Bags under pressure: how far it could go


Status: 15/06/2022 10:18

Tough Times for Shareholders: The DAX has lost more than six percent in the past three trading days. Are more losses expected? And what can investors do during the crisis?

By Detlev Landmesser,

Over the course of the year, equity markets coped with the expectation of a rise in interest rates relatively well. Especially considering that they also had to deal with the shock of the Russian attack on Ukraine. This has changed since last Friday. A wave of unrest has engulfed global equity markets following the latest US inflation data. At 8.6 per cent, inflation in May was well above expectations and reached its highest level in 40 years.

The DAX has lost 6.3% in value over the past three trading days. The US S&P 500 stock index is down more than 20% from its record close on January 3, placing it in what is commonly referred to as a “bear market”.

The US Federal Reserve will no doubt react to continued uncontrolled inflation. Most market participants now expect a dramatic 0.75 percentage point rate hike from today’s monetary policy meeting.

However, soaring interest rates are generally poison for stock markets because they make stocks less attractive in two ways. On the one hand, interest-bearing investments are becoming relatively more attractive. On the other hand, it is becoming more expensive for companies to refinance. This is why high-growth tech companies, which depend on outside capital, react particularly sensitively to changes in interest rates.

Investors are wary of monetary policy

The dynamics of macroeconomic processes such as the economy and inflation are difficult to control. And as is often the case, investors question the ability of monetary policymakers around the world to curb rampant inflation without hurting the economy.

Furthermore, interest rate hikes do little to fight inflation if the price hikes are caused by external factors such as the war in Ukraine. Energy or food shortages cannot be solved by raising interest rates.

More losses are imminent

Uncertainty and distrust are therefore high. Should investors be prepared for further price losses? Carolin Schulze Palstring, Head of Capital Market Analysis in Private Banking at Bankhaus Metzler, points out the unusual accumulation of imponderables. Therefore, further price reductions cannot be ruled out. In addition to concerns about interest rates and the weight of the war in Ukraine, there is also concern that China will impose recurring blockades, which will aggravate economic concerns.

A look at history offers no certainty, but at least an approximate orientation: “Historically, corrections in the United States have ended on average around 20 percent in the absence of a recession, which is around the level that has been reached now,” explains the market. capital expert. “In the event of a recession, corrections have usually increased by up to 30 percent.” However, if the crisis turns into a full-fledged systemic crisis, that is, a financial and debt crisis, corrections of up to 50% could also be observed.

“If there is a recession, there is still room for improvement. However, we currently do not expect a true systemic crisis,” says Schulze Palstring.

“A little more height to fall”

To test the ground for corrections in the event of a major crisis, Metzler experts also consider the relationship between market value and book value. This book value, which was a reliable lower bound in previous phases of severe market turmoil, is currently around 9400 points in the DAX. “If the push came, there would still be quite a bit of a crash,” says Schulze Palstring. However, this can only be assumed in an extreme situation.

However, it should also be noted that there has already been a significant adjustment in the value of the equity markets in light of the changed interest rate and economic expectations.

Is gold a good hedge against inflation?

So what should private investors do in this situation? Although so-called nominal assets such as bank deposits are traditionally popular in Germany, in times of rising inflation, Schulze Palstring asks for the courage to have more substantial assets such as stocks. “History shows that stocks can handle inflation relatively well,” says Metzler’s expert. In line with expected interest rate hikes, the focus should not be on highly valued technology stocks. And in light of the rather negative economic expectations, investors should prefer defensive stocks to cyclical, i.e. economically sensitive ones.

The expert is rather skeptical about gold, which is traditionally used as a hedge against inflation: “Gold hasn’t worked well as an inflation hedge lately. This is partly due to the strong dollar, but mostly. because bonds are paying interest again and have therefore become an alternative. ” With bonds, however, it is important to focus on short maturities in view of the interest rate outlook.

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