Colliding Demand and Supply Shocks

Volatality

In this Macro Perspectives, our economists discuss how to best navigate the volatile geopolitical environment’s impact on markets, and how the policy playbook may change based on growth and inflation expectations.

In our last Macro Perspectives, the inflation debate was front and center—that hasn’t changed. But the drivers of it have. The war in Ukraine has driven energy and food prices higher, exacerbating the price spikes from COVID-19 and supply chain disruptions. I spoke with several of our economists for their views on how to best navigate the volatile geopolitical environment’s impact on markets, and how the policy playbook may change based on growth and inflation expectations. Below are a few highlights of our conversation:

  • The food and energy supply constraints from the war in Ukraine will probably exaggerate the inflation peak in the short term. Between now and the US Labor Day in early September, the focus of attention may shift from worries about inflation to worries about the economy.
    Francis Scotland, Director of Global Macro Research, Brandywine Global

 

  • The war in Ukraine shifted the source of inflation from demand-led inflation to a more supply-led inflationary environment. Those are two very different things and require a different type of response from policymakers—including central banks.
    Gene Podkaminer, CFA, Head of Research, Franklin Templeton Investment Solutions

 

  • Nominal rates have increased substantially in specific emerging markets, creating a significant yield advantage for bond investors. Some emerging economies with vast supplies of natural resources are also now benefiting from today’s commodity tailwinds. For local-currency bond investors, that can mean positive commodity exposure plus carry.
    Michael Hasenstab, Ph.D., Chief Investment Officer, Templeton Global Macro

 

  • Central banks are never too late in fighting inflation—as long as they are willing to tighten policy enough. The problem is the high cost from waiting so long. I’ve argued that the Fed has been behind the curve now for quite a while. The more behind the curve a central bank gets, the harder it is to bring inflation down.
    Sonal Desai, Ph.D., Chief Investment Officer, Franklin Templeton Fixed Income

 

  • Do we need even tighter monetary policy to slow growth further if growth is already slowing on its own? Incomes are already a lot lower now compared to last year on a nominal basis because we don’t have the government stimulus checks. It’s even lower on a real basis now that inflation is eroding buying power. Historically, lower disposable income is not a recipe for good growth.
    John Bellows, Ph.D., Portfolio Manager, Western Asset

 

I hope the discussions in Macro Perspectives better inform your decision-making.

Stephen Dover, CFA
Chief Market Strategist,
Franklin Templeton Investment Institute

WHAT ARE THE RISKS?

 

All investments involve risks, including possible loss of principal. The value of investments can go down as well as up, and investors may not get back the full amount invested. Bond prices generally move in the opposite direction of interest rates. Thus, as the prices of bonds in an investment portfolio adjust to a rise in interest rates, the value of the portfolio may decline. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Investments in foreign securities involve special risks, including currency fluctuations, economic instability and political developments. Investments in emerging market countries involve heightened risks related to the same factors, in addition to those associated with these markets’ smaller size, lesser liquidity and lack of established legal, political, business and social frameworks to support securities markets. Such investments could experience significant price volatility in any given year. Investing in the natural resources sector involves special risks, including increased susceptibility to adverse economic and regula­tory developments affecting the sector. China may be subject to considerable degrees of economic, political and social instability. Investments in securities of Chinese issuers involve risks that are specific to China, including certain legal, regulatory, political and economic risks. Actively managed strategies could experience losses if the investment manag­er’s judgement about markets, interest rates or the attractiveness, relative values, liquidity or potential appreciation of particular investments made for a portfolio, proves to be incorrect. There can be no guarantee that an investment manager’s investment techniques or decisions will produce the desired results. There is no assurance that any esti­mate, forecast or projection will be realized. Past performance is not an indicator or a guarantee of future results.

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