over 1 year ago • 3 mins
Even with all the recession fears out there, central banks are in a global race to beat back inflation with interest rate hikes. And the US Federal Reserve (the Fed) has been leading the pack.
✍️ Connecting The Dots
Between inflation and a recession, the former seems to be the greater of two evils. At least, that's what was implied by the Fed’s third consecutive 0.75 percentage point hike on Wednesday. The same sentiment is being echoed with rate hikes in the UK, Europe, Switzerland, and Hong Kong, to name a few. After all, the longer inflation persists, the higher the chance of a wage-price inflation spiral, a key feature of the prolonged period of stagflation in the 1970s and 1980s. It happens when employees demand bigger paychecks to offset inflation, and companies pass on those costs to consumers in the form of higher prices, driving inflation up again – in a repeating cycle.
If the Fed’s rate hikes have been the earliest and most aggressive, they’ve also been the most effective. They’ve catapulted the US dollar above most of its currency rivals, and in turn helped reduce imported inflationary pressures. See, the higher the interest rates, the more attractive a country's currency becomes for international savers and investors.
Europe and the UK have been slower to the rate-hike race and have seen their currencies falter against the US dollar. The UK’s pound slid to a 37-year low Friday, a day after the Bank of England raised rates by half a percentage point and described the economy as already in a recession. The euro isn’t doing any better, trading at 20-year lows. Additionally, their economies are likely to take a further beating over the winter with soaring gas and electricity prices. The same goes for Japan: decades of deflationary risks have kept Japan’s central bank cautious on raising rates, and by implication, have weakened their currency at a 24-year low versus the dollar. This has prompted the country to intervene in the market to prop up the yen for the first time since 1998.
1. US companies have room to grow through acquisitions.
American firms are flush with cash. And that’s not a bad thing when recession odds increase with every rate hike. Companies usually grow in three ways: organically with the market, by gaining market share, or by buying growth. As growth slows and valuation erodes, look out for cash-rich US companies that can buy growth at a cheaper value. Adobe’s proposed acquisition of Figma might just be the start of a growing trend.
2. Europe, the UK, and Japan might offer up interesting opportunities.
The euro, pound, and yen’s depreciation this year relative to the US dollar might be great for European, British, and Japanese companies with predominantly overseas sales and local costs, but it’s also good for US companies looking for a deal. Valuations might still look high in Europe, the UK, and Japan, but the strong US dollar means American companies can snap up these companies at a big discount. So sure, markets might look bad, but there are always pockets of opportunities.
🎯 Also On Our Radar
The UK lifted a ban on drilling for shale gas, part of a broader push to increase its energy independence. While the UK lacks the geology and incentives to partake in a similar US-style shale boom, the lifting of the moratorium on fracking is interesting because it suggests a shift toward energy security, and away from climate sustainability. Things might move slowly across the European continent, but there are winds of change.
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