2022 and more recently the start of the Chinese New Year - the year of the Tiger - has been complicated and at times awkward for global financial markets. The Tiger is known as the king of all beasts in China and symbolises strength, exorcising evils and courage. This feels quite apt against the current complex backdrop: the dominant inflation strength driving a varied, but focussed global monetary response (and perhaps even exorcising the evils of ultra-stimulative monetary policy?); a geopolitical standoff, where the extreme end of the possible outcomes (however miniscule its probability) is arguably the epitome of ‘evil’ and; perhaps surprisingly, the backdrop of tighter monetary policy, high inflation and a delicate global risk appetite has induced an impressive resilience, or perhaps even courage from some unexpected contenders in the currency space - most notably in EMFX.

The current situation regarding Russia is complicated on many levels beyond my direct focus, and any conclusions I may reach about the implications of the current standoff are equally likely to be proven misplaced or out of date by the time this piece is published. Therefore, suffice to say that the Russia/Ukraine story is important for the underlying risk appetite of financial markets and necessitates a shorter, or longer-term focal horizon (depending on your emphasis). I am inclined to park this particular topic for now. However, there is perhaps more to be said about strength (particularly economic strength, or growth) and bravery at the current juncture.

Last week we talked about growth, or more importantly the lack of focus on growth, particularly in the wider economic debate in relation to the impact of the recent acceleration of core market central bank hawkishness. From our perspective, growth should be considered both in terms of the underlying stance of the respective central banks in relation to fostering growth, but also in terms of the sensitivity of that growth to an inflation driven tightening.

This week has been notable for two reasons in Developed Markets (DM) (i) The Fed’s Minutes from the January meeting and, (ii) a clear and concerted rowing back on market expectations of ECB hikes by the entire (dove-hawk) spectrum of the Governing Council.

The Minutes from the January FOMC meeting were notable for a number of reasons. The core reference (also central to the statement itself) was that members considered it will “soon be appropriate” to raise the Fed Funds Rate (FFR), in light of high inflation and a strong labour market, and that it would be appropriate to do so at a faster pace than during the last cycle, as the economy is much stronger than it was in 2015 (and from our perspective with a significant surplus relative to the rest of DM). Amid some reference to upside risks to inflation from wages and the unanchoring of long-term inflation expectations, there was also a clear expectation of a significant “appropriate” balance sheet runoff, the details of which are to be agreed in “upcoming meetings”. The Minutes did contain the phrase “financial conditions may tighten unduly” in relation to the pace of normalisation - which some took as a pushback to a 50bp initial hike. However, it is likely that the inflation intensity has increased dramatically since the January meeting!

We would re-emphasise the references to the strength of the economy, relative to previous hiking cycles (and in terms of excess demand) well in excess of the rest of DM, a factor that has been backed up this week by a very impressive bounce in retail sales, that highlights the ongoing latent demand in the US (this also likely intensifies inflationary pressures in the near term), rebounding very strongly after the Omicron-suppressed demand activity into the end of 2021).

In Europe, there have been a raft of commentators this week who, while maintaining the ECB pivot, or the move towards the normalisation of monetary policy, have pushed back on market pricing of rate hikes. Many have emphasised the risks to growth of premature, or exuberant tightening, with the Latvian Central Bank representative on the Governing Council, Martins Kazaks stating that the “ECB must not rock the boat by tightening too quickly”, that “money market rate bets are somewhat too harsh” and that he urges a “gradual approach” in the ECB’s policy shift. “Gradual” has become the core GC phrase and this is important, as much of the dominant narrative revolves around the capital flows back to the Eurozone that are triggered by rates above the zero bound. A gradual approach to normalisation means this may not happen until late 2023 or 2024, rather than later this year as the market currently expects!

When it comes to growth, however, it is not the developed markets where the action is (especially if we strip out the shutdown/reopening volatility related to the pandemic). Interestingly, while many EM economies, notably LatAm, Russia and CEE have been very fast to build a yield buffer relative to (and ahead of) developed markets, China and India are two significant outliers in this regard. Indeed, the China monetary cycle is perhaps as disparate from the US as it has ever been, with idiosyncratic pandemic, infrastructure and leverage considerations driving an easing cycle in China. India too has a central bank that, while not engaged in formal easing, is committed to a structural investment/reform and a growth friendly monetary stance (both India and China have the luxury of contained inflation pressures, at least for now, in this regard).

It is perhaps little surprise therefore that a PWC report into the global economic order highlights China and India as the world’s 1st and 2nd largest economies by 2050 - not as a direct impact of their current respective monetary policies (demographics and the rise of huge middle classes the primary drivers) but recent developments have shown their respective primacy of focus (intentionally stimulative for different reasons) on long term economic growth.

While it is very difficult for much of the market to focus on the very long term, it is interesting (to me at least) that the recent market focus in DM has not encapsulated growth considerations adequately. Time will tell where the inflation dynamic takes us and there are few signs that we are currently at or past the peak. However, we would argue that there is a very big difference between rising inflation and falling inflation irrespective of the level at which the peak occurs. Effectively, we are suggesting that the peak, or the second derivative in inflation is very important - perhaps even sparking a renewed focus on growth, the implications of which may be very different for the countries with robust growth, such as the US, rather than those whose growth may be more vulnerable to tighter monetary policy, such as the UK, and even Europe.

In the FX space it is not clear which currencies will be Tigers over the course of the year - some show strength, some show courage (or resilience), but most have some evils to exorcise. For now our views remain unchanged but we continue to look closely for the eye of the Tiger!