The way of the money has changed, so the right choice of investments is more important. Especially if you want to outperform the high inflation.
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As you may have seen earlier, almost simultaneously with the emergence of the covid, many countries have started to push large amounts of money into the economy as a result of the economic recovery. The low cost of funding and the promise of endless money, coupled with the difficulty of spending it in the physical world due to quarantine, sent almost all exchange rates skyrocketing.
But this trend seems to be reversing. High inflation has caused the US Fed to start cooling the economy.
Although there may be bumps in the road in 2022 and, as I mentioned in previous investor overviews, high inflation will stay with us, analysts do not expect a recession this year. 2023 could be a question in this respect, as it will depend largely on how and what central banks do to tackle inflation.
The amount of cash in the economy and the cost of funding also affects the price of shares. This is not surprising, because if you have a lot of cash available, you can only spend part of it there and then, even for external reasons, and for the rest you seek a place elsewhere. Obviously you want to find a place where you can earn a lot. If this money is not only available to you, but also there are many other people with a lot of reserves, then many people will invest in shares, which will push up the share price.
The effect of this, combined with a low interest rate when interest rates on loans are down, is only more pronounced. This has been the case so far, as the share price has also been able to rocket because many people have bought shares with leverage, i.e. credit.
Now that interest rates on loans are rising and the money spigots are closing, we can expect the rise in equities to stop, or rather to fall. You can see this in the chart of the S&P500 stock index.
This does not mean, of course, that they will cease to exist, just that habits will change. Whereas growth stocks used to be the star performers, now value-based investments are more popular, and stocks of companies that can perform well in the current environment are showing growth.
While a rise is expected in the short term, long-term movements are unfortunately not yet visible. If volatility appears even more pronounced, it could be an entry point for you.
For equities, it can serve you well to pay attention to volatility. High volatility that appears is typically a sign of increased movement, and this is overwhelmingly due to increased fear. The VIX measures this. The breakout points are usually a long term entry point for you, as fear drives people to sell even below price.
The other rearrangement, territorial change
US indices have performed poorly this year, thanks to the tightening of fiscal and monetary policy. The quarantine due to the emergence of a new wave of covids in the Far East and China’s shift in focus from quantitative growth to social catch-up also hit indices there badly. However, thoose who previously lagged behind were a good entry point. One example is the Turkish index.
The dollar exchange rate
The impact of the dollar exchange rate globally
Many countries are either indebted in dollars or pay in dollars for imported goods, energy and raw materials. This is why one of the most important indices is the dollar index, where the dollar exchange rate is not measured against the currency of a specific other country, but against a basket of currencies. The dollar index tells you whether the dollar is strengthening or weakening against the currencies of other countries.
What can you see in the picture?
The dollar has strengthened relative to everything else in the last 1 year, and what’s more, it has reached its highest point in not just 1 year, but in many years. The Fed’s rate hike is expected to cause further dollar strength, making it even harder (though unintentionally) for the dollar-indebted countries, i.e. weakening their economies somewhat, assuming they do nothing.
The dollar and the euro
While the Fed has long since begun monetary tightening, now joined by fiscal, i.e. government, tools, the ECB is still on hold and has not yet taken any meaningful action against inflation.
There have been rate hikes of around 0.5%, but the minimum inflation level of around 8% versus a 0.5% rate hike is apparently not commensurate. This is not expected to suck large amounts of cash back into the economy. Therefore, the euro has weakened against the dollar, which could have a negative impact on the economy of the European Union as a whole.
In the current economic environment, raw materials have shown one of the largest price increases. You can think of high oil prices, which are expected to stay with us for a while, or even agricultural products. Indeed, due to the events in Ukraine, wheat prices, for example, are expected to double compared to last year.
So either investing in these products directly or indirectly through indices could give you a nice return, and this level of return is expected to stay with us for some time.
Of course, the right choice of raw materials is also paramount. Although gold is involved in industrial production, its price is much more influenced by its presence as an escape asset. Although the fear of the outbreak of war was reflected in the price of gold, fortunately the war remained local and prices calmed down.
As you can see, although gold is being “sold” as an anti-inflationary tool, it is not true within this 1-year time frame. You would have to wait far longer, even a decade.
What are the dangers you face now?
Interestingly, the risks are virtually unchanged from those mentioned in the October round-up.
They are just as present:
- the reallocation and possible liquidity problems resulting from the closing of the money taps
- the geopolitical risk, only this time not from Afghanistan but from the Russian-Ukrainian war
- the emergence of a new mutation of the covid, or a new quarantine because of the old ones
- price-wage spiral pressure
- the risk of stagflation, which fortunately is still only a possibility, the statistics are good
- the problem of high inflation
What can you do to guard against high inflation?
Investment options in different asset classes perform well in different market environments. At the moment, high inflation is making interest income underperform. Examples include corporate bonds, government bonds and even bank deposits.
You can achieve a positive result with investments that provide some sort of yield.
Be sure to choose investments where demand is broad and where increased costs can be built into the price. Examples include equities and real estate. As we are going through a bumpy period due to market events, the right choice cannot be overemphasised. On the one hand, it should be appropriate for the market, i.e. it should have growth potential, and it should also be appropriate for you. In other words, it should also fit your risk-bearing capacity and the time horizon you have chosen.
Hungary is currently considered a risky area for foreign investors because of its proximity to the war, i.e. its territorial proximity. Although there are good investment opportunities in this region, for example in equities, the emerging risk has scared off too many foreign investors to allow prices to start to rise.
A further risk is that the financial and energy sectors are likely to be subject to additional taxes. In the case of domestic blue chips, an import connection or even an affiliate relationship that existed before the war with Ukraine is an additional risk, as these sectors are not profitable at the moment.
As Hungary has not yet reached an agreement with the EU, EU funds have not yet arrived in Hungary. As this is also a significant amount in GDP terms, it is unlikely that the state will be able to finance it for a long time, combined with the high level of public debt. Presumably the end of this is an early agreement.
Hungarian inflation is expected to remain high, as the vast majority of inflation in Hungary is driven by imported inflation. As the MNB is finding it difficult to maintain the stability of the forint, which is why we are currently seeing all-time highs, we should be prepared for the process to continue to strengthen. To avoid this, either do not hold significant amounts of forint (e.g. because you are investing) or choose an investment that outperforms on a forint basis.