Do Not Risk Anything Is Even A Greater Risk

In the financial markets, Trump raised a lot of hope. Yet, political risk persists. 2017 holds its share of surprises, good or bad, for investors. 2016 was dominated by unpleasant political surprises, so, what will 2017 look like? Here are the major trends to expect:

US Dollar: Fat & Ugly

In an uncertain climate, one should expect the unexpected. Currency devaluation is most likely one of the main Chinese monetary policy tactics. What is interesting is that this strategy has been in operation since the 1990s, generating spectacular growth for the Chinese economy. The Chinese strategy was built around a devaluation of the yuan against the dollar. There is no doubt that devaluation has had its impacts on the economic elements of China; the currency devaluated the Chinese labour cost by 68%. This gave rise to the ‘Made in China’ labels that dominated the manufacturing industry. The Chinese GDP raised exponentially due to the rising in exports; from 3.9% in 1990 to 6.9% in 2015. The export rise produced an increase in labour demand, which was projected in the Chinese internal movement of citizens; from rural areas to big cities. China’s population living in the urban areas increased from 20% in 1980 to more than 50% by 2014.

Bond Lesson

During the discussed period, the Shanghai stock market hiked about 330% while the SPX had a shy increase of 11%. Who could forget the low-interest rates policies adopted in the last decade by the Fed under the Bush and Obama administration? In consequence, the latter lowers the dollar against the yuan: from 6.2 in January 1, 2013 dollar per yuan to 6.02 in January 1, 2014, generating a 2.99% decrease in the US dollar currency value which lead, relatively, to a decrease in term of the Chinese competitiveness, since it depends on a higher US dollar, yet exports hiked from 20.26% in 2010 to 26.17% of the GDP in 2011. To compensate, China worked hard to slow the dollar fall by increasing its part in the US portfolio; 1.3 billion in US treasuries, late in 2013, even though it lowered the Shanghai index by 38%, and on the other side, the SPX increased 199%.

China And Bond-Selling Strategy

Since, earlier, the overvalued yuan destroyed the Chinese competitiveness, China tried to rebalance its economy by supporting employment to avoid the major unemployment threats. A strong currency in a weak international environment stopped China from rebalancing its economy without a financial chaos. The Treasuries owned by China represents 7% of the US federal debts, which represent $17.7 trillion, yet, 1/3 of the debt has been bought by the American government to support the social security and the government spending. China owns 1/7 of the overall US bonds. A few years ago, the threat was around one single idea. China could sell its belonging US bonds, that’s humble. It was based on the united states of America. Yet, the issue crossed the Pacific and reached the Mediterranean implicating a greater impact on the Eurozone. Continuing its threatening strategy since 2013, China declared that it would stop buying the US bonds. So why we are discussing the great economic force of the United States of America? The day that China sold $48 billion of the Treasury in January 2015, the yuan fell 5%, yet, recently, it interferes in the foreign exchange market just to prevent the yuan from soaring. Thus, we note that in December 2016, the Yuan value reaches the 2008 low, a usual December situation for China. China would have to liberate its capital flow to undervalue its currency by 5% to 10% in 2017, as the IMF estimated, consider that it is overvalued by 15 to 25 % against the US dollar in the mid of 2015. The latest strategy could trigger a capital flight, a crisis in the banking sector. The ten-year bond yields jumped to 0.30% in the second of January 2017 and the US interest rates to 0.75% in 2016. The cocktail of a devaluated yuan and a higher US interest rate, per consequence, would be slaughtering for the euro area, which already suffers since 2008. The European side failed to balance its trade with China which resulted in a decrease in consumption and a reduced import side. Indeed, a much higher US interest rate and a weaker yuan will destroy, certainly, the European economy since it competes at an international level, with emerging markets, for a cheap labour market with a low added value. Conversely, before the Trump rally, the dollar was weakened compared to where it used to be plotted due to the past financial crisis and economic chaos. Yet, China is far from being interested in participating in a new monetary crisis in the globe. But, a desperate weakening yuan to stimulate the Chinese growth and employment in China, would be the perfect reason to conclude that China could be in an advanced stage to sell a huge part of US treasuries that it hold in its “national” portfolio.

 A Fake Dollar Soaring? Or A Painful Yuan Devaluation Ahead?

