Monetary policy U-turn carries its own risks
July 16, 2019

The late Paul Samuelson, a Nobel Prize winner, once quipped that the stock market had forecast nine of the last five economic recessions a damning indictment on the market's clairvoyance but a useful insight for investors. Financial markets and the real economy often diverge.

In the past 50 years, there have been seven recessions in the US. The first five prior to 2000 were caused by aggressive rate hikes by the Federal Reserve, as the economy became over-heated.

In contrast, the last two recessions in 2001 and 2008 were caused by the unwinding of financial market imbalances resulting from rising debt and unsustainable asset values caused by 10 years of ultra-loose monetary policies.

The Fed's dovish U-turn last January on rates, balance sheet and its inflation strategy aimed to allay recessionary fears. On the flip side, it could potentially exacerbate the current imbalances, raising the potential for an even bigger market correction further down the line.

Mindful of that fact, pension investors are adopting all manner of hedging tools – ranging from broad diversification to stop-loss mechanisms.

They imply a pragmatic stance that blends opportunity with caution: capitalising on the late-cycle surge, while accepting that no risk tools can fully future-proof asset portfolios.

Today's equity markets have ensured that to be risk averse prematurely is the biggest risk investors face. No wonder they remain unloved even after their long bull run.

Part of a series of brief informative articles by Amin Rajan, CEO of CREATE-Research





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The late Paul Samuelson, a Nobel Prize winner, once quipped that the stock market had forecast nine of the last five economic recessions a damning indictment on the market's clairvoyance but a useful insight for investors. Financial markets and the real economy often diverge.

In the past 50 years, there have been seven recessions in the US. The first five prior to 2000 were caused by aggressive rate hikes by the Federal Reserve, as the economy became over-heated.

In contrast, the last two recessions in 2001 and 2008 were caused by the unwinding of financial market imbalances resulting from rising debt and unsustainable asset values caused by 10 years of ultra-loose monetary policies.

The Fed's dovish U-turn last January on rates, balance sheet and its inflation strategy aimed to allay recessionary fears. On the flip side, it could potentially exacerbate the current imbalances, raising the potential for an even bigger market correction further down the line.

Mindful of that fact, pension investors are adopting all manner of hedging tools – ranging from broad diversification to stop-loss mechanisms.

They imply a pragmatic stance that blends opportunity with caution: capitalising on the late-cycle surge, while accepting that no risk tools can fully future-proof asset portfolios.

Today's equity markets have ensured that to be risk averse prematurely is the biggest risk investors face. No wonder they remain unloved even after their long bull run.

Part of a series of brief informative articles by Amin Rajan, CEO of CREATE-Research




More on:  Asset management