To The Moon

The direction of financial markets at the moment is mainly determined by interest rate movements. Whereas rising interest rates first caused price losses, falling interest rates are now causing price gains. Interest rates are falling because inflation is likely to have peaked in the United States. While inflation figures came in higher than expected throughout the year, the latest US inflation figures were less than expected. Several developments mean that inflation figures could also be better than expected in the coming months. For instance, there are clearly fewer problems in supply chains. Container transport prices have fallen sharply. The market for new cars is more balanced, with used car prices falling sharply in the US. Oil prices are also falling due to Chinese lockdowns and the impending recession. Furthermore, the housing market is highly sensitive to rising interest rates, so prices are now starting to fall there too. Following the corona pandemic earlier this year, there was a rapid shift from the products side of the economy to the services side. As a result, inventories in the retail sector rose rapidly, which probably means they are going out the door at a discount. On the services side, the scarcity of staff is driving prices higher, but again, this is a temporary phenomenon. Post-corona, many parties, anniversaries, weddings, holidays, and other outings had to be made up and that effect is gradually starting to ebb away. Moreover, many workers are still stuck in crap jobs, made possible by the cheap money of recent years. Think of online businesses that even at the peak of the pandemic failed to generate positive cash flow. Take 10-minute delivery companies, for example. The moment these companies have to charge the actual cost of delivery, the fun quickly ends. Now that they have to watch costs, many of these staff become available elsewhere. Even bitcoin traders have to look for jobs. Higher prices also mean that more people have to go back to work, people who seemed to have left the job market for good last year.

In Europe, the development of inflation is strongly linked to the development of energy prices. Wholesale gas and electricity prices are falling sharply, but consumers are now being presented with the bill for the earlier panic among politicians to replenish gas stocks as quickly as possible and at any cost. The result is now that gas storage is filled to the brim and many LNG tankers are off European shores, waiting to be unloaded. On the one hand, the fact that high energy prices are delayed being reflected in higher prices for consumers means that the recession in Europe has probably already started and will also be relatively deep. Falling consumer confidence, a weak currency, high inflation, and rising interest rates combine to put a big strain on economic growth. That the ECB nevertheless continues to raise interest rates has more to do with the weak euro than with fighting inflation. After central banks opted for a far too lax policy since the Great Financial Crisis, this now threatens to slip to the other side. Eventually, the ECB will follow the US central bank and the Federal Reserve is likely to pivot in policy due to the better-than-expected inflation trend next year. Quickly coming inflation combined with a turn in monetary policy is obviously good for financial markets.

The peak in inflation is causing a peak in interest rates and therefore probably a peak in the dollar. The dollar has benefited from the US central bank's energetic raising of interest rates. The Federal Reserve is likely to be the first to pivot in monetary policy, something that could temporarily benefit the euro in the form of the anti-dollar. The loss in the dollar is the gain in the euro. Right now, there is still a lot of confidence in the dollar, which is also reflected in large speculative positions counting on a further rise in the dollar. But when looking at what people can buy for a dollar, the currency is extremely expensive, whereas, for instance, the Japanese yen is extremely cheap in that respect. In the long term, the outlook for Asian currencies is better. Those currencies are relatively cheap against the dollar and deserve a higher valuation based on economic fundamentals.

Increased interest rates have caused long-term forecast yields to rise. It has been a long time since bond yields could be this high. After the Great Financial Crisis, interest rates were cut to zero (or even below) and everyone started looking for yield. That period is now over. Rising interest rates caused share prices to fall, despite the fact that profits continued to rise. The combination of rising profits and falling prices have made equities rapidly cheaper. Anyone who would now start investing based on the initial returns in bonds and the long-term profit outlook in equities will find that return expectations have not been this high in a decade. Since investing is by definition a long-term thing and a 10-year investment horizon is also very common, then based on the development of the forecast returns over the past 10 years, this is the best time to get in. Both equity and bond investment prospects have clearly improved recently. We prefer equities and alternative investments to bonds, but bonds are again an essential part of defensive and balanced portfolios. The balance between risk and return has been restored and all thanks to the peak in inflation.