China gave up on different treasury bonds by selling them, in December 2016 since the Chinese evaluated them as “trashy” investments. As a reaction, European central banks filtered a $403 billion in their financial system. So we can conclude that one bankrupt economy bought the paper of another indebted country under the cover of bonds and the scheme repeats itself until it ends badly causing a financial disaster. By now, emerging markets possess what everybody else in the world doesn’t. It is not cheap raw material, nor labour; it’s high returns on bonds and investments. After the Trump rally end, China will evaluate the real value of the US dollar to protect its investments and then, devalue its currency by the right amount to keep its global competitiveness. Yet, the US economic rally seems to continue especially after the promised 3 hikes in the US interest rates by Yellen Jannet. With this rally, it would be very difficult for the Chinese to evaluate the real core performance of the US dollar and then devalue their currency. In the worst scenario, a future decline in the US dollar will hurt the Chinese devaluation process since it will be a double devaluation caused by the real US dollar performance plus a fake touch caused by the Trump rally. So what would be the next Chinese move? More currency devaluation or an anticipated reaction by assessing the real performance of US dollar?

Trump

The election of Donald Trump at the White House is one of the key factors that will radically change the deal in 2017. This has sharply changed the investment outlook for 2017, and the risks are now as important as the opportunities. The new president could dramatically influence inflation, interest rates, equity markets and US GDP growth. He has already begun to do so at the end of 2016, but in 2017 he will have to take action, with the risk of disappointing or worrying investors, under the spell of his pro-growth program. Markets are starving for growth. This was clear from the speed at which they abandoned the scenario of uncertainty after Trump's surprise election. The new US President is set to prioritize an aggressively favorable tax agenda for growth, between tax cuts, deregulation and spending on infrastructure and defense. The Republican majority in Congress gives this timetable a good chance of being applied. Nevertheless, the agenda of the new President of the United States, its implementation, and its timetable raise uncertainty.

Big Banks...... Just in case

Bank’s bankruptcy is a failure for the economy. Once a bank loose control, it should be saved.

A "No choice" dilemma

The big banks are not like other companies. If a car manufacturer or a computer company goes bankrupt, it is a drama for the employees, a loss for the shareholders and the creditors, but the economic world does not stop turning.

The situation is different for large banks. If one of these banks goes bankrupt and the state allows that, a real chaos will occur in a few hours:

• The other banks go bankrupt and the entire financial system collapses. This is what economists call "systemic" risk: large financial institutions are so dependent on each other that none can resist the bankruptcy of its neighbor. The big banks are all in the same boat. If one falls, all fall.
• Elementary financial transactions become impossible. No more cash machine or ATM to withdraw money, unable to use his credit card, to make a check or a transfer. Only cash could still be used.
• The value of deposits and financial investments (current account, booklets, life insurance, etc.) is no longer guaranteed. It is generalized panic.

States are forced to avoid this drama by saving the banks or at least the "big" banks, that is to say, those whose bankruptcy would trigger the "systemic" process.

 The Past lesson

On September 15, 2008, Lehman Brothers declared bankruptcy. The US government believed the bank was "small enough" (it was merely a bank) to save it. It was also an example and showed that a bank that took too much risk could go bankrupt.

This choice was strongly contested: in the following days (of sep 15, 2008), the global financial system was paralyzed. In October, the US government had to urgently provide $ 700 billion in guarantees (the first "Paulson Plan", named after the Minister of Finance) to restart the machine. It would probably cost less to save Lehman.

How to face highjacking?

The bigger a bank is, the more risk it takes, the more it must be saved because its bankruptcy would cost too much to the entire social body. This is a paradoxical situation, rewarding excessive risk-taking and sanctioning caution. Economists call this situation "moral hazard". In common parlance, it is a hostage-taking: "if you do not save us, it is a catastrophe".

How to eliminate the damages of a bankrupt bank? Faced with this situation, two solutions can be envisaged:

1. Many policy makers now recommend the separation of deposit banks (the bank that manages your account and gives you credit for buying a car or apartment) and investment banks (those that seek to grow your savings by taking Greater or lesser risks). This would break the risk of contagion.
2. Another proposal is to emerge from this dilemma: to announce that we will save the banks from now on, but not their shareholders. In the event of the bankruptcy of a large bank, the State would provide a guarantee that the institution and the system would continue to function. But it would also redeem the bank saved, at a price close to zero since a bankrupt company is by definition worth nothing.

