Refinancing an existing loan or borrowing to enhance investment returns are just two strategies you can use to take advantage of the current environment.

Politicians and policymakers around the world are working hard to get the economy back on its feet as lockdown restrictions continue to ease. The measures include huge government relief packages designed to provide temporary relief to workers and businesses. Meanwhile, central banks are supporting financial markets with massive bond-buying programmes and record low interest rates.

The numbers are huge—and, in some ways, daunting. For example, the policy responses in the U.S. are the most significant since World War II. The Federal Reserve’s (Fed) balance sheet could expand to between $7 trillion and $10 trillion in the coming quarters. At the same time, the U.S. government’s budget deficit could reach $3.7 trillion or higher, and total federal debt is set to breach 100% of GDP.

Investors are reasonably concerned about how these policy experiments might go wrong. Could they mark a return to the rampant inflation of the 1970s? Is such a large government debt burden sustainable? What other risks might be lurking in the unprecedented policy response?

Inflation is likely to remain subdued

The risks are real, but shouldn’t be exaggerated. With interest rates so low, growing government debts do not appear to pose an imminent threat to their ability to service their obligations. We also believe the stimulus measures will not push up inflation materially and that prices throughout the economy are more likely to fall than rise. Notably, the fear of hyperinflation may be unfounded.

As lockdowns are lifted, economies will look very different than they did before the virus outbreak. Restaurants and airplanes will offer fewer seats, music venues will not sell as many tickets and global supply chains could easily be disrupted. Some sectors and companies may gain pricing power as a result of restricted supply, but we think it will be limited and relatively short-lived. With surging unemployment, we don’t expect upward wage pressure.

In the modest inflation environment we expect, bond yields are likely to remain at low levels, while equity prices and other risks assets should be supported. Inflation hasn’t vanished forever, and inflation protection does still have a place in many portfolios. Today, that protection is quite inexpensive when compared with the past. Inflation protection can also serve as an effective counterweight in a portfolio with a high level of duration.

Markets predict lower inflation in the coming decade

Source: Bureau of Labor Statistics, Bloomberg Financial L.P., J.P. Morgan Private Bank. Data as of April 30, 2020.

 

The line chart shows how the market is pricing in a significant drop in inflation, making it relatively inexpensive to hedge inflation-vulnerable portfolios against potential future rises in inflation.

Time to review your balance sheet

There are other opportunities to take advantage of today’s low interest rates. Given the current low cost of borrowing, adding capital through modest leverage is a compelling way to meet a range of personal and business objectives – including reducing repayments on an existing loan by refinancing, hedging any liabilities and enhancing potential investment returns.

We believe that managing your liabilities needs to be approached with the same active and dynamic discipline that we employ when managing assets. In the first instance, we recommend reviewing your balance sheet to gain a clear picture of assets, liabilities and cash flows. We can then determine where, and how, leverage can best be integrated into your longer-term financial plans.

A balance sheet review can help to assess progress towards important goals and objectives. It also provides an opportunity to evaluate liquidity needs and identify potential funding sources, such as real estate, investments or other illiquid assets. In this broad context, we can help you determine if you’re exposed to too much risk, such as having wealth concentrated in just one or a few stocks.

Using a modest amount of leverage may be helpful as part of managing this risk exposure. In addition, we’ll explore factors that contribute to your overall liabilities, including interest costs, asset and liability durations, and fixed and floating options. The overriding goal is to help build the appropriate capital structure to suit the specific situation.

Power investment performance

While there may be lasting damage to certain industries from this COVID-19 pandemic, we believe the recovery will be faster than in previous business cycles as ample fiscal and monetary policy is being promptly deployed. We view this as a supply-oriented recession, which in the past have seen faster recoveries than demand-driven recessions. Notably, we think many market participants have become too bearish on the economic outlook and prospects for investment returns.

At times when interest rates are low, the strategic use of credit may be particularly attractive, allowing cost-effective acquisition of assets, for example. However, even in a rising-rate environment, using credit may be advantageous or at times unavoidable, affording you the liquidity to meet obligations, or to be opportunistic when tactical investment windows arise.

Leverage is a powerful but often overlooked strategy to improve investment performance and solve other financial challenges. Determining the right course of action depends on your outlook for markets and tolerance for risk as well as your near- and longer-term financial goals. Our specialist lending teams will evaluate your liquidity needs and then tailor an appropriate financing structure.

If you have any questions or would like to discuss your opportunities to take advantage of today’s low interest rates, please contact your J.P. Morgan team.