Many observers say that current valuations are mostly justified by extremely low real rates and, in general, by interest rates. It is probably fair to say, that my generation has never seen interest rates as low, and the valuation of shares has only been a few times higher than it is now.

I may easily buy into the theory of low interest rates and high valuations. This is clearly the picture as it is now. However, as an investor, I ought to be more concerned what will be coming the next weeks and months. With a money supply growth of over 24% (US-M2) it is hard to stay bearish on inflation. This money supply surge exceeded any in the one-and-a-half centuries for which there is data according to the FT. In addition, the US is preparing another injection of USD 1.9 tr into the economy.

We have had a peak of inflation in the midst of the 80s, and probably we have seen a low recently. That is a cycle of nearly 40 years, which is in line with past inflation cycles. And the market seems to get nervous on inflation. The recent increase of the 10-Year-US-Tresury Bill yield to 1.42% is in itself nothing spectacular.

What made most investors nervous is that the accepted investment equilibrium of low rates and high valuations is questioned, and that this recent increase in yield might have only been the beginning of a new interest rate cycle. Note that inflation is largely driven by investor expectations…

Clearly this nervousness cannot only be seen in rates. While looking around there are many speculative, frothy actions: a car manufacturer who buys a digital and non-confirmed currency for  USD 1.5bn, a tremendous acceleration of launching special purpose acquisition company (SPACS), which gives the promoter a nearly blank check where and how to invest the money provided by return-hungry investors, an oil price which turns negative, and a tremendous increase in debt (probably last seen during the second world war) of industrial and selected emerging nations.

To be frank, we live in an exceptional environment, and I cannot say that I have special insights when inflation will come back.  However, it is interesting to note that rising inflation will not only jeopardise the balance between low rates and high equity valuations, but also there is some tremendous debt outstanding both for corporates and sovereigns. The difficulty in this crisis is that any overturn of a crisis is accompanied by low rates normally. However, the overturn of this pandemic might be accompanied by high rates, which seemingly is counter-intuitive. And the bad news is that rate movements are normally not smooth and linear, but we should expect surge-and-stop movements, which have less visibility and will be more destructive…

So what next? I believe that we will see a few periods of sell-off in the market before any serious sell-off (not necessarily expected this year), and it is not the new high of the S&P 500 which will make me change my opinion. As usual for any forecast, timing is paramount. We are still early days where the market is contemplating and playing with this new thought of rising rates. Any metric which will confirm this thought will lead to a readjustment of investors´ views. So, volatility should be key in 2021 as there will be a lot of metrics…

When will we have more than 50% of market participants buying into the rate growth story? Maybe in 6 months or in 2 years?