Bankers throwing the kitchen sink at it!
Since the global financial crisis, central banks in the UK, Europe and the US have used almost every monetary policy tool within their power to push inflation to their respective targets.
Central bank’s pre-crisis toolkit has proven to be inadequate to deal with the range of economic circumstances faced today. To address the challenges posed by the financial crisis and subsequent severe recession and slow recovery, the Federal Reserve (Fed), the European Central Bank (ECB) and the Bank of England (BOE) significantly expanded its monetary policy toolkit.
More recently, following the UK’s vote to leave the EU, the BOE unleashed its largest stimulus package since the financial crisis. The BOE cut interest rates to .25%, introduced a new Term Funding Scheme (TFS) which will mean that the cut in the base rate should be passed on to households and firms and expanded its quantitative easing by £60 billion to £435 billion. This package contains a number of mutually reinforcing elements, all of which have scope for further action. While economic data has demonstrated some resilience in the UK, there is a sense that markets are waiting impatiently as various macro risks loom on the horizon. Appian Value and Ethical Value Fund have benefited from BOE’s bond buying announcement with positions in UK sovereign bonds and corporate bonds. We expect the aggressive easing approach from the BOE to continue, which should favour these positions.
Last week, the ECB kept rates unchanged with the benchmark refinancing and deposit rates remaining at 0% and minus .4% respectively. The president of the ECB announced that the ECB’s ‘expanded asset purchase programme’ where €80 billion per month of euro-area bonds from central governments, agencies and corporate bonds will extend ‘until the end of March 2017 or beyond if necessary and until council sees sustained adjustment in the path of inflation consistent with its inflation aim’. Despite no change in monetary policy this month, we expect further negative impact on European economic activity from the Brexit vote and a lack of fiscal stimulus. We believe therefore a further easing bias will stem from December’s ECB meeting. The design of the quantitative easing program could be altered as well as possibly extending the program. Perhaps even more radical measures of monetary policy such as helicopter money might be used as a method of stimulating the economy. The European sovereign and corporate bond holding in the Value Fund and Ethical Value Fund has gained year to date and should profit further from this accommodative stance.
On the other hand, on 16th December 2015 the Fed increased its key interest rate, the Federal Funds Rate, for the first time after June 2006. May’s payroll data and the Brexit vote interfered with the Fed’s willingness to raise rates in June or July however more recently, with no major risks appearing, the data dependent Fed has signalled a rate hike before the end of the year. We remain cautious at the pace of an increase due to a softer US growth outlook for capex spending, manufacturing and inventory levels. Our exposure to US credit market is in the form of US Treasury bonds whose price and interest payment are linked to rising inflation or a rising Federal Funds Rate to protect the portfolio from rising interest rates/inflation rates.
Overall we expect rates will stay relatively low on average over the coming years. With monetary policy reaching its limits in some markets, Appian remains cautious on credit and even when rates rise, we expect it to be at a very gradual accommodative pace.