, the zero tolerance policy in China toward new infections poses a risk here. Even though there is growing evidence of supply/demand imbalances declining on trend, a lingering effect of the pandemic could be the creation of new supply chains.

Overall, the global recovery remains bumpy because of pandemic-related influences. However, the unbalanced nature of the same is diminishing (in terms of sectors, regions and time). In the course of the year, there is a rotation from goods to services consumption.

At the same time, industrial production growth picks up as inventories are low, bottlenecks tend to decrease and production levels are below the pre-pandemic trend. For equities, this environment favors the value segment, cyclical sectors and equities outside the U.S. (catch-up effect).

2. Cycle of recovery

Real global GDP growth remains above potential, but tends to decline. GDP levels, especially private consumption in the service sector and industrial production, are still below the pre-pandemic trend.

Last year’s adverse developments are abating (bottlenecks, inflation, slowdown in China), inventories are low, the savings surplus is high, the opening steps suggest falling savings rates, the very supportive stance of economic policy is only gradually being scaled back and the private sector is not over-indebted.

At the same time, the negative output gap is beginning to close, which is why growth will also decline. The probability of recession is low. Statistically, this argues for a supportive equity environment, although valuations are already elevated and cost pressures could increase.

3. Reforms in China

In China, the developments that dampened economic growth last year are not disappearing, but they are diminishing. Numerous signals from the official side emphasize “stability” as an important goal.

The negative credit impulse will change to a neutral level in the course of the year, and the restrictive measures to curb the real estate boom (deleveraging) and energy consumption (decarbonization) will be accompanied by selective supportive measures.

In general, reform efforts argue for overcoming the middle-income trap (further growth of GDP per capita, even if a level of around USD 12000 GDP per capita is reached this year). At the same time, the internationalization of the capital market implies the policy goal for a currency that is as stable as possible (no sustained currency weakness).

With a yield of 2.7% and a much lower risk of yield increases than in developed economies, Chinese government bonds remain attractive for investors.

4. Tight labor market

Tightness in the labor market. In more and more countries, the NAIRU (Non-Accelerating Inflation Rate of Unemployment) threshold is being reached. In addition, there are sector-specific imbalances between supply and demand, which are only gradually decreasing.

In some countries, the employment rate remains below pre-pandemic levels (USA). Pressure for sustained higher wage growth is increasing. Together with a rising interest rate burden and potentially higher costs from changing supply chains, higher wage costs mean a higher cost burden for companies.

Corporate profit margins are coming under pressure, and profit expectations may be disappointed.

5. Inflation risks

Inflation falls but remains above pre-pandemic levels. The inflation increase in 2021 was more pronounced than expected (larger and longer lasting). The driving factor for this was that pandemic-related imbalances between supply (constrained) and demand (rapid improvement) emerged in some sectors (goods prices, transportation, labor market, energy).

In the baseline scenario, inflation rates fall over the course of the year (mainly declining goods price and energy price inflation). However, with the opening steps, service price inflation could also pick up and inflation expectations could increase.

The latter would mean that the tight labor market leads to higher wage growth and that secondary round effects (last year: higher food and rent prices) increase.

In the medium term, stagnating globalization (China effect) could put less and less pressure on goods prices (effect evident last year), while the change in the age structure could support inflation (falling working-age population).

6. Key interest rate hikes

The cycle phase recovery, the surprisingly high inflation rates and the rapidly falling unemployment rates increase the pressure on central banks to exit from the ultra-expansive monetary policy stance faster than thought a few months ago.

Medium-term goal: neutral interest rate level, no bond-buying programs. Generally speaking, the less firmly inflation expectations are anchored to the central bank target, the faster the unemployment rate approaches the NAIRU (Non-Accelerating Inflation Rate of Unemployment) threshold and the sooner the supply side is permanently impaired (falling employment rate, deglobalization), the faster key interest rates will be raised toward neutral levels in the advanced economies.

In addition, there are indications of a structural increase in the neutral interest rate level (higher budget deficits, possibly falling savings surplus due to the declining working-age population, high investment needs to combat climate change).

As early as March, the Fed will end the bond-buying program and (probably) raise the key interest rate to 0.5%. In total, three rate hikes are already priced in. A hike to 1.25% will follow if inflationary pressures do not abate.

The ECB could use clearer language this year to hint at key rate hikes in 2023 (end of negative interest rate policy). On trend, policy rate hikes lead to rising real yields (from negative toward zero).

To prevent security class valuations from coming under pressure, earnings growth must be able to compensate for the rise in yields. The greater the magnitude for monetary policy normalization, the more negative the impact for markets.

However, as long as the overall stance remains accommodative (low real interest rates), equities will remain supported over the economic cycle.

7. Risk Assets, Alternative Assets and Green Assets

Demand for risk assets (equities, private equity), alternative assets and green assets will remain high. Real government bond yields are (still) negative, pushing investors into risk assets (equities) (TINA for There Is No Alternative to Risk Assets).

However, the headwinds are increasing. At the same time, concerns about central bank independence have risen (high sovereign debt levels and high valuations in the financial and real estate markets, in technical terms: Fiscal and Financial Dominance).

This means increasing demand for cryptoassets and commodities. In addition, climate change mitigation measures could lead to rising prices for energy and industrial metals as a trend.

Last but not least, green prescriptive regulations and increasing acceptance that climate change is real imply high demand for green investment alternatives (ESG).

8. Emerging markets local currency bonds become cheap

The value (valuation) of EM assets (especially local currency government bonds) is becoming increasingly cheap. Many EM asset classes have underperformed or had negative total returns since the outbreak of the pandemic.

Some EM assets are already comparatively cheap. EM policy rates have risen significantly and EM currencies have depreciated against the U.S. dollar. However, it is probably too early to buy in early January 2022.

Driving factors: Fed policy tightening and EM rate hikes, inflation trends, pandemic trends. Later in the year, valuation of these factors may increase to the point where EM asset classes are not only sufficiently cheap, but growth and technical factors warrant a buy/overweight.

9. Geopolitics gaining importance

Increasing geopolitical tensions (Russia – Ukraine / West, Iran – West, China – US) are gaining intensity and could become relevant for market developments this year.

For example, in an event energy prices could rise unexpectedly and risk assets could come under pressure.

10. Volatility

In general, the preceding points suggest lower price increases for risk assets than last year (in some cases extraordinarily high), more frequent and stronger market corrections and higher volatility.

According to the textbook, the key rate hikes and inflation risks would mean that the negative correlation of risk assets with credit-safe government bonds would decrease.

Because the search for an alternative “safe haven” has not yet found consensus (cryptoassets?, commodities?, equities?, Chinese government bonds?), credit-safe government bonds are likely to continue to function as a “hedge” (price increases) against a negative event this year.

Important legal notes:

Forecasts are not a reliable indicator of future performance.


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