Central Banks

Is it the end of thirty-five years of outperformance of bonds? Rates in the United States, Europe, and Japan have begun to tighten, signaling a profound change in the appreciation of monetary policies. If the tone is still accommodative, to reassure the markets, in practice, the big central banks have become more hawkish and should be a little more over the year. Some central banks may begin to adjust their quantitative easing policies, which means that the downward trend in government bond yields could finally come to an end. Monetary policy will gradually give way to fiscal expansion measures in the hope of fueling growth and rising markets around the world, adding that global bond yields have reached a low point. Fiscal policies are back, reducing the need for an ultra-accommodative monetary policy. We can anticipate a further standardisation in the United States (three rate hikes), but also the beginning of the ECB's tapering. Nevertheless, this transition is likely to trigger ad-hoc market tensions, particular peaks in bond volatility. The main risk for asset prices remains broadly that of an acceleration of inflation stemming from a fiscal stimulus policy and the lasting effects of the accommodative monetary policy and hence of more offensive rate hikes On the part of the Fed.

The Positive feedback loop

It is critical to learn about the positive feedback in the economy since it shaped the way one looks at economics, from a stable, well organised and oiled to a much more variable and complex system. The old economic vision, which refers to conventional economics, focuses on diminishing returns within a system. The former enhances the idea of the best market outcome under any circumstances generated by a single equilibrium operating in the open market phenomenon.

The Negative Feedback Loop

The diminishing returns assumptions lead to a negative feedback loop that stops the trigger towards a more produced outcome. Since it directs to a predictable price and market share for a company in the microeconomics level or a nation in the macroeconomics level, it is far from being a complete knowledge-based system. It prefers the idea of the best resources allocations within the single equilibrium.

In contrast, the new theory on a particular economic alternative suggested by Brian Arthur focuses on the increasing returns assumption. In fact, the recent focuses on complexity economics which is more emerging in reality than the conventional theory. The increasing returns assumptions reflect that the market may not select the best outcome from a variety of different alternatives.

It reflects that the economic environment is more complex and uncertain in a single outcome than conventional theory is. The market is volatile under the increasing returns assumptions since economics is about human action and the behaviour of economic agents plus their interactions within a market. So, this economics type of view is a knowledge-based science to cover most of the solutions referring to an individual problem that the economic system may face.

Understanding The Small Events

As Brian Arthur stated: “when you mathematise something, you distill its essence”. Indeed, this new theory, dating back to the 90s, was useful for high technology companies to understand that the market could be shifted by small, random events, luck, or a little external circumstance. Arthur declared in a Scientific American paper that economic activity is quantised by individual transactions that are too small to observe. Furthermore, the increasing returns assumption relies on a positive feedback loop which counts on the idea that a slide off output could be fed back to the process resulting in a trigger case; actions within a system go in the same direction.

Economics with its different theories that reflect different scientists points of views could be entirely useful if one could know from the beginning what the positive solutions are in adopting certain problem-solving cases for companies or nations. In fact, looking backwards seems very different than looking forward in a single case since the paths of a company or a government could be very different.

The Effect

For that reason, agents tend to look backwards in order to find the wrong path that was taken or to develop the assumptions that led to the right track chosen in the first place. That is the complex system within economies; small changes will certainly lead to bigger effects.

Brian Arthur took the initiative so the different market players could assume that their behaviour is entirely harmonious with the pattern that they created within the economic system in the first place, then stow the filter that they could implement on what they see regarding the market’s equilibria outcome.

Political Risk

The political calendar should still occupy space in 2017 (elections in France, Germany ...) while the political context has become more complex on both sides of the Atlantic. The Brexit issue will come back at the end of the first quarter. The referendum has been voted on, but we are in fact only at the beginning. The essential is yet to come. The negotiations will add volatility to the financial markets and doubts about the future of Europe relying on the soothing presence of the ECB's QE in the bond markets. The elections in France and Germany will test the cohesion of the region in a global context of rising populism. The issue is not only to see the power of parties wishing to put an end to fiscal austerity, but rather to see new leaders hostile to globalisation and the European Monetary Union. The theme of de-globalization should remain key in the markets, with the risks that this poses to world trade in case of questioning international treaties. The main risk could come from the return to the front of the scene of the rhetoric of the Donald Trump of the presidential campaign. It is tempered by the impact of rising inflation, a stronger dollar, weaker credit markets, more uncertain commodity prices and political events that can increase market turbulence. In 2017, asset management is not going to be any simpler than in 2016.

