Living with the virus and inflation remain key to navigating markets


MEDIA RELEASE: Equity markets may be able to continue their rally on the global re-opening dynamic and the vaccine roll-out, but they face a number of issues in the second half of the year, in particular how people live with virus and persistence of inflationary pressures,  says Hamish Tadgell, portfolio manager at SG Hiscock & Company.

He said the emergence of new strains of the virus and pace of vaccine rollouts continues to heavily influence equity market performance.

“In Australia, if we are going to learn to live with the virus and stop locking down the economy, we need to mass vaccinate as quickly as possible. But a lot more also needs be done in screening and monitoring symptomatic as well as asymptomatic testing. In Europe and the US this is already a reality and testing technology is evolving quickly.

“Several Australian companies such as Ellume are leading the way in this area.  Ellume recently became the first home-based rapid diagnostic COVID test approved by the US FDA and is now contracted to the US Department of Defence and Delta Airlines to provide test kits for screening.

“The fact that Australia is not adopting world-leading home grown technology like this and embracing broad based monitoring and screening is a major area of public policy failure which needs addressing if we are going to learn to live with virus and avoid rolling lockdowns,” Mr Tadgell said.

Another big question into the second half of the year is whether the inflation scare in the first half  will prove transitory or is more structural in nature and how central banks respond.

“The pandemic has seen a radical pivot to fiscal policy and explosion in money supply but what is not known though is what happens to the velocity of money as economies continue to reopen and government payments start to roll-off.

“If households spend their savings over the next year or two, it has the potential to add to the reopening inflationary effects and become more persistent and entrenched in higher prices.

“For now, the Federal Reserve Bank (the Fed)  continues to maintain the line any pickup in inflation on reopening will prove to be transitory and exaggerated by the base effect.

“What is meant by transitory is becoming the question. The Fed has already conceded that it has underestimated the cyclical rebound out of the pandemic by increasing its 2021 real GDP growth and PCE inflation forecasts from 4.2% to 7% and from 1.8% to 3.4% respectively since the start of the year.  Then, at the mid-June FOMC meeting it brought forward the first-rate increase from 2024 to 2023.

“This all suggests the Fed sees the combination of pressures contributing to higher prices as being greater than expected, but still more temporary than structural and not sufficient to warrant addressing tapering issues.

“The practical reality is it is still far too premature to conclude the inflation scare is over, and the bond market is now more positioned for a sell off on any renewed inflationary concerns.”

Mr Tadgell says the real test of whether the pick-up in inflation will prove transitionary or not is likely to become clearer in the second half of this year.

“The risk over coming months is CPI remains elevated bolstered by reopening and pent up demand. It will be important to monitor inflation rates in August and September since the month-on-month increase slowed in those months last year.

“We remain of the view equities can continue to rally on the re-opening dynamic as the vaccine roll-out proceeds, and highly accommodative monetary and fiscal policy.  Any hint of earlier than expected tapering by central banks, and therefore earlier than expected interest rate hikes, remains the main risk for a market correction,” Mr Tadgell says.

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