Uncertainty surrounding the global political landscape and a move towards more populist leaders in the developed world will continue to be a key driver of financial market volatility in 2017.
Now that the US elections are over, investors are likely to shift focus towards Europe, where there are elections in the majority of larger nations and where populists are either leading, or gaining rapidly in the polls – the investment implications of which we believe are an increase in government spending and consequent inflation.
The global recovery appears to be gaining momentum and we believe the US Federal Reserve is still on track to raise rates in December 2016 and throughout 2017. Although, we believe that the Fed will remain cautious due to heightened fiscal uncertainty and more hawkish rhetoric in coming months is to be expected. Consequently, the Fed is likely to maintain a negative real interest rate policy.
So far investors have been buoyed by the more moderate and constructive rhetoric being proffered by President Elect Trump, and the potential for the new government to support growth via fiscal spending. Although the sustenance of the rally in the US dollar and equity markets therefore depends on the ability of Trump to surround himself with credible policymakers and refrain from irrational policy outbursts.
Currency vigilantes changed the FX landscape in 2016, prompting sharp moves in G10 currencies, stemming from antagonistic investment views. Currency volatility will stay at the forefront of investors’ minds in 2017 exacerbated by ongoing QE policies. Speculation surrounding the tapering of accommodative central bank policy and rising breakeven inflation rates could signal the end of the bond bubble in 2017. However, it is unlikely to be a disorderly move in yields, as bond market liquidity remains little changed notwithstanding a variation in the nature and sources of liquidity.
Commodities have been an area of strength in 2016, and should continue to be so in 2017 with real assets in general likely to benefit from Trump’s infrastructure program. Despite varied fundamental drivers, demand from emerging markets, particularly China, is likely to be a continued source of commodities consumption. Alongside the grind higher in global demand, substantial cutbacks to capital expenditure budgets will restrain supply.
The resulting fundamental tightening in underlying conditions should keep the commodity complex well supported in coming years.
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