The Fugitive: 20K Dow-Jones.

The 20K Dow media’s watch series had a new episode since the Fed rises its interest rates by a quarter point. The Dow end near the 20,000, that were the top news headline popping after the closing session’s bill. Yet, why would you care? and what would be interesting for investors? Does the down Jones index reflect a certain up-coming market situation? well, this is a million-dollar answer for a two cents question.

Rosy suspense

 What it obvious that the stock market indexes reflect in a certain degree in the economic improvement within a country, yet, in the united states of America, the Dow as well as SPX (S&P500) reflect a certain progress within the country. The private sector added a spectacular 15.6 million job over the last 7 years. The unemployment rate reach the 4.6 % for the first time since the past 9 years, under the Phillipe curve strategy that the federal reserve considered to accomplish its projected monetary policies to support the employment under the 2% targeted inflation rate. The last treasury hike reflected a certain confidence within the American economy, by investors, whose applied that former factor in the stock exchange market, in term of investing. “the economy proved that it’s resilient” declared the Fed chairman, Yellen Janet. Indeed, after the promised 2017, 3 hikes, investors turn to be bullish in the market, reflecting a higher SPX, Nasdaq, and Dow jones. In the other side, the consumer confidence raised as well reaching the post-recession level, so that the expectations turn to be higher which lead to a rise in the market as well.

Is the Dow an efficient economic indicator?

 After releasing a sin, that analysts are always threating the readers and young investors by their expectations and financial analysis, we could finally declare that the Dow jones index were never an efficient measure of the market performance. In a matter of fact, the Dow jones represent the 30 largest company in the American business climate. Would you think that the economy is only dependent on those 30 companies? for sure not. The SPX could be a much better index in term of performance measure since it represents 500 companies, yet, as well as the Dow, these indexes leave out of the out the mid and small cap flow of stocks representing companies within the economy, performing under the same business climate.  The Dow were historically the most valuable label or bench mark that investors carry about, but, deep down, it only reflects the small pieces while the big picture was left behind. Never forget that the Dow jones index is a weighted price index, which means, that the stocks with higher process reflects the most influence under this blue chips index. This is an arbitrage of doing things. As an example, the Goldman Sachs stocks are the heaviest within this index, while Cisco is the lowest. For that reason, the SPX is still a better measurement index since it is a 500-weighted averaged index. One’s would never forget about the Wilshire 5000 or the Russel 3000, since it collects a much larger Mid and small business and weight average them as well as the SPX or the Dow does, but, with a much high consideration of the lowest Cap-business, delivering a market capitalization weight.

A 20K Dow under the telescope 

 What is obvious within the market is that history matters. How it couldn’t when the history can’t stop repeating itself. Let’s dive a bit in the past. November, 1972, when the wind warns as the beautiful Sylvia Plath quoted. At that month, the Dow passed the 1,000 point. Yet, it took the same index an additional 14 years to fulfill another 1,000-point mark, exactly, at 1987. That’s a long-time path to cross. Furthermore, since I’m not from the past, I’ll take you back to November 2016, when England turns to the gray color, as Madeleine M. Kunin declared. The Dow jones hit the 19,000, and in a less than a month, challenging the 20,000 point, all time history high. For that reason, a 100-point high in the Dow jones wouldn’t seduce investors to inject too muck stocks into it. The Dow is 10 percent or less move due to the power of the famous compound interest rate. In fact, a 100 or 1,000-point high wouldn’t make a big difference unless It’s a diving event as the glorious past flash crashes teaches to.

Elements: the smallest make greatest difference

 What is curious about the Dow index, is that its’s a gravel cumulation, not a single scree as most of us may thing. As we already said “most of us”, the talented Wiz Khalifa already affirmed: “Most of us, never seen this coming' so we feeling' blessed”. Back to finance, after every small years cumulation, the Dow index committee add a new member to it. The new stocks will replace the less or poorer ones which lost their influence among the index, so that, it gigs the index returns. Just before the tech bubble, we noticed that Intel and Microsoft were added to the index. in 2015, Apple replaced AT&T and then, Apple shares are down by 8%, while AT&T are up by 24%. The Dow jones committee do not add stocks because of its attractiveness. That’s a myth. The Dow look for the stable, robust, and rooted companies.

