Structural shifts are changing the markets as investors know them — but advancements in technology could help combat inflation and the effects of geopolitical tensions.
According to Xponance, a $12 billion multi-strategy investment firm, the historical forces that helped subdue inflation are no longer in place. Depending on the productivity of the U.S., interest rates could go up to 3 to 4 percent, well above the 10-year breakeven points of 2.29 percent and 2.38 percent, respectively.
“If you think of what productivity does, it’s mainly through the ability to use the same pool of labor to produce more and that is inherently deflationary,” said Tina Byles Williams, founder and chief executive of the firm. “If the trajectory of technology doesn’t lead to the game changing production that has happened before, then it doesn’t provide the same deflationary backdrop as the nineties.”
Williams is referring to the boom in information technology, computer processing speeds, and the internet, which saw U.S. labor productivity soar 3 percent alongside decreased core inflation. While projections of today’s tech innovations don’t point to an imminent and inflation-offsetting phenomenon, Williams argued that the long-term view of technology can essentially reap the same benefits as it did in the past.
Some of these advancements include quantum computing, automated driving, and artificial intelligence.
“Quantum computing could be a game changer in terms of inflation because, again, you can produce more with a given pool of labor,” Williams said.
Greater investment in capital expenditure dedicated to technological advancements will also be required in order to reconstruct supply chains and help the U.S. move away from its dependence on other countries such as China, she argued.
Moreover, innovations can combat the impact that geopolitical tensions — which Williams sees as a likely long-term issue — will have on the markets. She argued that the buildout of sustainable infrastructure could not only steer the U.S. away from its reliance on foreign imports such as oil, but also help drive the net zero transition (and its commercialization).
What does this mean for asset owners and managers? “We’re in a different ballgame here,” said Williams. The general assumption is that the Fed will pivot quickly once interest rates hit a peak of about 5 percent, but the structural forces that have made those assumptions valid are no longer in place today, according to Williams.
“The structural backdrop is more inflationary,” she added. “We are in a multipolar world, so the risk premium attached to geopolitical volatility is greater and that impacts all asset prices.”
Apart from the long-term view on technology, the current environment will provide a tailwind for industrial stocks and commodity prices, which will ebb and flow for the foreseeable future.
“After the GFC, people didn’t have to care about inflation. It was either declining or nonexistent,” Williams said. “Today, going forward, both geopolitical volatility and inflation will matter in a big way.”