By James Burton of Wealth Professional | Nov. 9, 2022
Originally published October 25, 2022 | This article is produced in partnership with Canada Life

What are the leading market expert’s views on the current economic trends? On Oct. 6, our wealth-focused event returned for a third year with renowned economist Mohamed El-Erian as the keynote speaker. He discussed the factors he sees driving global economic uncertainty. Faced with it, investors may make “unrecoverable mistakes,” he warned. El-Erian highlighted three main errant behaviours for advisors to spot in clients through this time. Spotting these could help navigate investors through these choppy waters. 

Read our recap to get El-Erian’s guidance for advisors and for his view on Canada’s position in this volatile period..

Advisors are urged to help clients guard against “unrecoverable mistakes” as they guide them through this period of economic uncertainty. That’s the view of internationally renowned economist Mohamed El-Erian, who spoke at the virtual “Canada Life presents Investments Live!” event on Oct. 6. During his talk, he addressed the major economic trends, including inflation, rising interest rates, central bank policy and market volatility.

El-Erian works with the highest levels of business and government. He’s the president of Queens’ College at the University of Cambridge, chair of Gramercy Funds Management and a best-selling author of numerous finance books. He’s also a respected columnist for Bloomberg and The Financial Times.

During his address, El-Erian highlighted 3 main behaviours to watch out for in investors in this uncertain economic climate. “One [behaviour] is denial and blind spots,” he explained. “We continue thinking we are living in a different world. That was the central bank [saying] ‘transitory, transitory, transitory.’ It was a complete blind spot – they didn't have an open mindset.”

The second behaviour is “reframing,” wherein investors recognize a change but reframe it to something with which they’re more familiar. This may take the form of a “pivot.” For example, interest rates are going up, but the investor believes they’ll pivot and come down soon. El-Erian added, “We tend to do that to regain our comfort zone, but it is hard to reframe secular changes without changing their meaning.”

The final behaviour is “active inertia.” This happens when a client may recognize that they need to act differently but end up repeating the same action. El-Erian opined that these mistakes are the result of human error and how we tend to “react when we come out of our comfort zones.” He added, “That's why I always keep an eye on the [investment] destination, because we need some anchor in this process.”

One of the causes of the “unsettling, unusual uncertainty” in the economy is, of course, inflation. The unnerving story of the first nine months of 2022 was that investors lost money no matter where they put it. Even in cash, purchasing power went down. El-Erian explained that in response, central banks are shifting from a strategy of low interest rates and big injections of liquidity to its exact opposite.

The economist delved deeper into the other main drivers behind this uncertainty during the event’s Q&A. El-Erian said that one driver is that the global economy no longer has a powerful growth model due to deficiencies on the supply side. Another driver is not only the changing financial picture but that central banks – in particular the U.S. Federal Reserve (Fed) and the European Central Bank (ECB) – were late to act. He said, “If you're driving along a highway and you have fog and debris on the road coming up, you should ease your foot off the accelerator. The Fed, and the ECB in particular, did not do that. For all of last year, they had pedal to the metal. In March of this year, when the U.S. printed a 7%-plus inflation rate, the Federal Reserve was still injecting liquidity into the system. So, when you suddenly find yourself without visibility and hitting things, what do you do? You slam on the brakes. So, we are changing financial conditions in a very abrupt manner.” A third driver, he added, are the numerous geopolitical shocks hitting us all at once.

El-Erian also warned advisors not to expect an early return to a world of very low inflation and 0% interest rates. We’ve entered a different paradigm, and advisors must be prepared and communicate effectively with clients. El-Erian advised that “You have to keep [clients] informed, you have to explain why the journey is bumpy, and do not lose sight of the destination.”

While he expects inflation to ease – unless central banks lose their nerve in raising rates – the question is, at what cost? The delay in raising rates by central banks means inflation is likely to involve more growth shortfall than necessary. El-Erian opined that the Fed would be mistaken if they started to pivot too early.

With that in mind, a “financial accident” remains the most likely Black Swan event. This is an unpredictable event that has a major effect and that is often rationalized with the benefit of hindsight. This type of event is exemplified by the UK government’s recent mini-budget misstep, which almost crashed the UK pension system, had the Bank of England not intervened. El-Erian said, “If that were to occur, it's more likely to occur in the non-banks, and it is likely to occur because people got too conditioned to assume that zero interest rates and ample liquidity would last forever.”

Despite the “unsettling, unusual uncertainty” globally, the economist believes Canada is in a relatively good place. Looking at the three major areas (North America, Eurozone and China), El-Erian opined that Europe is most exposed to recession risk, followed by China and then North America. Canada, he added, is a “good house […] in a relatively okay neighbourhood.” Canada’s proximity to the U.S. is a positive given its economic strength and the two countries’ business ties. Canada is also well placed to be on the receiving end of the energy diversification that must happen in Europe because of Russia’s invasion of Ukraine.

“Canada's neighbourhood is challenging, but certainly not as challenging as others,” El-Erian stated. “Inflation, higher borrowing costs, and concerns about recession mean it’s not a perfect house, but in relative terms, you have better initial conditions. It doesn't mean it's easy, but it's easier than if you were in the middle of Europe, or if you were dependent on China right now.”

Advisors navigating these choppy waters can take some comfort from Canada’s position and relative strengths. The focus should be on clients’ long-term financial destination and helping them avoid costly behavioural missteps.