Summary

Dominique’s presentation focused on her outlook for inflation in which she expects there will be a regime change moving from a low to high inflationary environment. A change in inflation affects the bond stock correlation; when we are in an economic regime where shocks are inflationary the correlation is positive, whilst growth shocks are positive for equities and negative for bonds, so the overall correlation is negative. Central banks have been trying to chase inflation whereby QE has meant yields have fallen below nominal GDP growth. Yet we have not seen rising consumer price inflation but what we have seen is extreme financial asset price inflation. Dominique describes this boosting of financial price inflation through QE as TINA standing for There Is No Alternative. This environment mean risk assets become attractive not because of economic fundamentals but due to the huge stimulus. The SPX is at all-time highs yet there is double digit unemployment in the US, as soon as we move to a higher inflation environment asset prices will catch up with economic fundamentals creating a potentially nasty situation. Dominique believes that we should look at politics when forecasting the path of inflation. Globalisation, monopolies, governments not enforcing antitrust laws and weakening workers ability to demand higher wages has kept inflation very low. Middle America has not seen wage rises for years and as Governor Kuroda will tell you in order to achieve inflation you need pay rises. Big changes are likely as there is a growing bipartisan view that monopolies stifle growth long term and we are seeing greater willingness of the government to hold the likes of Facebook and Amazon to account. Meanwhile blue collar workers left behind by globalisation are the new swing voters and their economic interest will be promoted by whoever wins the election - this will create a more competitive labour market which will bring about inflation. Interestingly Dominique believes that a Democratic election win would be more inflationary due to increasing workers’ right policies as opposed to the Republicans desire for increased economic nationalism. Other factors that are likely to lead to higher inflation involve China. The years of China exporting deflation are likely to come to an end as wages there have gone up. Also many Western companies are re-examining supply chains and deciding not to have so much concentration of supply chain risk in China. Meanwhile Dominique believes that China has some very serious domestic issues which will mean they will have to scale back their global ambitions. Then there is the Fed that, when the economy moves to an inflationary regime, could Lose control of the markets, economy, inflation and eventually lose its independence. They have announced moving to average inflation targeting and to do this they will be much less proactive with sorting out unemployment numbers which is a big change from the past. The new inflation regime is going to be very difficult for them to manage as it will expose all the imbalances that have built under low inflation, high corporate leverage, high valuations particularly in Tech stocks etc.. Dominique thinks we will see a burst of inflation once the pandemic is over and consumers start to spend much accumulated savings; household savings rates are at all-time highs. However, she believes that the real regime change will take place in 2022 and after. Accelerating growth is bullish for equities but as the recovery takes hold there will be a convergence between tech and non tech company valuations that could be negative on average for the overall market. Yields are likely to rise and trigger a sell-off and possibly a big panic perhaps in Q3 next year; the Fed thinking inflation acceleration is temporary will beef up its purchases. The equity market will recover and yields will stabilise. Gold prices will continue to increase as central bank balance sheets grow whilst the dollar will continue to weaken.

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