Central banks in Europe and Japan have committed quantitative easing worth $1 trillion each while the People’s Bank of China has started with its own easing measures off late. When the money printing stops, liquidity would dry up, further exacerbating an already deteriorating global liquidity scenario, said Bill Gross, portfolio manager of Janus Global Unconstrained Bond Fund.
It’s natural to assume that central bankers wouldn’t stop the money supply if they knew markets would be hit by crises due to high volatility, but unfortunately central bankers don’t know exactly the way home. While global markets have benefited to the extent of trillions of dollars of liquidity over the past few years, investors need to wonder what happens when they don’t, he noted.
The current liquidity pumping by central banks and the subsequent behavior of markets can be metaphorically compared to a helicopter (central banks) – car (financial markets) chase in slow motion where the car never runs out of gas. Asked how long the current scenario is likely to play on, because many investors have been waiting for an end to easy monetary policy for a couple of years now thus missing out good opportunities, Gross said that’s the bane of portfolio managers.
They can hold on to cash and own nothing, or they can participate and hope to time it properly at the moment of the end. However, it’s been five or six years now and markets have done very well, and checks are still being written, he argued.
The central banks of Japan, Europe and China have been operating in sync to maintain adequate liquidity in the global markets. Asked what happens when the co-ordination stops, Gross said theoretically, central banks won’t stop unless they think the economy has normalized. The problem, however, remains that the normalization may happen when inflation is not one percent, but 2/3/4 percent, and therefore bond and stock prices may be headed lower, he observed.
Asked to comment about the credibility of central banks across the world in general and the US Fed in particular, Gross said personally he believes while investors shouldn’t try to fight the Fed, they should, nevertheless, be very afraid of it.
While investors should listen to the Fed, they must use their own discretion to understand what the Fed is doing and the effects of its actions would have on the economy and inflation going forward. The Fed’s policies are based on models that were formulated 20-30 years ago and the markets have moved on to a new world, he explained.
Asked to comment about the one thing that the Fed might be doing wrong, Gross said surprisingly it was not the Fed-chief Janet Yellen, but vice-chairman Stanley Fischer who has done unusual things. Both Fischer and European Central Bank President Mario Draghi have come out and said watch out for volatility, which is akin to a fireman shouting “fire” inside a crowded-theater.
Central bankers have been trying to dampen volatility for the past five years. That looks like a signal from the ECB and the Fed; they want the longer term rates to go higher because insurance and pension companies in Europe and the US are suffering with two-to-three percent long-term yields. In the past few weeks, markets have turned volatile – but not for “taper-tension”, or for a situation where the yield curve has flattened and the short-end has gone up, but for a situation where the long rates are going up. Investors are beginning to recognize that the central banks want longer rates to move higher in order to salvage business models, he noted.
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