A Lullaby for Investors

Have risks indeed been sufficiently eliminated, or have investors just listened too long to the central bank lullaby?

ING Investment Management 8 February, 2013 | 6:00AM

This article is part of Morningstar's 'Perspectives' series, which features contributions from third parties such as asset managers, academics and investment professionals.

In financial markets, the start of 2013 was a study of extremes. Investor optimism was high and equity volatility low, pointing to a perceived absence of risk. At the same time currency markets were on fire and the media continued to use the word ‘crisis’ in every second sentence. These contradictory observations beg the question: have risks indeed been sufficiently eliminated, or have investors just listened too long to the central bank lullaby?

In 2011 and 2012, global central banks have strongly reduced the risks of a systemic breakdown. The most aggressive ones have even been able to help engineer a certain amount of growth. Recently, they have been so successful at this that an innocent observer might think that all is well in the world. Equity investors have apparently listened long enough to their printing press lullaby to largely forget about risk. And understandably so, as central banks have not only brought stability but have also pushed interest rates extremely low, almost forcing investors into higher yielding asset classes. 

‘Luckily’ we have the media to remind us that Europe is still in a crisis. For them, good news is no news, as I have noticed throughout the years when my columns were submitted for distribution. Columns with a negative tone generally met with a higher take-up by the European media than those with a brighter view on the world. This preference for showcasing drama is one of the factors depressing consumer confidence. However, investors do seem to care less. They now look beyond what is happening in Europe to what is driving the global economy as a whole, a playing field where actions of central banks remain pivotal.

How pivotal these actions are was evident again in January. After the successful stabilisation operation in previous years, the focus has now firmly returned to growth. And higher exports through a competitive currency-devaluation are seen as the most direct route to achieving that growth. In January the Japanese yen almost lost 9% against the euro! The pound sterling lost 6% and the US dollar 3%. That is largely so because the central banks of these countries (are expected to) print money faster than the ECB. Much faster. For Japan this is a significant break with the past, in a final attempt to escape the deflationary spiral which has haunted this aging country for so long. For the US and UK it is just ‘business as usual’.

The flipside of this development is that the ECB, the central bank which has expanded its balance sheet less fast than others, is not only governing a region which is still struggling to achieve growth but also has to cope with a currency which is at risk of becoming too strong. If this trend continues the ECB may be forced to lower interest rates even further and/or make a less conservative use of the printing press. 

What does this mean for investors? Firstly, short term interest rates in the Eurozone will remain extremely depressed and may possibly even go lower. Secondly, the strong rally in equities since the summer has eroded some of the valuation support for this asset class, certainly in the US. Further gains from here on may therefore feel more like an uphill struggle, also given the modest outlook for profits. We still like equities, but less so than in the past months. And finally, in financial markets where positive surprises in central bank behaviour have proven to be major catalysts, Japan could well provide the most popular ‘lullaby’ of 2013.

This article was written by ING's Ad van Tiggelen.

Morningstar Disclaimer
The views contained herein are those of the author(s) and not necessarily those of Morningstar. If you are interested in Morningstar featuring your content on our website, please email submissions to UKEditorial@morningstar.com.

ING Investment Management Disclaimer
The elements contained in this document have been prepared solely for the purpose of information and do not constitute an offer, in particular a prospectus or any invitation to treat, buy or sell any security or to participate in any trading strategy. This document is intended for press use only. While particular attention has been paid to the contents of this document, no guarantee, warranty or representation, express or implied, is given to the accuracy, correctness or completeness thereof. Any information given in this document may be subject to change or update without notice. Neither ING Investment Management (Europe) B.V. nor any other company or unit belonging to the ING Group, nor any of its officers, directors or employees can be held direct or indirect liable or responsible with respect to the information and/or recommendations of any kind expressed herein. The information contained in this document cannot be understood as provision of investment services. If you wish to obtain investment services please contact our office for advice. Use of the information contained in this document is solely at your risk. No direct or indirect liability is held for any loss sustained or incurred by readers as a result of using this publication or basing any decisions on it. Investment sustains risk. Please note that the value of your investment may rise or fall and also that past performance is not indicative of future results and shall in no event be deemed as such. This document is not intended and may not be used to solicit sales of investments or subscription of securities in countries where this is prohibited by the relevant authorities or legislation. Any claims arising out of or in connection with the terms and conditions of this disclaimer are governed by Dutch law.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

About Author ING Investment Management

ING Investment Management  is a global asset manager for institutions and individual investors. It is the principal asset manager of ING Group, a global financial institution of Dutch origin.