June 14, 2022
SINGAPORE – Recessions are unavoidable.
In the past, especially in the 1970s and 1980s, they were triggered by a confluence of unanticipated factors such as a sudden spike in oil prices, stagflationary forces or banking crises.
But a deliberate policy-induced recession is quite another.
It is akin to setting off fireworks to see what gives. And that is what the world faces today due to aggressive monetary tightening by central banks as the world gradually recovers from a pandemic-induced crisis.
Pandemonium was unleashed in markets on Monday (June 13) over fears that the Federal Reserve will go with a 75-basis point interest rate hike at its meeting this week to bring under control runaway inflation that has hit 40-year highs.
The latest United States data shows that prices rose 8.6 per cent in May.
The fear of a more aggressive rate hike resulted saw US stocks plunge into a bear market on Monday.
The S&P 500 index tumbled almost 4 per cent overnight on Monday in New York to its lowest levels in a year, while the Nasdaq sank 4.7 per cent amid a sell-off of tech stocks – big and small. The Dow Jones index fell almost 2.8 per cent.
On Tuesday morning, Asian markets followed suit.
The Straits Times Index was down almost 1 per cent to 3,108.8 just before noon as banks and blue chips headed southwards.
DBS Bank is now at its lowest level in a year, while UOB is at its lowest level in over six months.
Across the region, Japan’s Nikkei 225 shed 1.6 per cent, Hong Kong’s Hang Seng Index retreated 1 per cent and China’s Shanghai Composite fell 1.6 per cent. South Korea’s Kospi lost 0.8 per cent, while Australia’s S&P/ASX200 sank 4.4 per cent.
Triggering the risk-off panic, the yield on the two-year US Treasury bond, a benchmark for borrowing costs, briefly rose above the 10-year yield on Monday.
The resulting inverted yield curve – when it costs more to borrow for shorter periods than longer periods – typically does not happen in a healthy economy and is often taken as a sign of an impending recession.
Many investors fear that instead of controlling inflation, which is largely due to supply side constraints caused by supply chain crunches and the war in Ukraine, higher rates will simply punish consumers and economic growth.
Mr Clifford Bennett, chief economist at ACY Securities, is one of them.
“Inflation is impervious to interest rate hikes in any case,” he wrote. “The result is inevitably the squeezing of consumers and businesses alike by skyrocketing prices and higher interest rates. Mortgage stress will grow substantially, potentially triggering a second great housing market crisis in the US this century.”
If that happens, property prices can decline amid high inflation. If consumer confidence is deflated, then a particularly bad recession can be triggered.
This scenario could unfold as soon as later this year, Mr Bennett added.
So what should investors do?
Firstly, resist the temptation to go “bottom-fishing” for stocks until some clarity emerges. There is a likelihood of a relief rally after the Fed announces its rate hike.
But this is likely to be a short-lived bear market rally.
So be nimble. Be strategic. Stick to “best-in-class” plays that can ride out a recession, if it is to come.
Like all bear markets, this will end. If you hold good stocks, and can wait it out, do just that.
If inflation data normalises over the coming months, central banks could take their feet off the pedal. That would be the time to start some serious value-hunting.