Economics and Strategy
The Big Picture is Amazingly Clear
—David Zervos, Global Head of Fixed Income Strategy & Economics
The markets continue to be driven in the short term by a lot of noise. People are focusing on the Italian elections, Cypriot bailouts, LTRO paydowns and the U.S. sequester. All of these “focal points” have about the same long-term relevance for financial asset prices—nil!
As we have argued for long while, there are only three primary drivers of asset prices globally—Ben, Mario and their new buddy Haruhiko—the rest is fluff! This does not mean that dollar-yen cross cannot air-pocket 3 figures on a lazy New York afternoon; or that Spoos can’t drop 30 points on European political uncertainty and heated fiscal policy banter from DC. Grinding rallies and sharp sell-offs are the basic ingredients of a bull market. And if you are going to run with bulls, you will occasionally have to take a horn in the rear! That’s why we always carry a little first aid kit with us full of blue eurodollars. They always ease pain from the inevitable piercings.
But as we move forward on this path to a reflationary recovery, it is critical to maintain a view of the forest for the trees. Central banks are diluting the value of fiat currency. And more physical cash will chase the same set of real assets. This in turn will drive asset prices higher and generate our much discussed reflation trade! Whether the Italians elect a comedian/criminal as their prime minister, the Cypriots haircut some Russian oligarchs or there is $8 billion less per month spent on a handful of bloated U.S. government programs does not matter. All of these “focal points” are but mere blips on the radar screen.
Ben is on a mission, Mario will do whatever it takes and Haruhiko is the guy who called for a 3% inflation back in 2002. The G3 central banks are all engaged in the same policy. They are using their domestic portfolio balance channels (aka printing presses) to reflate risk assets. They are of course risking significant future inflationary pressures, but that’s an issue for another day. These two facts are all you need to know. To get caught up in Italian politics, Cypriot haircuts or U.S. fiscal policy is missing the big picture.
In the end, we must keep our eye on the long-run prize and stay focused on the important drivers. The big picture is amazingly clear. Of course it will not be a one-way ticket to reflationary paradise without a few bumps on the road. But don’t be confused by the occasional setback. These are normal. These are opportunities.