2022 was a year of change, not only for our Firm with Susan’s planned retirement after 35 years in financial planning but also for the global economy. It signified a generational shift away from low inflation, cheap money, and high-flying technology companies, where low-quality stocks have been the primary driver of investment returns for nearly 15 years. Since the Global Financial Crisis (GFC) of 2008-2009, cash has paid virtually nothing, and bonds only paid slightly above that. In fact, until less than a year ago, much of the globe held interest rates at zero or below to stimulate their respective economies and help generate inflation. Well, it finally worked! The global economy now has an inflation problem. Inflation in the U.S. reached a 40-year high over the summer and is even higher in Europe. Worldwide it is slowly coming down, but it is still too high.
The catalyst for this quandary was too much money chasing too few goods. In the U.S., both the fiscal and monetary sides share responsibility for record inflation based on COVID stimulus from Congress and an extremely loose Federal Reserve (Fed). Central banks around the world hiked rates at an unprecedented pace. The Fed raised interest rates seven times in 10 months to over 4% (Federal Funds Rate) and will likely continue a few more times before they pause. This has caused lending rates to rise across the board, slowing growth.
Globally, central banks are trying to slow down their economies to put the inflation genie back in the bottle. Of course, there are always unintended consequences. One of the main risks is that growth slows down so much that it causes a severe economic downturn or prolonged recession. A recession is likely but not as painful as the GFC (see Kyron’s Macroeconomic Update).
The global economy is moving towards a more normal interest rate environment where high-growing stocks are no longer the only game in town. Cash and bonds provide real yield for the first time in almost 15 years. This new regime should be more sustainable in the long-run, but the inflationary problem will take time to fix and likely lead to heightened volatility.