Our research suggests this change is structural, and that we should expect more cycles and much greater volatility in economic growth and inflation. In our view, central banks are no longer a suppresser of volatility, as they generally have been since the GFC. Instead, they are more likely to amplify volatility going forward.
Why should investors care?
There has been a clear link between global quantitative easing and the direction of risk assets, including equities and credit spreads. This will likely present a challenge for investors for the rest of this year and into 2023. We think central banks are behind the curve and have a long way to go in reducing their balance sheet. In fact, they still completed $100 million in asset purchases in the first few months of this year (following $3.5 trillion in purchases in 2021 and $6 trillion in 2020). But by the second half of 2022, central banks will have fully transitioned to being sellers of bonds.
We expect this environment to generate new opportunities. Historically, when central banks are in full tightening mode, that’s when the tide goes out and it becomes possible to see which assets were mispriced, which business models didn’t really work, and who made the wrong call by putting leverage on certain business models. This should result in heightened dispersion in the market, and in fact, we’re already seeing signs of this, as shown in Figure 2.