 The 20K: Traders and psychology

 In markets, when we discuss psychology, in a way or another we are assuming traders, the guys with a large number under scope, where the zeros took a large place and attract their tired lilted eyes. As discussed above, the 20K Dow wouldn’t have a big significance, yet, we can assume that these traders will be willing to put some stocks into the blue chips index under the technical and fundamental analysis that there are executing in these periods of time, since it would turn to a strategy to stick to it in the next couple months. It will be all about the psychological marks that we hope it wouldn’t turns to explanation or punctuation. A 20,000 Dow will attack new traders to invest in the index, after forecasting the market, since it may appear interesting homogeneous number, yet, the best way to predict the future, is to create it, as Peter Ducker stated.

More Uncertainty

It is a special year which ends with major political events: the Brexit, the election of Trump, the referendum in Italy. A year thus rich in changes of which we still do not know all the ins and outs. In 2016 there was a wave of political upheavals that could be summed up in the formula Exit the Leavers. The year that ended marked an era of great political uncertainty, which is expected to continue in 2017 with strong and uncertain electoral deadlines in Europe. However, it should also be noted that 2016 was a relatively positive year. The positive Momentum should endure in 2017.

Financial Markets

The consequences of the Brexit on the financial markets will still be felt in 2017. The City will remain the financial center of Europe. The merger of Frankfurt and London should be finalized by the end of January. It is not for nothing that Article 50 will be activated later and that the negotiations on the Brexit will begin at the beginning of February. The opportunities are to buy British stocks that have suffered from Brexit. The consequences of the election of Donald Trump to the presidency of the United States will also greatly impact the markets in 2017 even if the markets are more resilient. For the Brexit, the markets took three days to recover, for the election of Trump, 3 hours and for the Italian referendum 3 minutes.

The FED Rate Hike Consequences

Which Rates Are Concerned?

The key rate affected by the rate hike is the refinancing rate. This is where banks and financial institutions borrow from the central bank (Fed). If this rate drops, the demand for credit is stimulated. On the contrary, if it increases, either the demand for credit accelerates before rates rise or the demand falls. This slows down the economy. On the other hand, saving increases in correlation with refinancing rates.

Going For A Rate Adjustment?

The objective of the rate hike is to reduce inflationary pressures and provide flexibility to lower rates in a new cycle of economic slowdown. Until today, rates were around zero, so the Fed could not act in case of a problem. For a rate cut not to disrupt the US economy disproportionately, even if the consequences are inevitable, the Fed set itself two goals before deciding: an unemployment rate of around 5% and an inflation rate of 2%.

For the labor market, recent figures show stronger than expected job creation and unemployment rate. On the inflation side, “you have to look at the underlying inflation that does not consider the prices of energy (including oil) and food (which includes climatic hazards). This rate is 2% in November, over a year, the highest level since May 2014, according to the index published, Tuesday, December 15th, by the Department of Labor.

2% was the November y-o-y unemployment rate

Statistics also validate the strength of US economic health, which must be prepared to keep up with rising rates. The status quo of September gave a strong signal. This means that the Fed was afraid of having to lower rates after raising them, indicating that the US economy was probably not robust enough to withstand a rise in rates according to the US central bank. Among other indicators to look at, GDP. In a market point of 10 December, the Financial Oxer notes third-quarter GDP growth. According to the Atlanta Federal Reserve’s snapshot indicator, known for its reliability, the US economy is heading for growth in the fourth quarter given an acceleration in consumer spending in November.

Another key element is consumption. All the indicators suggest an acceleration of US consumption and point to good sales around the holiday season. Retail sales excluding automobiles, fuel, building materials and food services. It is this component of retail sales statistics that best corresponds to that of household consumption used in the calculation of GDP. This suggests that the economy can withstand a possible rise in Federal Reserve rates. Finally, salaries (a noticeable increase in wages indicates that the labor market is approaching full employment, pointing to possible upward pressure on prices) are observed very closely by the Fed.

Why Did They Miss The Previous Hike Sessions?

