To The Moon

For the rest of this year, there are three possible scenarios for the financial markets and they depend on three factors. Those factors are economy, liquidity and valuation. Economy and liquidity are factors that mainly affect stock markets in the short term, valuation is all-important in the long term. The basic scenario that central banks try to push for is the soft landing scenario. In this scenario, although economic growth falls, a recession is avoided. At the same time, inflation can fall to the 2-percent target. This is an ideal scenario, but at the same time not an easy one. In history, inflation from such a high level has never come under control without a solid recession. But this time, the corona pandemic and the war in Ukraine did cause much of the inflation to be transitory. Then again, when compared to the sharply rising inflation a year ago, inflation rates can drop quickly.

The moment a recession does occur, there is talk of a hard landing. Economists were betting heavily on such a scenario early this year. Still, a strong U.S. consumer and a sharp drop in European energy prices have greatly reduced the chances of such a recession. However, central banks did ensure that the money supply is shrinking for the first time in a long time. That inhibits the economy and almost always causes financial mishaps. Last year there was a problem with British pension funds.

This year, several banks already had to be bailed out. The latter inhibits credit and thus brings a recession closer. At the same time, then, the moment approaches when central banks change course. By the way, a recession is usually not a bad time to enter. There is usually a lot of bad news factored into share prices then. In private equity, the best returns are realized by funds that start at the time of a recession.

During the past quarter, a third scenario was added: the go-live scenario. The economy does not land at all and just continues to grow. In such a scenario, the big question is what central banks are going to do. On the one hand, in such a go-around, there is a good chance that inflation will also remain high for much longer, but on the other hand, it takes a while for the many interest rate hikes to have an effect and at some point tight monetary policy also hits financial stability, as we have seen with the British pension funds and the new banking crisis. The moment these problems become so big that they threaten the financial system, central banks have no choice but to loosen the reins. Higher growth, as well as structurally higher inflation, will result. Good for stocks, but less good for bonds.