'It will continue to be a rough ride, with few places to shelter'

Financial markets have been at the receiving end of monetary policy tightening by central banks as they fight hard to tame inflation. London-based JAN LAMBREGTS, managing director and global head of financial markets research, Rabobank International, and JOE DeLAURA, its US-based senior energy strategist, share their views on the road ahead for global markets in a conversation with Puneet Wadhwa. Edited excerpts:

Have the markets digested the likelihood of sharper rate hikes, going ahead?

Lambregts: Market participants are plenty aware of the US Fed’s mission to fight inflation with higher rate hikes, yet simultaneously hoping for the Fed to pivot at “the right” moment and sharply reduce rates once the economy takes a substantial hit. They have been conditioned to operate like this over the past decade, but arguably this time is different and the Fed is under far more pressure to keep inflation expectations well anchored. The room for disappointment over higher rates is, therefore, currently baked into the cake.

Is the hike in rates as much a function of political pressure as pure economics to tame inflation?
 

Lambregts:  Both. Strained supply chains have left global supply unable to meet heightened demand. It’s impossible to fix the supply-chain issues rapidly, hence the resulting inflationary pressure can be fought only with higher rates at the moment; a blunt tool at best. The higher inflation is creating plenty of political pressure as well, all of which has been channelled by politicians to central banks. So, the political pressure is the result of the real economic imbalances in demand and supply.

Do you think the world economy is heading faster than expected towards a recession?
 

Lambregts:  We are heading for a recession, but the timing of it will be different across the globe, i.e. we see a recession in the first half of calendar year 2023 (H1-2023) in the eurozone, but not until 2024 in the US. Much of this is priced in, and frankly the recessions are expected to be reasonably moderate.

How worrisome is the economic situation across Europe/EU/eurozone?
 

Lambregts:  Europe is specifically at risk due to the energy crisis brought about by the war in Ukraine and the conflict with Russia. The recent explosions at Nordstream 1 and 2 pipelines sent a clear signal that cheap Russian gas is not about to make a comeback, putting the longevity of entire industry sectors at risk in Europe. Real choices will have to be made there, and the fallout could be more negative, particularly in the short to medium term because it is difficult to get hold of (reasonably priced) alternative sources of energy.

Are global companies now more at risk of supply-chain disruptions, given the geopolitical situation and the recessionary fears?
 

Lambregts:  Supply-chain disruptions have been with us for a number of years now, starting with trade wars under the Trump administration, Covid supply and demand disruptions, and the war in Ukraine. The world has rapidly become a more complex place, where geopolitical risks have made a real comeback and are not limited to Ukraine. Think of North Korea, Taiwan, and Iran, to name a few. Geographical proximity to these countries, or supply-chain dependencies, including transportation links, are a key concern. The most visible impact has been the energy crisis brought about by the war in Ukraine and years of structural underinvestment in the energy sector. Net energy-importing countries, as well as countries with heavy manufacturing industries that rely significantly on cheap energy, have real challenges.

How do you see investor flows play out in the next one year?
 

Lambregts: It will continue to be a rough ride, with few places to shelter. Geographically and geopolitically the US, despite being in the middle of much of the turbulence, should continue to be an attractive destination. It’s got cheap sources of energy and is a safe haven beacon amid plenty of ongoing volatility.

Will oil prices be northbound in the months ahead?
 

DeLaura: Crude oil at the current moment will be range-bound, with Brent prices staying at $85-110. Crude oil is being led by the serious deficit in the diesel market. Globally (US plus Singapore plus Europe), inventories of diesel and middle distillates are about 25 per cent under the 10-year average. A further rise in diesel prices will keep inflation high, as the costs of transportation will be passed on to consumers. Higher domestic power prices, and for groceries/goods will lead to thrift, and this is the root of the upcoming recession. Unfortunately, it is a recession with true shortages, which we have not witnessed since the Great Depression of the 1930s.