Last September, one of the arguments put forward by the doves (a term used by economic journalists to describe the partisan camp of an accommodating monetary policy unlike the Falcon camp) had been “worries about the world economy”. These risks “have decreased” even if they still should be “monitored”, the participants of the meeting of the Monetary Committee, according to the minutes. Second argument: market volatility. But they no longer seem afraid of the future and even encourage the Fed to raise rates. And then, if the Fed waits too long to raise its rates, the scenario could be as follows: To overheat, and inflation will go away, perhaps too strong. In this case, the central bank should tighten the brakes a little later.

What Will Happen To The Economy?

As a direct consequence of the increase in rates: the increase in the price of credit for households. Thus, key sectors such as real estate and the automobile are impacted. Conversely, the increase in rates encourages saving whose returns have become zero with interest rates that revolve around zero. On the other hand, rising interest rates benefit foreign investors attracted by a better return on their investments. But what the Fed does not say is that it does not want a dollar too strong because exports suffer. The influx of investors increases the value of the dollar. Therefore, the rate hike is minimal. The impact will be low.

What About A Normal Rate?

Fed policy-makers have clearly advocated a return to “normal” interest rates. They target key rates of around 1.5% by the end of 2016 and almost 3% over the next two years, an increase that will depend on the level of employment and United States. The whole question is how many successive increases the Fed will make to reach such a level, and therefore what will be the magnitude of each increase in rates. It is currently highly likely that the US Federal Reserve (Fed) will raise rates. Markets are shyly anticipating this move, no matter how big the increase. It is, therefore, necessary to determine here what will be the impact on the macro economy and the various asset classes.

Lessons To Be Learned

Without recounting the history of the previous policies of key interest rates in the United States, it is nevertheless worth recalling several important and significant episodes of the American monetary policy. In the United States, everyone remembers the monetary policy of Paul Volcker when he took over as head of the Fed in 1979. The latter quickly put in place a control of the drawn reserves very close to the control of the monetary base advocated by the monetarists. This translates into a massive rise in interest rates to a low-inflation regime.

If inflation was effectively reduced from 11% in 1979 to less than 4% in 1982, the rate of the growth of the economy fell from 2.5% to -2.2% and the unemployment grew from 5.8% to almost 10%. In 1982, one speaks thus in the United States of the “recession Volcker”. Alan Greenspan decided, after the crash of 1987, to lower rapidly the American key interest rates.

4% was the rate of inflation in 1982

This action, combined with unwavering support (regarding refinancing) for banks that were in difficulty, enabled the world economy and the stock exchanges to overcome this financial crisis quickly. The President of the Federal Reserve decided, however, to raise interest rates continuously and in increments of 0.25% per annul, with the aim of supporting economic activity over the next seventeen years. Its policy is simple and transparent: “Deflation: make sure it does not happen here”, in other words, doing everything against deflation. It’s impressive, but Ben Bernanke has almost never set rates (only in his first year under the influence of his predecessor).

It has, or lowered rates from 2007 to 2008, or left them unchanged between 2008 and the end of his term. Deflation is so much to be banished from his vocabulary that he launched the famous asset redemption (QE) from the crisis of 2008. Finally, the arrival of Janet Yellen on 31 January 2014 marked a new era, more proactive and much more dependent on the mandates of the Federal Reserve.

What Will Be The Magnitude Of The Rise?

Janet Yellen has several obsessions. The most important thing is not to repeat the mistakes of his predecessors, especially those of Alan Greenspan. This clearly means that the Fed would systematically raise the key interest rates by 0.25% each meeting. This for three specific reasons:

• A boost from the Fed (hearing rates still relatively low) is still essential given the latest sullen US economic statistics
• Raising rates slightly is less risky than raising them too violently
• Inflation could benefit from (all together) low rates

To this, it should be added that the Federal Reserve, under the leadership of Janet Yellen, is listening to markets (market sensitive). It is, therefore, likely that when the Fed announces the rate hike, it will be very low (+ 0.25%), to test the financial markets and ensure that the shock will not be too large. Several voting members of the American institution have already spoken in this direction.

What Was The Process?

