By WisdomTree Europe
Amid the recent turmoil in global markets and the downward trend for commodities, a dramatic shift in monetary policy in the US is poised to create new challenges (and opportunities) for investors in 2016.
WisdomTree Europe’s director of research, Viktor Nossek, believes there are a number of key themes which may emerge next year as central bank policy finally starts to diverge.
Below, Nossek identifies several potential outcomes which could come to the fore, including gains for European equities as QE continues, ongoing pressure on commodities, and why junk bonds will look even more vulnerable as credit spreads widen.
Europe’s Rebalancing Act
Domestic demand-led economic activity, underpinned by a more competitive labour market and a late arrival of easing credit conditions to small businesses, is solidifying Europe’s recovery.
This revival in consumer spending should trigger a virtuous cycle of higher tax revenues and prompt companies to invest more, broadening out Europe’s structurally-led recovery in the process.
Set against a tightening Fed and a weak commodities backdrop, the ongoing uncertainty surrounding exports in Europe is countered by the rebalancing act towards consumer spending, although we are still at an early stage as we head into 2016.
Weak euro, Strong dollar
The ECB is expected to use dovish rhetoric, rather than further policy easing, in its efforts to continue to suppress the euro. Given the upbeat economic outlook for the eurozone, weak inflation will be a secondary concern behind keeping a lid on the single currency.
Any further weakness in the euro will help to boost exports and buy time for domestic demand-led growth to sustain itself.
Persisting expectations of rising US rates and a robust US economy should also help to keep the euro fundamentally weak and the dollar strong, and reduce the pressure on the ECB to provide further stimulus.
While the Fed has finally pulled the trigger moderate US wage growth pressures, coupled with tightening conditions in credit markets, should allow it to postpone further rate hikes into the summer of 2016.
Rhetoric (as opposed to actual policy action) by the Fed will be used to strengthen or diminish the divergence of monetary policy expectations with the ECB, and we therefore expect the euro-dollar trade to remain volatile.
Corporate credit to decouple from sovereigns
The widening of credit yield spreads since H2 2015 is expected to continue in 2016, on the back of concerns over growing levels of indebtedness as US rates rise.