Via Vimal Gor at Pendal (formerly BT):
Well that was certainly fun. Over recent months we have been making the strong case that as a result of the normalisation of global monetary policy, global liquidity will recede and market volatility will rise. Well it certainly did in May as Italian yields puked and the global asset markets reacted. So far this year, we have seen the flash crash of February which gave insight into how the market reacts when it realises that it has been caught on the wrong side of the liquidity door. Then in March and April, we had the widening of LIBOR and BBSW spreads which highlighted the competing and rising need for liquidity in a time of tightening policy. This month, despite an appearance of serenity in US equity markets, further fragilities have been revealed in emerging markets and Europe, both of which were identified in our investment process and we were positioned for. Market returns in some of these asset classes are shown in Chart 1 below.
The era of Quantitative Easing (QE) boosted asset prices and brought forward future asset returns to today. You don’t need to be a rocket scientist to expect that in a period of Quantitative Tightening (QT) the reverse is going to happen. To be crystal clear, a normalisation of the QE experiment requires adjustments, and those asset prices that have benefited the most from the abundance of liquidity are likely to be the ones that will require the greatest of adjustments. Full stop.