That’s the question everyone is trying to answer. The answer has already been given by the US Federal Reserve more than a month and a half ago. Janet Yellen has clearly given his road map regarding the timing of interest rate hikes. First by announcing that the Fed was “now thinking seriously about starting to reduce the exceptionally accommodation monetary policy currently in place”, to raise its key rates in 2016, even if this increase could slow down “slightly” recovery. This speech was new because it contrasted with the previous “patience” advocated by Janet Yellen. This is, therefore, a further step towards the desired monetary normalization after the abandonment of the third quantitative easing. Subsequently, a real work of “desalinization” of the rising key rates has been carried out for several months by the Fed to master a potential shock or surprise effect of investors:

“Keep rates too low for too long could encourage inappropriate risk-taking by investors, at the risk of undermining the stability of the financial markets, “according to Janet Yellen. Finally, by allowing itself a safety valve (the famous respect of mandates, example full employment and price stability), the Fed can adjust its timing of a few appointments. What matters is not so much knowing when the rates will go up, but knowing that this rise will take place.

The Impact On Asset Classes

• The Dollar

The markets for interest rates and currencies are directly linked (in the medium term in any case). Indeed, the rise in interest rates favors the currency on which these rates apply. More generally, if the economy of a country is normalized (example there is a return to growth and economic conditions), investment will multiply, and rates will increase, which is ultimately favorable to the motto of a country. Ben Bernanke proved through his actions that to revive the US economy, low-interest rates and a low currency were needed to prevent a slowdown in investment and exports.

• The Stock Market

The relationship between rising key interest rates and stock movements is quite complicated. Recent experience (especially in the early 2000s) can give us some references. In 2004, for example, in the US, the S&P 500 Index peaked just under six months before the key rate hike.

However today the situation is different since, regarding the growth of business results, for example, the situation is not the same. Very logically, it is necessary first to analyses the type of indebtedness of companies. Indeed, the more short-term the debt is, the higher the short-term interest rate will affect it (the bonds issued by the corporation will lose part of their value and mechanically the debt capacity with the banks will be reduced). The same reflection prevails for companies with long-term indebtedness if long-term interest rates rise.

In summary, higher rates mean higher financing costs, which is not good news. Statistically, the cyclical sector (banks, semiconductors, automobiles, capital goods, basic materials) is only slightly influenced by a rise in interest rates. One of the reasons given is that this sector only distributes few dividends compared to defensive stocks and is more resistant to changes in interest rates. On the other hand, defensive stocks (telecom, health, utilities, pharmaceuticals) less correlated with economic cycles are more sensitive to rising rates.

• The Bond Market

Historically, the rise in interest rates negatively impacts the bond market in the same way as bond prices rise when interest rates fall. However, the rise in interest rates does not affect the obligations in the same way. Indeed, the longer the maturity of a bond, the more it is influenced by changes in interest rates. And conversely, the lower the coupon of a bond the lower the bond price tends to vary. In order, not to suffer the effects of the rate hike, the bond should be retained until maturity, or if possible, the interest rate cycle.

• Gold

By reasoning in terms of logic, rising rates makes an investment in gold that has no returns less attractive. To this we can add that, being denominated in dollar, gold tends mechanically to undergo pressure in case of appreciation of the greenback (which is shown in the case of rising rates). However, logic does not always have a place in the current economic cycle. Indeed, since the beginning of the year, for example, the change in the price of gold has been influenced very little by the high volatility of the dollar.

Second, if there is a direct and historical link between the price of gold and interest rates, it should not be forgotten that we are talking about a real interest rate that is, according to the nominal interest rate at which a correction is required to take account of the rate of inflation and the (credit) risk premium.

There is often a difference between policy rates and real interest rates. That being said, it is quite possible that in the event of an increase in the key interest rates on the part of the Fed, the price of gold remains on its levels or even climbs. While the effects of quantitative easing have been positive for equity markets, risk premia and long-term rates, it is difficult to predict exactly how the next policy rate hike will affect the United States. However, it should be noted that the Federal Reserve (Fed) is currently doing everything to mitigate the undesirable effects and the potential shock that could impact the economy.

At this point in the US economic cycle, President Janet Yellen’s ability to communicate well on the path of monetary tightening will have an impact on market developments, rather than the announcement. For now, the exercise is more than successful.

The Global Economy

All these uncertainties will be felt in the financial markets in 2017. There will be good opportunities in 2017. Let’s remain positive on the economic environment. But, you have to prepare for less return and more risk. The 6% is the new 8% for diversified funds. We may experience periodic political volatility spurts caused by the upcoming elections in France, the Netherlands, and Germany.

