The Strategist


The likelihood of an overly restrictive monetary policy has certainly increased over the past month, but central banks are aware that their credibility is an extremely valuable asset that needs to be defended. 

Thomas Wille
Reading time
10 minutes
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The meteorological spring began on March 1st, and it almost seems as if parts of the equity markets are overcome by spring feelings. The increasing macroeconomic headwinds in the form of (excessively) high inflation rates worldwide are seemingly being ignored, at least temporarily. In Europe, a headline inflation rate of over 8% and a core rate of 5.6% remain too high so that the European Central Bank (ECB) has no choice but to raise interest rates well above 4%. In the United States, price pressures are easing, but remain as well at a too high level. Thus, any dreams of a "pivot" before the end of this year seem extremely unlikely. The exception would be a recession, which could put massive pressure on stock markets. Why do we now get the feeling that the equity markets are virtually decoupling, or rather ignoring the economic environment we have described above?

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"Don't fight the tape"

There are many sayings on capital markets, some of which may well make sense in the medium and long term, but which often leave a lot of room for interpretation. One of them is "Don't fight the tape." In financial jargon, this means not to go against the market trend. As our graph shows, the US benchmark S&P 500 index has been in an uptrend since the October 2022 lows, and the market has broken through the important 200-day moving average line from the bottom to the top, giving the bulls a boost.

For short-term investors, this bullish observation may be reason enough to act. However, this example does not go far enough in defining an investment strategy. After all, the fundamental conditions for the stock market have clouded over in recent weeks. On the one hand, the equity risk premium has fallen to a 15-year low, and on the other hand, central banks have less leeway today than they did six weeks ago.

Credibility - a valuable commodity

The two most important central banks - the Federal Reserve and the European Central Bank - know very well that their credibility is an extremely important asset that must be defended at all costs. Once investor confidence in the ability of central banks to restore price stability is lost, it can take a very long time, if at all, to make up for this loss of confidence.

The likelihood of an overly restrictive monetary policy has certainly increased over the past month. Service inflation and the overheated labor market in the US are probably the biggest headaches for Fed Chairman Jerome Powell at the moment. In any case, the likelihood of a hoped-for soft landing for the US economy has diminished.

Relative preferences

In this environment, we have the following relative preferences: bonds over equities and within bonds we consider corporate bonds more attractive than high yield. Within equities, we prefer the "rest of the world" over the US.

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