From the European Central Bank (ECB) announcement last week, the market was left with the impression that the ECB Governing council has had a rethink and wants to see the impact of the existing policy initiatives before undertaking any fresh intervention. This however doesn’t change my view that the ECB will eventually pull the trigger on sovereign debt Quantitative Easing (QE) sometime next year. In the absence of more supportive news from central banks, it is easy to see how we might enter a liquidity vacuum over next two weeks, until the US Federal Reserve meets on October 29. This is the period of anxiety for equity investors. However, given all the bearishness during the last few days, markets were left confounded this week as to whether the minutes released by the Fed were actually from its meeting in September. The minutes were more dovish than the statements and comments of three weeks ago. In the present circumstances, being bearish or bullish comes down to basically one argument. Given the debt dislocation, if governments have to choose between inflation and deflation, which would they choose? If you vote for deflation, then you should be a Bear and a buyer of bonds. If on the other hand, you think inflation will be tolerated (and perhaps encouraged), then you should be a buyer of nominal assets – equities, real estate and commodities. The current disinflationary spell may threaten to bring on deflation but deflation is unlikely to be tolerated by the G7 central banks and governments. On a medium to long term basis, I am firmly in the inflation camp and therefore a buyer of nominal assets.
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