The growing risk of a “major financial accident” that causes a market capitulation later in the year could open up opportunities for investors to “pile up on quality risk assets,” according to Beat Wittman, chairman and partner at Zurich-based Porta Advisors.
With risks from inflation and an economic slowdown mounting and central banks treading an increasingly narrow monetary policy path, Wittman characterized the global economy as “stuck in a perfect storm environment of supply chain frictions, contracting final demand, high inflation, rising interest rates, falling corporate earnings and a potential financial accident.”
He said there is a danger that a “weak link” in the financial system breaks and investors flee en masse, providing investable bottoms for shrewd investors.
“The list of weak-links candidates is rather long and includes zombie-type European universal banks, LBO [leveraged buyout] financed corporates, over-leveraged shadow banking players and over-indebted emerging market sovereigns,” he said in a research note.
“We should not underestimate that interest rates have risen significantly in the last six to nine months and higher interest rates are eating through the economic system, and having an impact of course on business confidence, on consumer confidence, and on anyone who has a leveraged exposure to those interest rates and not enough revenue, topline or simply a cushion in terms of cash or reserves,” he told CNBC’s “Squawk Box Europe” on Monday.
Geographical divergences
Central banks around the world, with some notable exceptions such as China and Japan, have been tightening monetary policy aggressively in recent months in the hope of curbing runaway inflation, caused in part by Russia’s war in Ukraine and surging food and energy prices.
Wittman argued that up until central banks were forced to begin tightening this year, monetary policy and liquidity conditions had been “too loose for too long,” and policymakers, led by the U.S. Federal Reserve, were now scrambling to restore lost credibility.
“There will be lagging and prolonged negative economic effects to their tightening. However, a normalization of monetary and interest rates policy is a much needed and welcome development in the long run,” he said.
Wittman told CNBC that the tougher the central banks talk and act on inflation, the more bullish he would become on the outlook for equities over the medium term, but in the short term, September and October will be a “testing time” as the relief rally of the last month fades.
He also noted the stark geographical divergences between the U.S. and Europe, with the former more energy autonomous and far better insulated against import and export risks related to the war in Ukraine, along with the Fed leading the way on monetary policy.
“Looking into 2023 the U.S. equity market is best positioned from a geopolitical, energy security, economic resilience and monetary policy leading perspective,” he said.
“Importantly, times of emotional, intellectual and financial dislocations and distress are the ideal breeding ground for extraordinary investment and entrepreneurial opportunities.”
