09.09.2019 – Special report. Everything is so harmonious again on the stock exchange: Customs negotiations between China and the USA are to continue in October. Closely related: The Federal Reserve, the Chinese central bank and also the European Central Bank will probably loosen monetary policy further in order to avert a recession. According to experts, it is precisely this approach and the resulting negative interest rate that are a real cause for concern. Reason enough to deal with the dangers slumbering in the background.
End game for paper money
This better not end badly: The devaluation of the money continues, believes the Chief Investment Officer of Blackrock, Rick Rieder. In the fight against deflation, the central banks would have to keep pushing down interest rates. The expert recently cited long-term, unstoppable developments on his blog as the reason for the scenario of the financial “endgame”.
Inflation, for example, peaked in 1979. Firstly, the baby boom had abated since then; secondly, the growth in women’s employment had fallen afterwards. Thirdly, Deng Xiaping had initiated globalisation with his reforms in China. We add: China has become the workbench of the world, and the entry of India and Russia into the world market has also significantly lowered the prices of many goods. And finally, according to Rieder, with the Iranian revolution, the inflation fueled by the oil price has disappeared – especially since OPEC committed itself to a reasonable price policy. Furthermore, new technologies such as the Internet and smartphones would have led to greater price transparency – ergo at falling prices, because consumers would be able to compare better.
No inflation, nowhere
Although major central banks used ever larger weapons in the fight against deflation, they appeared unsuccessful in their attempt to raise inflation to a mostly desired level of 2 per cent, the Blackrock CIO continued. With key interest rates falling, the supply of bonds with negative interest rates is increasing; quantitative easing has worked its way up from government bonds to corporate loans. The end game is currency devaluation, i.e. a “debase” – the growth of liquidity must exceed the growth in global gross domestic product. Turning away from such an extreme policy is very difficult, as the temptation of fiscal policy to take on new debts is on the rise. The devaluation spiral in interest rates also increases the risk of an open currency war, the expert commented.
The countermeasure for investors: Assets that retain their intrinsic value and cannot be printed. Ergo: stocks, real estate and commodities, such as gold. The worst alternative: government bonds with negative yields and cash, since both can theoretically be offered indefinitely.
Bankers warn against negative interest rates
In fact, top bankers are now also warning against the negative interest rate. The ECB’s move has led to an “absurd situation” in which banks no longer hold deposits, the head of the Swiss UBS, Sergio Ermotti, recently raged. This policy is damaging social systems and savings rates.
Christian Sewing, head of Deutsche Bank, also warned that further easing by the ECB would cause serious side effects. In the long run, negative interest rates will ruin the financial system, even though a new interest rate step will make refinancing easier for states, he said at an event of the “Handelsblatt” according to Bloomberg. Sewing also warned of a further split in society, as savers would be penalised – already paying 160 billion euros for negative interest rates – while share prices rose. Moreover, the central banks had hardly any tools left in their hands to effectively counter a crisis in the real economy.
The next big short
And even if the flood of money raises stock prices – this effect also harbours dangers. At least Michael Burry warned of this – and he can well estimate the possible disaster to come, as he was right a decade ago in the financial crisis. Burry went down in the annals with the book “The Big Short”. Recently Burry spoke extensively on “Bloomberg News”. His theses: Central banks distort the market, passive investments create the next bubble.
The recent flood of money in the direction of index funds has parallels with the bubble of collateralized debt obligations before 2008. Index funds are currently pumping up the prices of equities and bonds, just as the demand for CDOs had caused a pull in subprime mortgages a decade ago. In the case of CDOs, pricing in the market was not based on a fundamental analysis of collateral, but on massive capital flows that followed risk assessment methods that Nobel Prize winners found to be good, but which ultimately turned out to be wrong.
“The dirty secret of passive index funds (…) is the distribution of the dollar value traded daily among the securities within the index,” Burry said. And: The flow of money will be reversed at some point. As with all bubbles, “the longer it takes, the worse the crash will be.
Here you will find protection
Burry, who currently manages about $340 million at Scion Asset Management in Cupertino, California, also had concrete advice for investors. He added that he likes small caps – which are underrepresented in passively managed funds and thus undervalued. In Japan, for example, there are many undervalued small companies with high cash or equity cushions. Another concrete tip: In Japan, the large exchange-traded funds in particular are better protected against global panic than other funds, as the Japanese central bank is particularly heavily invested in large ETFs.
No matter whether you trade CFDs or trade stocks online – you should definitely keep an eye on the issue of money devaluation by the central banks. The flood of “fiat money” has concrete consequences for commodities, bonds and equities if the bubble really bursts.
The Bernstein Bank wishes you successful trades!
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