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The Struggle to Estimate Political Risks to Our Investments

The Struggle to Estimate Political Risks to Our Investments
(Dollar Photo Club)

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Thursday, 06 April 2017 11:03 AM Current | Bio | Archive

Stirring, but also tricky times indeed in the United States.

The minutes of the Federal Open Market Committee (FOMC) strengthened the idea of monetary policy tightening with two further rate hikes this year, which in fact was not a surprise.

As of lately, Fed speakers have left no doubt about the Fed’s intentions on tightening.

The interesting element that came out of the minutes is that a “second” tightening of quantitative tightening is likely in the second half of this year.

In fact, it is now clear that the Fed is debating not whether, but how to reduce the size of its balance sheet.

In economic terms, the Fed is already tightening its quantitative policy by conducting an organic tightening. Its balance sheet actually contracted, albeit by less than 1 percent in 2016.

In 2016, U.S. real gross domestic product (GDP) increased at an annual rate of 2.1 percent in Q4.

Now, the Fed, as to tightening, has various modes at its disposal:

  • The Fed could do passive tightening, which means not reinvesting coupon payments or maturing bonds and thus allowing the balance sheet to shrink in dollar terms.
  • The Fed could manage the balance sheet tightening more actively.
  • The most likely outcome would possibly a passive tightening that is managed, that is to say, the Fed essentially stops reinvesting the proceeds from maturing bonds and coupons, but it does it smoothly.

There will always be a risk of a very uneven reduction of the Fed’s balance sheet with large reductions one month and negligible reductions the next month.

That said, for the long-term investors it might be helpful to take notice that in 2018 $425 billion in Treasurys mature.

Please keep in mind that the Fed’s mortgage backed securities (MBS) portfolio may prove to be trickier for it to manage, as it owns a larger relative share of that market.

Fact is that the important question will remain, and until it’s actually executed, whether the Fed’s portfolio shrinkage will lead to a reduced impetus to raise rates.

Of course, there is no doubt this will likely be discussed, although Yellen stated at her press conference on March 15 after the Federal Open Market Committee (FOMC) had decided to raise the Fed funds rate by 0.25 percent that portfolio reductions would not occur until funds were closer to normalized levels.

For investors, the one thing that is important is that money in the US is set to become more expensive. The speed at which that will take place remains the big unknown.

Besides all that and on political super high level, China’s President Xi Jinping concludes today his trip to Finland with a stopover in the United States to meet President Trump at the Mar-a-Lago resort, also called the Winter White House, in Palm Beach, Florida.

President Trump has apparently put his son-in-law in charge for preparing for this meeting. The court politics of the Trump White House indicate that is a sign of how important this is considered to be.

For investors, Korea and trade are the two specific issues that really matter.

There is also the more general and extremely important issue of how the relationship between XI Jinping and Trump will seem to develop.

Will it be in some way something like the relationship that came out to the open when German Chancellor Merkel visited President Trump or will it be comparable with the relationship we learned about when President Trump received UK Prime Minster May at the White House.

Anyway, don’t be surprised that Xi Jinping doesn’t play golf during his stay. The Chinese Communist Party still maintains an ideological contempt for golf as a rich person’s game.

That said, let’s hope it does not match the reported level of relationship between President Trump and the Australian Prime Minister Malcolm Turnbull after Trump, at the end of January when he was only a couple of weeks in office, ended ‘abruptly’ a phone call with Turnbull expressing his complete disagreement over current Australian refugee policy.

Whatever occurs, let’s hope that as long-term investors we will learn something useful for estimating political risks that could impact our investments.

Etienne "Hans" Parisis is a bank economist who has advised global billionaires and governments on the financial markets and international investments.

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Let’s hope that as long-term investors we will learn something useful for estimating political risks that could impact our investments.
Investors, Trump, Political, Risks, Portfolio
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2017-03-06
Thursday, 06 April 2017 11:03 AM
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