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Consequences of the ECB's highest rate hikes

Sep 8, 2022

Redacción Mapfre

Redacción Mapfre

With the summer coming to an end, meetings and releases of macroeconomic data on both sides of the Atlantic are again the main focus. The first important event before the Federal Reserve meeting of 21 September took place in Frankfurt with the meeting of the European Central Bank (ECB), which announced the biggest interest rate hike in its history: 75 basis points, putting the main refinancing rate at 1.25%, the deposit rate at 0.75% and the marginal lending rate at 1.5%. The ECB has also anticipated that it will raise rates again at subsequent meetings (under strict supervision) in order to moderate demand and protect the economy "against the risk of a persistent rise in inflation perspectives."

"We've managed to build and retain impressive levels of customer loyalty, through the development of numerous innovative initiatives, which is reflected in this boost in net subscriptions. Added to this is the consistency and long-term profitability that we have always managed to deliver, with a balanced product offering and a well-diversified strategy," says Álvaro Anguita, CEO of MAPFRE AM. Looking ahead to the forthcoming pension plan campaign, which is about to kick off, he says that, "in addition to all the products we currently have on offer, we're launching a guaranteed pension fund that will be very attractive to our clients."

It is well known that the main purpose of these increases is to curb the rise in inflation, even though analysts acknowledge that much of the responsibility lies with exogenous factors (mainly supply problems and energy): the price level, according to the latest data published for the Eurozone, stands at 9.1%, with a worrying core rate of 4.1%.

But, in addition to inflation, the measures announced on Thursday may have consequences for the various branches of the European economy, according to MAPFRE’s financial experts.

Gross Domestic Product (GDP). The main victims of the across-the board rise in prices are undoubtedly the pockets of the public: while inflation exceeded 10% in July (the highest since September 1984), salaries have barely grown by 2.5%, which penalizes, according to Daniel Sancho, head of investments at MGP, “household consumer spending and, along with that, economic growth and business margins”.

Inflation. Therefore, the main argument for central banks to raise interest rates is to control price levels. Experts assume that inflation in the coming months will remain high, mainly driven by energy, which, as winter approaches, will become even more important.

Seeing that there is still no sign of a trend change in the price curve, Sancho believes that stock markets are already discounting even more increases for the next few meetings, so Thursday's announcement will not be the last to address inflation.

Markets. In fact, the main selective markets had already discounted a rise of at least 50 basis points, without even ruling out 75 bp. As the MAPFRE experts say, the markets had assumed the worst-case scenario.

However, Ismael García Puente, investment manager and fund selector at MGP, believes that the stock markets have not yet bottomed out. With respect to the rebound that happened until mid-August, he says, “we were not buying it because the situation had not changed.” “Ultimately, time is proving us right, and since the last half of August, we have seen all the problems of the beginning of the year,” acknowledges García Puente who, with the complicated start of the academic year, puts the focus on corporate profits, since “they have not yet been adjusted downwards and, therefore, do not reflect consumer sentiment.”

Euro/dollar and pound/dollar. Another of the most direct effects of the ECB rate increase is on the value of the euro against the dollar. Two months ago, the two currencies reached parity,which had not happened since 2002. The issue, as stated by Alberto Matellán, chief economist of MAPFRE Inversión, “was more a strengthening of the dollar than a weakening of the euro”.

In theory, one of the variables in the euro/dollar variation is, according to the fund selector, the discrepancy in rates, added to the fear of recession, “which favors the dollar” because the ECB is lagging somewhat behind its U.S. counterpart. “It is possible that, despite the 75bp rise, the euro's depreciation could provide short-term relief for the European economy, but we can’t see much of an upside trend for the euro with a recession looming,” he explains.

In this sense, the Bank of England (BoE) has the same obligation to enact rate increases to curb inflation. The pound, in its case, has the additional component that the UK has to face the crisis on its own, with little or no support from the continent. In parallel to the ECB, Ismael García Puente believes that the BoE will raise rates more than the body presided over by Christine Lagarde: “This would benefit the pound (as in the case of the euro, in the short term), but would hurt the country's exporters.”

Euribor and financial conditions. Since the first rate increase announced by the central bank, the Euribor (the interest rate used as a reference for variable-rate mortgage loans) has stayed on an upward trend, even reaching levels close to those of 2012 (see chart).

Close to 2%, both families and companies holding variable-rate mortgages have seen how the Euribor has risen sharply in recent months. Daniel Sancho acknowledges that, after returning to positive terrain after six years below 0%, the current level “is already being felt by ordinary people and SMEs,” as are the financial conditions, which he explains have become much more demanding due to the uncertain environment.

Investment portfolios. The changing environment is forcing many investors to update their portfolios. Oil, gas and, ultimately, energy companies have benefited from the inflationary environment in the wake of the war in Ukraine. High energy prices, therefore, favor them, but García Puente reminds us that “gains have been seen in the short term, but as we move towards lower consumption levels, demand will be lower and that will end up affecting them.”

Before the summer, he says, MAPFRE's managers began to reduce the beta of the portfolios (lower risk), in favor of sectors such as “basic consumption, health and infrastructure,” because “they perform well at the end of the cycle and provide the investor with defense, so it makes perfect sense if we are still at the bottom of the market.”

With the choice of whether or not to enter the investment arena, the announced increase opens up new investment and savings alternatives. Deposits can thus become a real alternative, although it is true that the current yield on such products does not fully offset the effect of inflation (if profitability is lower than the CPI, “the customer loses purchasing power”).

Sancho argues that if a return is being paid for depositing our money, this shows that there are alternatives in which, “by delegating to a manager, better opportunities will be achieved.” In short, it should be the advisor's role to show an investor all the possible alternatives beyond deposits and “not to be afraid of the long term.”

Inflation will condition the ECB's movements

Inflation will condition the ECB's movements

Inflation in the eurozone, despite the notable decline seen since peaking in 2022, continues to fall less quickly than the European Central Bank (ECB) would like. After learning yesterday that inflation in Europe was 2.5% in June, Alberto Matellán, chief economist at MAPFRE Inversión, explained that this level, although “reasonable,” will continue to limit the ECB as far as future interest rate cuts go.

French election puts pressure on European fixed income

French election puts pressure on European fixed income

The European fixed income market has seen an upward movement in the last month largely due to the economic and political uncertainty in France. This follows President Emmanuel Macron's call for elections, which were won in the first round by Marine Le Pen's party, explained MAPFRE AM's Fixed Income Manager, David Iturralde, on Radio Intereconomía.

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