For professional clients only

Inflation and the market challenges facing investors

  • BlackRock
  • BlackRock
  • Rupert Harrison, PhD
  • BlackRock

Capital at risk. The value of investments and the income from them can fall as well as rise and are not guaranteed. Investors may not get back the amount originally invested.

A worldwide slowdown in growth and a sharp rise in inflation poses problems for central banks and investors. Experts from BlackRock discuss market challenges and risks.

The current global economic environment is a tough one. Central banks face the dilemma of either raising interest rates further to tackle inflation or going for growth with increased public spending – which could prompt more volatility.

Three key themes are likely to dominate the markets:

  1. Living with inflation
  2. Bracing for further volatility
  3. The transition to net zero

Investors accustomed to stable growth and low inflation are having to adjust to inflationary pressures and supply shocks, in a very challenging macroeconomic environment.

It is an investment landscape in which asset management and asset allocation are becoming increasingly vital. It will no longer be sufficient to rely on past models of behaviour when creating a strategy for investment.

How can investors navigate the current market challenges?

At a July roundtable titled ‘Inflation impact: time for a rethink’, we discussed the main risks and opportunities these market challenges present.

Central banks in Europe are still very much focused on inflation volatility, but may yet decide to pivot this strategy in order not to stifle growth, meaning investors may need to review their portfolios and be prepared to be nimble.

In the UK, as we have seen recently, there are labour disputes and difficulties in the transport sector. Spiralling energy, food and agricultural prices are all likely to rise further.

In the US, meanwhile, the manufacturing cycle is deteriorating. This, added to the above, will only increase the pressure on risk assets.

Some clear themes are emerging from all of this. They include energy security, the move towards diversification into sustainable assets, the transition to net zero and the investment and financing needed to achieve that.

Overall, pension funds and institutional investors may need to pivot when allocating assets within a portfolio. Assets that were formerly correlated are not necessarily behaving in familiar ways in these fast-moving times.

Diversification will be important for this very reason. At some point, risk assets in the market may start to look more attractive and investors need to be ready to take advantage of that change.

The private credit market is also growing, although there are challenges around liquidity and valuation.

RISK: Diversification and asset allocation may not fully protect you from market risk.

In the energy sector, what is the outlook?

Gas futures in Europe are at their highest levels since March, due to a belief in financial markets that Russia will continue to pressurise the West regarding energy supply.

There has been significant underinvestment in energy production in Europe, which will take time to address. In the long term, the transition to net zero is going to be resource heavy. For example, the resources needed to build an offshore wind farm are around double those for an equivalent gas-fired power station.

Nevertheless, energy assets – particularly sustainable energy assets – may become a focus for portfolios, not just in terms of the returns they might yield but also as a hedge against inflation.

It is important that governments coordinate with the public and private sectors to manage the impact of moving from fossil fuels to sources of greener and more sustainable energy.

Sustainability will be a key factor in Europe

Additional rules around The Markets in Financial Instruments Directive (MiFID) which puts the onus on distributors to ensure their products meet the needs of the investor will also require advisers to ask investors about their sustainability focus. It will gauge their appetite for sustainable investing and desired outcomes.

This is likely to increase interest in sustainable financial products across the EU. Against this backdrop, there may be greater interest in thematic investing in biodiversity and sustainable agriculture and forestry.

Green bonds are one area where investors can direct the flow of finance towards new research and development activities which are impactful in terms of sustainability.

In the coming months there are likely to be more bumps in the road. Investors may need to be more flexible and nimble to manage them and make the most of opportunities as they arise. Asset management and asset allocation will be vitally important.

The opinions expressed are as of July 2022 and are subject to change at any time due to changes in market or economic conditions. The above descriptions are meant to be illustrative. There is no guarantee that any forecasts made will come to pass.

Risk Warnings

Capital at risk. The value of investments and the income from them can fall as well as rise and are not guaranteed. Investors may not get back the amount originally invested.

Past performance is not a reliable indicator of current or future results and should not be the sole factor of consideration when selecting a product or strategy.

Changes in the rates of exchange between currencies may cause the value of investments to diminish or increase. Fluctuation may be particularly marked in the case of a higher volatility fund and the value of an investment may fall suddenly and substantially. Levels and basis of taxation may change from time to time.

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