The FINANCIAL — Mercer on December 12 outlined key themes and trends expected to influence economic and market dynamics in two papers, Mercer’s 2018 Global Outlook and the 2018 Global Themes and Opportunities.
The investment themes that institutional investors should be considering include: the impact of a move from quantitative easing (QE) to quantitative tightening (QT); preparing for late cycle dynamics; political fragmentation; and stewardship in the 21st century.
“The global economy is growing at the fastest pace since the financial crisis of 2008. We expect this to continue into 2018, though this is likely to be reined in by tighter monetary policy at some point in the next few years.” said Deb Clarke, Global Head of Research, Mercer. “Overall, we view the primary risk to economies and markets as the ability of central banks to unwind easy monetary policy at an appropriate pace; particularly the risk that the Fed raises interest rates too aggressively. Institutional investors should also pay attention to political risks and recognise the importance of assessing environmental, social and governance factors in their role as stewards of capital.”
“We would appear to be on the cusp of a shift in monetary policy – the end of an era in which central bank policy has been a significant tailwind for markets. The open question is if and when policy might become an outright headwind for markets. We expect to see a more volatile market environment in 2018 than the unusual degree of calm that prevailed in markets over the course of 2017.” said Phil Edwards, Global Director of Strategic Research at Mercer.
QE to QT
In response to low levels of unemployment and robust growth, many of the world’s major banks are starting to pull back on expansionary monetary policies The US Federal Reserve (“the Fed”) recently announced a plan to gradually normalize its balance sheet over the coming years (referred to as Quantitative Tightening or “QT”). The Bank of England implemented its first rate hike since 2007 in November 2017. The European Central Bank has announced a reduction in the rate of asset purchases from January 2018. The pace and scale of the shift from monetary easing to tightening will be a major influence over economies and markets through 2018 and beyond.
Preparing for late credit cycle dynamics
The later stages of a credit cycle typically present a challenging environment for investors, offering lower returns and greater risks than the early or mid-cycle periods. While we anticipate the current economic strength will continue into 2018, investors should start considering the ways in which they might prepare portfolios for the risks and opportunities that the late stage of this credit cycle could present.
Since the financial crisis of 2008, politics have become increasingly polarised, manifesting in the Brexit vote, elections across Europe, the election of Donald Trump and more recently in the Catalan bid for independence. Investors are likely to face an environment of heightened political uncertainty for some time and should consider stress testing portfolios when reviewing their strategy in 2018.
Stewardship in the 21st century
The financial crisis of 2008 chipped away at trust levels and as such, institutional investors increasingly need to recognize the importance of their role in acting as good stewards of the capital entrusted to them. Investors need to have a transparent set of beliefs in relation to environmental, social and corporate governance (ESG) issues as well as recognizing and managing systemic risks such as climate change. It is anticipated that a growing percentage of investors will seek to reflect their values and to promote social good when investing their assets.