The American Economic Rebound

The election of Donald Trump to the presidency of the United States does not seem to have distracted the markets, quite the contrary. It could even encourage American economic growth that would also be felt in Europe, the rebound of the US economy should boost growth At the global level, through fiscal stimulus measures. Growth will be the fixed idea of Trump's political line. Trump's program is not so different from Of Hillary Clinton, but the fear that the United States passes under the socialism has faded with the failure of Hillary Clinton. The current euphoria of the markets is as a pound of relief markets.This is what the market is buying; Trump wants to pass From 35% to 15% corporate tax, sets up a Keynesian stimulus plan. Trump was not the best candidate in Europe, but he is a businessman Which should be pragmatic, needs finance and should pursue an expansionary fiscal policy. The protectionist aspect of the Donald Trump program must also be taken into account. Trump's program follows the famous "Monroe Doctrine”; that the United States is not the gendarmes of the world but must reaffirm their superiority When necessary, and above all, they must fall back on themselves. Thus, Trump encourages companies to relocate to the United States. If they do not return, their products will be taxed at the rate of 35% when entering US territory. Risks stem from the protectionist aspect of Trump's program, which will be an obstacle to global economic growth. Beware. However, it is too early to say what is demagogy and realism. It is too early to judge what will happen, but this is clearly a key moment.

Why Investing In Gold Will Continue To Be… Golden

As 2016 kicked off, a surprise in the gold market emerged. Looking backwards in the precious metal markets, an advantage in term of returns and purchasing power can be detected compared to regular national currencies. After digging around the information on the gold market, indirect benefits can also be uncovered.

The Safe Haven Commodity

The past few years have been beneficial for the precious metals market, especially for gold and silver. If one eliminates the gold-dollar pair, one discovers that the gold-silver couple has strengthened compared to the worldwide national currencies. As with other precious metals, gold and silver performance depends on an investor’s location. Gold has, in fact, increased in value in twelve different countries, ranging from major countries to the BRICS.

Gold has strengthened compared to all currencies except the Brazillian real and the South African rand. In the same context, gold marked a scenic growth in terms against the British pound – a 29.6% rise in 2016. Indeed, gold was the best instrument to protect investors and other economic agents from currency depreciation. This is why gold is used as a hedging tool against currencies – it is a monetary gadget that does not have any counterparty risk.

The Purchasing Power Dilemma

The wake of the Brexit vote was the perfect time to protect UK investors from the pound’s decline. That seismic event had the same consequences for the pound as the 2008 panic. UK gold holders were protected from the euro rally against the weakened pound. Furthermore, the last century saw a significant decline for the British pound against gold. For example, if one purchased ￡100 worth of gold in 2000, by 2016 it would have multiplied five times in value, reaching ￡512.45.

But this is a small part of the puzzle. To capture the big picture, purchasing power (PP) should be taken into consideration. One can take energy as a proxy example since it is a basic element indicating standards of living. If one picks crude oil as a particular proxy, one can observe that the price per barrel rose from ￡19.03 in 2000 to ￡43.54 in 2016. In the same context, if one measures the barrel price in terms of grammes of gold, one discovers that the same barrel price has fallen from 3.25 to 1.456 grammes of gold. One can conclude that gold has preserved its purchasing power. By consequence, British gold holders, for example, increased their purchasing power in 2016 simply by holding gold.

Furthermore, one should notice that the negative experiences of the pound were approximately the same for other national currencies around the world, like the dollar, the euro, and the Swiss franc. The only difference is the varied purchasing power among those nations’ currencies in terms of gold: they were all in decline, in term of PP, but at different speeds.

The Lesson For Investors

If one were to divide one’s assets into three simple categories, the most common split would be between property, cash and investments. If one wishes to consider only actively manageable assets, this means eliminating shelter and leaving just cash and investments. Cash, representing one’s liquidity, is a payment method, while investment can take a variety of different forms depending on one’s financial strategies.

Since cash represents one’s liquidity and capacity to invest, in an ideal world it would never lose its value in terms of purchasing power. Gold should be considered the ultimate sanctuary in terms of stability in monetary value – every other currency, however, is quickly losing its value.

As currencies are increasingly volatile, holding a safe asset like gold is a good way to hedge one’s bets: it is more difficult than ever to reliably assess national currencies because of their maddening fluctuations. So why would investors hold a declining, depreciable, and volatile currency as an investment? National currencies are a failure if they do not maintain basic, or at least minimally volatile, purchasing power.

Conclusion: High Inflation And Slow Growth; A Perfect Cocktail For A Recession