Tags: Janet Yellen | federal reserve | china | investor risks

Long-Term Investors Can't Afford to Ignore Growing World of Risks

Long-Term Investors Can't Afford to Ignore Growing World of Risks
(Dollar Photo Club)

Friday, 25 September 2015 10:56 AM Current | Bio | Archive

Fed Chair Janet Yellen’s “Inflation Dynamics and Monetary Policy” speech contained many fascinating observations.

One of the key statements many market participants were waiting for was when she said: “... most of my colleagues and I anticipate that it will likely be appropriate to raise the target range for the federal-funds rate sometime later this year and to continue boosting short-term rates at a gradual pace thereafter as the labor market improves further and inflation moves back to our 2 percent objective … the precise timing of the first increase in our target for the federal funds rate should have only minor implications for financial conditions and the general economy.”

Trying to explain why current inflation is at very low levels, Yellen said import price moves were not important drivers of inflation when expectations were well anchored, as now has been the case since more or less the turn of the century.

She stated: “… the current near-zero rate of inflation can mostly be attributed to the temporary effects of falling prices for energy and non-energy imports … the 12-month change in total PCE prices is likely to rebound to 1-1/2 percent or higher in 2016 while she remained, interestingly, quite dismissive of market derived measures like break-even inflation."

One of the most interesting parts of her speech: “… Inflation that is persistently very low can also be costly, and it is such costs that have been particularly relevant to monetary policymakers in recent years … The most important cost is that very low inflation constrains a central bank's ability to combat recessions … pursuing too low an inflation objective or otherwise tolerating persistently very low inflation would be inconsistent with the other leg of the FOMC's mandate, to promote maximum employment.”

Yellen didn’t go into details on one of the main dangers that massive quantitative easing implies when the creation of super-easy money (credit) ends up in several wrong places.

This is the case in the three main developed economies (the U.S., the eurozone and Japan), but also more worrisome in the main developing economies like China and Brazil.

Finally, on what’s going on in the rest of the world and its impact on Fed policy, she said: “… The Committee is monitoring developments abroad, but we do not currently anticipate that the effects of these recent developments on the U.S. economy will prove to be large enough to have a significant effect on the path for policy.”

In the meantime, equity markets in Europe and the U.S. apparently seem to like what they heard from Yellen.

Interestingly, the word “China” didn’t appear one single time in Yellen’s 1-hour speech.

Yellen got implicit support for not mentioning China by the director of the Survey and Statistics Department at the People's Bank of China (PBoC) Sheng Songcheng, who said: “With financial reform and opening, you can't release the bow then expect the arrow to come back, you can't put off reform opportunity because of market volatility. China's financial market fluctuations in recent years are the result of inadequate implementation of coordinated reforms.”

Besides all that, long-term investors could get some interesting ideas on where markets could move from what the massive $36.7 billion Harvard University endowment states in its just sent letter about its fiscal year 2015 performance. 

In the letter we read: “We are proceeding with caution in several areas of the portfolio: many of our absolute return managers are accumulating increasing amounts of cash; we are being careful about not over-committing into illiquid investments in potentially frothy markets, while still ensuring we will be involved if market dislocations arise; and we are being particularly discriminating about underwriting and return assumptions given current valuations … We are carefully monitoring market liquidity conditions, given that the risk capacity and shock absorption ability of sell-side market-makers is low.”

There are several risks that the long-term investor shouldn’t overlook.

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There are several risks that the long-term investor shouldn’t overlook.
Janet Yellen, federal reserve, china, investor risks
Friday, 25 September 2015 10:56 AM
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