Who’s the Looser?
- 24 January 2022 (7 min read)
Key Points
- While the US overheating is undeniable, it’s difficult to argue there is excess demand in Europe. But this cyclical gap is not replicated in relative financial conditions, which by reference to before the pandemic are not looser in the Euro area than in the US. This is another reason to expect significant policy divergence this year.
- We look into the “exclusion versus engagement” debate which is becoming prominent in sustainable finance.
The issue about inflation in the US now is less about a drift in expectations – surveys paint a reassuring picture on that front – and more about the actual effect of the current overheating. Re-anchoring expectations can often be done by the central bank merely “baring its teeth” but ultimately not doing too much in terms of actual tightening. Curbing excess demand, conversely, entails a proper rise in funding costs of the private sector. Since the Fed has signaled its readiness to reduce its balance sheet faster than during the last normalization phase, mortgage rates have followed the rise in treasury yields. However, corporate bond yields seem to be lagging, remaining more than 1.5 standard deviations below their 2010-2019 average. This asset class normally plays a key role in monetary policy transmission. The Fed may have to toughen up its rhetoric further to get more reaction from that side of the market.
It is much harder to argue that the Euro area is characterized by excess demand, and even with the reasonably brisk growth pace in our forecasts we don’t expect the output gap to close there before the end of this year. However, when taking as reference the pre-pandemic decade, financial conditions are not looser in the Euro area than in the US. This is another reason why we think it’s wrong to qualify the ECB as “being late” relative to the Fed. On top of the cyclical gap between the two regions, there is simply less accommodation to remove in the Euro area than in the US.
The “engagement versus divestment” debate has become prominent in sustainable finance. We review an intriguing academic paper suggesting the current impact of exclusions on capital cost is very limited. While the paper is convincing about the current state of play, we are less sure about the implications for the future, as more pervasive carbon-pricing systems will affect the relative financial performance of highly carbonated businesses. Finally, while in our view engagement – and hence accompanying companies in their transition journey – is key to any successful sustainable investment strategy, divestment can in certain cases be necessary to protect the long-term interests of savers. A business which would not make any effort to adapt to a regulatory environment which is likely to be increasingly tough on environmentally harmful activities is a good candidate to become a “stranded asset”.
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This document is for informational purposes only and does not constitute investment research or financial analysis relating to transactions in financial instruments, nor does it constitute on the part of AXA Investment Managers or its affiliated companies an offer to buy or sell any investments, products or services, and should not be considered as solicitation or investment, legal or tax advice, a recommendation for an investment strategy or a personalized recommendation to buy or sell securities.
Due to its simplification, this document is partial and opinions, estimates and forecasts herein are subjective and subject to change without notice. There is no guarantee forecasts made will come to pass. Data, figures, declarations, analysis, predictions and other information in this document is provided based on our state of knowledge at the time of creation of this document. Whilst every care is taken, no representation or warranty (including liability towards third parties), express or implied, is made as to the accuracy, reliability or completeness of the information contained herein. Reliance upon information in this material is at the sole discretion of the recipient. This material does not contain sufficient information to support an investment decision.
All investment involves risk , including the loss of capital. The value of investments and the income from them can fluctuate and investors may not get back the amount originally invested.
Disclaimer
This website is published by AXA Investment Managers Australia Ltd (ABN 47 107 346 841 AFSL 273320) (“AXA IM Australia”) and is intended only for professional investors, sophisticated investors and wholesale clients as defined in the Corporations Act 2001 (Cth).
This publication is for informational purposes only and does not constitute investment research or financial analysis relating to transactions in financial instruments, nor does it constitute on the part of AXA Investment Managers or its affiliated companies an offer to buy or sell any investments, products or services, and should not be considered as solicitation or investment, legal or tax advice, a recommendation for an investment strategy or a personalized recommendation to buy or sell securities.
Market commentary on the website has been prepared for general informational purposes by the authors, who are part of AXA Investment Managers. This market commentary reflects the views of the authors, and statements in it may differ from the views of others in AXA Investment Managers.
Due to its simplification, this publication is partial and opinions, estimates and forecasts herein are subjective and subject to change without notice. There is no guarantee forecasts made will come to pass. Data, figures, declarations, analysis, predictions and other information in this publication is provided based on our state of knowledge at the time of creation of this publication. Whilst every care is taken, no representation or warranty (including liability towards third parties), express or implied, is made as to the accuracy, reliability or completeness of the information contained herein. Reliance upon information in this material is at the sole discretion of the recipient. This material does not contain sufficient information to support an investment decision.
All investment involves risk , including the loss of capital. The value of investments and the income from them can fluctuate and investors may not get back the amount originally invested.