As an investor, there are several elements defining the investment arena in 2018. It’s less about the types of instruments being selected, and more about the economic indicators that are driving overall market activity. For example, the following 4 elements will play a big part in shaping the composition of financial portfolios:
- Interest Rate Trends
- Inflation Rate Differentials
- Currency Fundamentals
- Regulatory Constraints
Of course, where investments are concerned there are always many factors playing a part in proceedings. These include macroeconomic variables, and microeconomic variables, technical factors and fundamental factors. The right investment strategy is ultimately a personal decision. Individuals have different objectives when it comes to their investment horizon. Age, income, savings, and retirement objectives play a big part in decision-making processes.
Investors must decide between conventional investment options in stocks, bonds, commodities, indices, forex and non-conventional investment options. These contrarian investment choices include derivatives trading instruments such as CFDs (contracts for difference) where contracts that mirror price movements of assets are purchased, not the underlying assets themselves. Whatever investment option is selected, the same factors impact pricing.
According to Olsson Capital strategist, Montgomery Smyth Williams,
“Typically, younger investors tend to be bolder and more risk seeking. Older investors tend to be risk-averse with a shorter investment timeline. Younger folks are more adventurous in the compilation of their financial portfolios, while older and more established investors tend to stick with proven performers. We ought to turn our attention to interest rate trends and how that affects investment activity.”
Interest rates: the current interest rate in the US is 1.50% – 1.75%. The Fed has been driving up interest rates ever since December 2015, and this policy of quantitative tightening looks set to continue throughout 2018. Based on probability analysis, it appears that there is a 98.5% likelihood of the Fed raising interest rates by 25 basis points the next time it meets on Wednesday, 2 May 2018. Rising interest rates tend to have a dampening effect on stock market activity since this raises the cost of borrowed money. This then adds upward pressure on prices which decreases demand.
Inflation rate differentials: inflation rates are important insofar as they elucidate precisely how the purchasing power of money is being affected by rising prices. When interest rate differentials are high between countries, effective comparisons can be made vis-à-vis investment opportunities. For example, a country with an interest rate of 5% and an inflation rate of 5% offers no yield on a fixed-interest-bearing investment. For example, the current inflation rate in the US is 2.4%, and the inflation rate in the UK is 2.5%. In countries like South Africa, the inflation rate is 3.8%.
Currency fundamentals – the US dollar is the world’s reserve currency. This is a key point to bear in mind. Major commodities like gold, silver, and crude oil are priced in USD, a.k.a. dollar-denominated commodities. This means that when the USD strengthens or weakens, demand for major commodities will shift accordingly. One of the best measures of the strength/weakness of the USD is the DXY. The US dollar index measures the relative strength of the USD based on a trade-weighted basis. It comprises the CAD, GBP, EUR, CHF, SEK, and JPY. The current level of the DXY is 90.26 (April 22, 2018) with a year to date decline of 2.02%. In other words, the USD is weakening, which should benefit demand for commodities like gold, silver, and crude oil, ceteris paribus.
Regulatory constraints – regulatory measures such as Dodd-Frank require banks and financial institutions to have a large capital cushion in the event of another economic downturn. According to Senator David Perdue, an estimated $2 trillion could be freed up if this type of regulation is rolled back. Currently, there are many regulatory matters under consideration and they have a capacity to shift investment decision making in a big way.
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