Cuts in spending being introduced in the United States may have a greater impact on local markets than many have anticipated, Aberdeen Asset Management’s head of Asia Pacific strategy and asset allocation, Peter Elston has said.
“Ultimately, monetary policy is the key driver of financial markets,” Mr Elston told InvestorDaily.
“We’ve had this extraordinary run in equity markets over the last eight months but, if anything, economic performance has been slightly worse than would have been expected eight months ago.”
Mr Elston used the example of the United States in 1937, when the government tightened fiscal policy after a period in which it had been running a loose policy that allowed the private sector to deleverage. Because the private sector wasn’t strong enough to withstand the fiscal contraction, the nation went into a double-dip recession and the stock market fell nearly 50 per cent.
“I’m certainly not suggesting that’s likely this time, but it gives quite a good indication of what can happen when you contract fiscal policy at a time when one’s private sector doesn’t have the confidence to withstand that sort of contraction,” he said.
Gold is one asset in Australia that will feel the effects of changing policy, Mr Elston said. Gold is currently trading at all-time highs and “you’d have to start to feel a little bit nervous at these levels”, although it may continue to rise in real terms until it reaches its peak.
That peak will come when global inflation begins to take hold as a result of the loose monetary policy we’ve had over the last four years. “That hasn’t resulted in inflation yet but at some point it will, probably in four to five years from now,” Mr Elston said.
In terms of bonds, Mr Elston said long-term expectations would currently be very different from short-term expectations, with markets currently overvalued globally. Inflation-linked bonds in markets such as Japan, the United States and the UK are returning negative real yields while inflation-linked yields in Australia are barely into the positive.
We’re at the end of a 30-year period in which long bonds have produced returns way in excess of what they should be expected to produce and we would expect some sort of mean reversion such that you see returns from bonds falling fairly substantially, Mr Elston said.
In the short term, Aberdeen remains fairly well exposed to bonds in its portfolios but “will be looking for opportunities over the next one or two years to move out of bonds”, he added.
